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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_________________
FORM 10-K
(Mark One)
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended March 31, 2004
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number: 000-32967
___________________
HPL TECHNOLOGIES, INC.
(Exact Name of Registrant as Specified in Its Charter)
Delaware 77-0550714
(State of Incorporation) (I.R.S. Employer Identification No.)
2033 Gateway Place, Suite 400,
San Jose, California 95110
(Address of Principal Executive Offices) (Zip Code)
(408) 437-1466
(Registrant's telephone number, including area code)
Securities registered under Section 12(b)of the Act:
None
Securities registered under Section 12(g)of the Act:
Common Stock, $0.001 Par Value
(Title of Class)
___________________
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Indicate by check mark whether the registrant: (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes |X| No |_|
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. |X|
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 under the Securities Exchange Act of 1934). Yes |_| No
|X|
The aggregate market value of the shares of the registrant's common
stock held by non-affiliates of the registrant (all stockholders other than
officers, directors and 5% or greater stockholders) as of September 30, 2003 was
$3,577,044 (based upon an average of the closing bid and asked price of $0.24
per share as of such date, as reported in the "pink sheets" published by Pink
Sheets LLC).
As of June 30, 2004, the registrant had outstanding 31,274,623 shares
of common stock.
TABLE OF CONTENTS
PART I
Item 1 Business 4
Item 2 Properties 15
Item 3 Legal Proceedings 15
Item 4 Submission of Matters to a Vote of Security Holders 17
PART II
Item 5 Market for Registrant's Common Stock and Related Stockholder Matters 18
Item 6 Selected Financial Data 18
Item 7 Management's Discussion and Analysis of Financial Condition and Results of Operations 20
Item 7A Quantitative and Qualitative Disclosures about Market Risk 40
Item 8 Financial Statements and Supplementary Data 42
Item 9 Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 70
Item 9A Controls and Procedures 70
PART III
Item 10 Directors and Executive Officers of the Registrant 71
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Item 11 Executive Compensation 71
Item 12 Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 74
Item 13 Certain Relationships and Related Transactions 76
Item 14 Principal Accountant Fees and Services 76
PART IV
Item 15 Exhibits, Financial Statement Schedules, and Reports on Form 8-K 77
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PART I
GENERAL
FORWARD-LOOKING STATEMENTS
This report contains forward-looking statements that involve
substantial risks and uncertainties. In some cases you can identify these
statements by forward-looking words such as "anticipate," "believe," "could,"
"estimate," "expect," "intend," "may," "should," "will," and "would" or similar
words. You should read statements that contain these words carefully because
they may discuss our future expectations, contain projections of our future
results of operations or of our financial condition or state other
"forward-looking" information. However, there may be events in the future that
we are not able to accurately predict or control. The factors listed in Item 7
under the caption "Risk Factors," as well as any cautionary language in this
report, provide examples of risks, uncertainties and events that may cause our
actual results to differ materially from the expectations we describe in our
forward-looking statements. You should be aware that the occurrence of any of
the events described in these risk factors and elsewhere in this report could
have a material adverse effect on our business, financial condition and results
of operations.
ITEM 1. BUSINESS
OVERVIEW
We are focused on a single objective - to maximize yield potential in
every phase of the semiconductor product lifecycle, from process technology
development, through design, and into manufacturing and test. By combining our
proven, configurable enterprise software platforms and proprietary TestChip
Intellectual Property ("TestChip IP"), we enable manufacturers of semiconductors
and flat panel displays to quickly identify and correct yield-limiting factors
in their design, technology development and manufacturing processes. We provide
one of the industry's most comprehensive yield optimization solutions.
We have principally conducted business as Heuristic Physics
Laboratories, Inc. ("HPLI"), a California corporation, since 1989. HPLI merged
on July 30, 2001 with a wholly-owned subsidiary of HPL Technologies, Inc., a
newly organized Delaware corporation (sometimes referred to in this report as
"HPL", the "Company", "we", "our" or "us"), and each outstanding share of HPLI
common stock was converted into 1.7 shares of HPL common stock. As a result of
the merger, HPLI effectively reincorporated into Delaware and we adopted a
holding company structure. Unless we specify otherwise, all references to the
Company and HPL in this report refer to HPL and its subsidiaries. Our principal
executive offices are located at 2033 Gateway Place, Suite 400, San Jose,
California 95110 and our telephone number is (408) 437-1466.
In July 2002, our Audit Committee initiated an investigation into
financial and accounting irregularities involving revenue reported during prior
periods. Based on the investigation, we discovered that a material amount of
revenue was improperly recognized during 2001 and 2002, primarily in connection
with fictitious sales to an international distributor. Accordingly, we restated
our previously issued financial statements as of and for the years ended March
31, 2002 and 2001. During the investigation, Y. David Lepejian, the Company's
former President and Chief Executive Officer, was removed from all positions
with the Company. In addition, the Vice President of Administration and the
Chief Financial Officer of the Company were replaced. None of these former
officers participated in the preparation or oversight of the restatement of our
financial statements or any other financial information or reports since the
date of their respective departures. Subsequent to his termination, Mr. Lepejian
entered into a consent decree with the SEC and has pleaded guilty to one count
of wire fraud. The Company is a party to numerous lawsuits relating to these
events. See Item 3 -- Legal Proceedings.
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INDUSTRY BACKGROUND
Semiconductor Industry
The semiconductor product development process can be grouped into three
broad stages: 1) process technology development, 2) design and 3) manufacturing.
These stages are described below:
1) Process Technology Development. Semiconductor production
begins with the development of "process technology," during
which a semiconductor fabricator determines device
characteristics and assesses the yield impact on manufacturing
margins. Based on the results of the assessment, physical
"design rules" and electrical "process parameters" are created
to assure that products can be reliably produced in a given
fabrication facility. These design rules and process
parameters guide the product design process in the second
stage of product development, described below.
2) Design. The second stage of semiconductor development is
product design. Design requires complex software to place and
connect individual electrical components (transistors) to
construct the functionality of a product. A leading-edge
design can call for millions of transistors and
interconnections on a square centimeter of silicon. To
manufacture a semiconductor product that functions properly,
it must be designed with exact precision and expressly for a
given semiconductor process technology, described above.
3) Manufacturing. The third step in the semiconductor development
process is manufacturing. Manufacturing requires hundreds of
individual processing steps to form patterned layers of
material on a wafer which create transistors and connect them
to form the desired electronic circuitry or function.
Additionally, the manufacturing process includes packaging and
testing of the individual chips themselves. In the case of new
technology, interactions among the various wafer fabrication
processes and/or the design frequently cause new types of
defects and new sources of failure. Constant and accurate
measurement and inspection are required to find defects and
eliminate defect sources during wafer manufacturing as well as
assembly and test processes. The early detection and
subsequent resolution of yield problems can result in
significant cost savings to the manufacturer.
We believe that two fundamental semiconductor industry trends have
aligned to create a significant opportunity for us. The first trend is the
continuing fragmentation of the semiconductor development chain. The industry
has evolved from classic semiconductor companies (integrated device
manufacturers, or IDMs) that were once self-contained with full technology
development, design, and manufacturing capabilities contained within one company
into an industry of specialized companies with sub-market segments. Over the
past twenty years, this outsourcing trend has given birth to many large and
growing industry niches including assembly and test subcontractors, Electronic
Design Automation ("EDA") companies, pure-play wafer foundries, and intellectual
property ("IP") providers. The success of foundries has enabled fabless
companies engaged in design and sales/marketing, but not manufacturing, to
develop and flourish.
The second trend is the increasing complexity of process technologies
that accompanies each new technology node, or smaller chip features, such as
90nm and 65nm (known as "nodes"). Process variations and defects that were once
a concern for manufacturing only are now having significant impact on design,
and new process modules required for advanced device structures are affecting
designs in unanticipated ways. For example, low capacitance interconnects and
resolution enhancement technologies introduced at the 130nm technology node have
necessitated dramatic changes in how circuit topologies are formed. Redundant
connections ("vias") between metal lines and optical proximity correction
("OPC") techniques have become mandatory for 130nm devices. These effects were
not fully comprehended during the transition to 130nm,
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and as the industry moves to more advanced technology nodes (90nm, 65nm, 45nm),
the interdependency between technology development, semiconductor design and
manufacturing will continue to intensify.
As the semiconductor industry continues to fragment, tighter linkages
between the different stages of the semiconductor development chain are becoming
more critical. Because of these two pervasive and divergent trends, we are in a
unique position to provide product solutions that bridge the technology
development, design, and manufacturing worlds with tools, data, and IP to
optimize yields and accelerate time-to-volume. Point solutions are emerging to
solve problems in this growing solution space, referred to as Design for
Manufacturing ("DFM"). We have a unique combination of products, IP, and
expertise to provide high-value, yield-focused, comprehensive solutions in the
DFM segment.
Importance of Yield
Yield is a measurement of the efficiency of a product development
process. Specifically, yield is the percentage of properly functioning devices
produced at each stage in the manufacturing process. Improvement of yield or
"yield learning" is often challenging and involves the continual identification
and resolution of the root causes of failure in the design and manufacturing
process. New products built with newer, less mature semiconductor manufacturing
processes often start with very low yields because fabrication procedures and
device technologies are not yet fully optimized. During the transition from
early fabrication to volume production, yield improvements can be achieved, but
are often difficult as production equipment and processes are stressed to
maximize throughput. Even as production volumes increase, yield may often fall
as new production equipment is brought on-line and test programs are enhanced to
reduce test escapes.
Yield improvement is a multi-faceted challenge as thousands of factors
in the semiconductor production process may affect yield. These factors
contribute to yield loss based on the sensitivity and margin of the design and
manufacturing. By definition, failures are either random or systematic in
nature. Random failures are typically caused by arbitrary particles introduced
into the fabrication process, causing circuit faults such as a bridge between
two adjacent metal lines. Systematic failures emanate from non-random sources
such as equipment or environmental changes, and design sensitivity or material
property variations. Due to yield learning, each successive generation of
semiconductors becomes somewhat less sensitive to existing failure modes but
remain susceptible to new failure modes. This creates a constant need to capture
and analyze more data to improve yields. The sheer volume of data, and the
amount of complex analysis required, has become an impediment to improving the
yield learning curve. To identify factors that affect yield in a new process,
semiconductor companies must collect and analyze an immense (and growing) amount
of data that is generated throughout the semiconductor product development
lifecycle, often from several worldwide locations and, increasingly, from supply
chain partners. In any semiconductor fabrication facility, there are likely to
be as many as 50 different sets and formats of data produced, each with
thousands of individual parameters that need to be tracked. While this data
provides important clues to yield enhancement, the efficient collection,
correlation and analysis across the various data sets presents a substantial
challenge for the semiconductor industry.
High yield is an essential requirement for a profitable semiconductor
business, especially during the introduction of new products. Selling prices and
profit margins are typically higher in the early stages of a new semiconductor
product lifecycle. Just a small acceleration along the yield learning curve can
create disproportionately greater revenue and profitability. Another benefit of
fast yield ramp-up is the increased revenue that is associated with the measured
speed of microprocessors, application specific integrated circuits ("ASICs") and
telecom devices. High parametric yield enables parts to operate at higher
frequencies and subsequently command higher selling prices. As the product
lifecycles advance, high yield can accelerate cost reductions and maximize
efficiency gains. These factors make it essential that semiconductor companies
monitor and maintain yield on an ongoing basis throughout the entire product
lifecycle. In today's volatile markets where capacity utilization rates
fluctuate, yield improvement remains fundamental to business success.
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Given the immense costs of a semiconductor fabrication facility and the
economics of production efficiency, the rate of yield learning is a critical
component in the profitability of any semiconductor company.
Flat Panel Industry
Continued innovation in the flat panel display ("FPD") industry is
driving the proliferation of liquid crystal display ("LCD") applications in
entertainment and communication devices such as cell phones, digital cameras,
and computer and television monitors, as well as other fields such as
industrial, automotive, and aviation.
The latest estimates by DisplaySearch predict the global FPD market
(including AM-LCD) will grow 140% to $62 billion by the end of 2006. The
projected demand for LCD-TVs, forecasted to be at a 76.5% compound annual growth
rate, is the future growth driver for the FPD market with about 189 million
units expected to be shipped by 2006. Manufacturing cost reductions, faster
ramp, faster return on investment, and high yields are the drivers for yield
management solutions.
The move to new FPD substrate sizes (i.e. generations 6 and 7) is
expected to reduce manufacturing costs. In addition, the improvements in
manufacturing processes are focused on cost reduction with the introduction of
new processes in the thin film transistor ("TFT") array, color filter, liquid
crystal and module process. However, these new changes present significant
manufacturing and yield challenges. FPD yield management solutions empower
engineers to solve yield related problems by aggregating all yield-relevant data
and providing them with sophisticated analysis techniques.
Currently, most FPD yield management tools are internally developed.
The integration of these tools is a significant challenge for FPD manufacturers
and a significant driving force for commercial yield management tools that are
scalable, collaborative, open, reliable and extensible.
HPL PRODUCTS AND TECHNOLOGY
HPL provides an integrated suite of yield enhancement software
solutions that enables customers to optimize yields in all three stages of
semiconductor development: process technology development, design and
manufacturing. Derived from years of experience working with leading
semiconductor manufacturing companies, HPL has embedded much of the industry's
best practices directly into our yield optimization products. HPL's yield
optimization software delivers high-impact business results by reducing the time
to high yield through streamlined data analysis and enhancing collaboration
among process technology development, design and manufacturing.
Odyssey(TM)
Odyssey is a production-proven defect and yield data management solution.
Odyssey and its predecessors are in use at over seventy manufacturing sites
worldwide. Odyssey delivers results efficiently and reliably, leveraging
error-correcting processes to assure users of maximum up-time. It has an open
and equipment vendor-neutral architecture that supports most inspection, review
and classification tools with a full range of charting, wafer mapping, statistic
analysis and lot dispositioning solutions. Odyssey is easy to use and
provides high productivity with its all-in-one graphical user interface ("GUI").
Odyssey simplifies and automates in-line defect analysis, reducing cycle
times and enabling engineers to address other critical yield-limiting issues.
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Odyssey also efficiently correlates different data types to quickly deduce
the root cause of manufacturing problems. Advanced Data Mining algorithms
uncover hidden correlations, and easy-to-use templates automate daily and
repetitive analyses at preset intervals. Odyssey includes several optional
additional powerful analysis modules including:
Metrology, which collects and analyzes data from inline production
equipment. Metrology captures measurements such as resistivity, critical
dimension, wafer flatness, and oxide and etch rate monitors;
Parametric, which analyzes data collected from inline Wafer Electrical
Test and end of line Wafer Acceptance Test automatic test equipment. Standard
support is included for systems such as Agilent and Keithley testers;
BIN, which utilizes final wafer sort (chip probe) data, collected with
Automated Test Equipment from companies such as Teradyne, Advantest, Credence,
LTX and Agilent, and permits users to correlate final yield with all other data
types to help identify causes of yield loss;
BIT, which analyzes failing bit signatures, failing patterns per die
and per wafer, and graphically overlays failure data with defect data; and
WIP, which encompasses process flow, tool and route information
collected by Manufacturing Execution Systems, such as PROMIS(TM),
FACTORYworks(TM), WorkStream(TM) and SiView(TM). A key feature of this module is
that it permits the user to investigate problems found in other data domains and
identify the tool or tool group which may be the source of the problem, thereby
saving significant fab engineering time in diagnosing yield problems.
Workflows
Workflows provide a development environment for rapid implementation of
both interactive applications and/or sophisticated reporting for virtually any
data from a wafer fabrication, packaging, or test step in the manufacturing
process. Applications developed using this environment are estimated to be
generated 3 to 15 times faster than traditional techniques. This allows
customers to react to yield problems and deploy solutions very rapidly. Workflow
can be used with HPL, customer developed and third party systems.
Memory YIELDirector
Memory YIELDirector ("MYD") accelerates yield learning and problem
resolution for DRAM, SRAM and Flash memory arrays on semiconductor devices. MYD
automates analysis of fab and test data for all memory types including embedded
memory. Using powerful analysis algorithms, MYD automatically descrambles and
classifies failing bitmaps into unique signatures, and correlates them with
in-line defect inspection data to determine defect "kill" ratios. MYD also helps
correlate bitmap failures with fatal defects (defects that cause failures in the
device) to isolate the root causes of failure mechanisms in memories.
YieldProjectorTM
YieldProjector enables design engineers to improve the projected yield
of a design before it ever reaches the manufacturing process. YieldProjector
simulates the yield impact of a wide-range of random defects on a design's
layout, based on statistical information from similar manufacturing process. It
calculates the probable number of fatal defects on each layer of the design
along with the projected yield of that layer. YieldProjector graphically
highlights yield-limiters in the design layout so design engineers can compare
various layout options and critical feature usage to improve a design's immunity
to random manufacturing defects. This significantly increases yield and speeds
time to volume production.
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Recipe Management and Editing ("RME")
RME is a universal enterprise solution that facilitates the management
and control of process recipes from a central repository. Process recipes are
used to control the program process and metrology tools at every step in a
semiconductor manufacturing process. RME dramatically reduces product scrap,
improves yield and increases productivity of semiconductor fabs. A patented
off-line editing module allows engineers to edit process recipes at their desk
or anywhere on the corporate intranet without sacrificing security or increasing
tool downtime.
Odyssey-FPD
Odyssey-FPD is a yield optimization solution built specifically for the
unique challenges of flat panel display manufacturers. Odyssey-FPD leverages our
highly scalable Odyssey platform. This enables FPD customers to integrate
relevant manufacturing data, including defect, parametric and test, into a
seamless and powerful yield optimization environment.
Odyssey-FPD is the industry's first yield management platform,
providing the information control backbone of fab-wide data. It is the first to
gather, integrate and leverage all yield, process and test-floor related data
into an automated, customizable and easy to use data collection, analysis and
reporting system. The benefits to customers are numerous, but relate primarily
to accelerated yield learning rates and reduced time to corrective action for
yield and process excursions. With its "analysis recorder" automated
functionality and an enterprise development toolkit, production lots are
dispositioned more quickly, increasing productivity; excursions are identified
in real time, and engineering resources are freed from repetitive tasks,
enabling them to concentrate on corrective actions.
TestChip Technologies Products and Services
Our TestChip products address the needs of semiconductor companies in
many aspects of process technology development, design and manufacturing.
Developing process technology is a lengthy process that frequently takes 18-24
months, and requires a number of expert resources to design and validate each
process step followed by process qualification. The complexity of smaller chip
features, such as 90 nm and 65 nm (known as "nodes"), requires a large number of
devices and circuits that measure not only each process step, but also the
integrated process behavior and performance. This increasing complexity, coupled
with smaller chip sizes, is causing semiconductor producers to adopt yield
solutions such as those offered by our TestChip products.
HPL's TestChip products provide capabilities to accelerate semiconductor
process technology development to the 65nm node and beyond. Additionally, for
advanced technology nodes, these products provide new and innovative methods for
semiconductor manufacturing process characterization and monitoring. We have
deployed advanced semiconductor process technologies using our TestChip
solutions at leading IDMs. Semiconductor manufacturers have used TestChip
solutions for more than 8 years, at 7 technology nodes and across multiple
process technologies, such as CMOS, BiCMOS, Radio Frequency ("RF"), Analog and
others. HPL has successfully completed TestChip projects for technology nodes
from 350nm to 45nm.
The TestChip product line consists of a library of proprietary IP,
supplemented by software products, and services, each of which are described
more fully below. HPL will also customize the TestChip Technology IP and
services to better enable project success.
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TestChip Technology Development IP
Our proprietary TestChip IP contains over 1,500 elements to address the
full breadth of advanced CMOS technology development concerns, including 193nm
lithography, copper and low-k interconnect integration, and advanced transistor
development. Our TestChip IP also contains elements for improving yield in test
structures, non-volatile memory, Silicon-on-Insulator ("SOI"), high-power
devices, Silicon-Germanium, and RF devices. From this IP, we can produce GDSII,
HTML documentation and test programs, all generated from a common database
resulting in consistent and high quality results.
TestChip TechXpress Array Product Family
Our TestChip TechXpress array products alleviate many issues involved
in sub-130nm technology development and monitoring. Traditional methods allow a
limited number of devices and circuits to be used for identifying and resolving
process and yield issues. Our TechXpress array products dramatically increase
the number of devices and circuits that can be used, thereby resulting in more
effective identification, diagnosis and resolution of process and yield issues.
The TechXpress Array Family comprises three powerful products:
TDSRAMTM, TDROMTM and TDAnalogTM.
TDSRAM: The TDSRAM can be used for bitcell development and process
qualification. The TDSRAM bit is designed to measure key process parameters and
is intentionally more sensitive to variations and yield issues than a
conventional SRAM design. The TDSRAM can also be used to measure defect
densities during volume manufacturing.
TDROM: The TDROM measures process excursion and design rule skews,
making it ideally suited for process characterization and monitoring. The higher
number of circuits built within a specific TDROM provide a more dramatic
increase in spatial resolution than is possible with traditional test
structures.
TDAnalog: The TDAnalog is unique in its ability to measure the
intrinsic electrical properties of the process. It produces a parametric
response that provides a finer resolution of the measurement. TDAnalog can be
used, among other things, for via resistance measurements and FET matching
effects measurements.
Some of the specific use cases for the array family products are
bitcell development, process qualification, systematic yield loss diagnosis,
process characterization and process monitoring. Customers use results derived
from the arrays to correlate yield and analyze failures electrically and
physically.
TestChip Design & Verification Platform
The TestChip Design & Verification Platform is used to accelerate the
specification, design, test and debugging of test structures and large
technology development testchips. The platform consists of a web-based
application for specifications capture, revision control and project management,
a layout compiler, an HTML documentation and test program generator, and a
secure layout viewer integrated with the compiler and documentation.
SALES AND MARKETING
We rely on our direct sales force, distributors and sales agents to
market our products to the semiconductor and flat panel display manufacturing
markets. Our direct sales efforts have focused primarily on licensing our
software products and TestChip technologies to IDMs, foundries, fabless
semiconductor design companies and flat panel display manufacturers. Our direct
sales force operates out of our headquarters in San Jose, California and our
facilities in Boston, Massachusetts; Austin, Texas; Plano, Texas; Yokohama,
Japan; Hsin Chu, Taiwan; and Aix-en-Provence, France.
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Our sales and marketing personnel also focus on developing our
relationships with industry partners, which include semiconductor original
equipment manufacturers ("OEMs") who bundle our products in their hardware.
These joint-marketing relationships provide us with access to the customer bases
of these OEMs. We intend to continue to expand our industry relationships in the
future.
RESEARCH AND DEVELOPMENT
The market for DFM and yield optimization is characterized by rapid
technological development and product innovation. We believe that timely
development of new products and enhancements to existing products are necessary
to maintain our competitive position. Accordingly, we devote a significant
portion of our human and financial resources to research and development
programs and seek to maintain close relationships with customers to remain
responsive to their needs.
The complexity of DFM and yield optimization requires domain expertise
in physical integrated circuit ("IC") design and fabrication as well as software
development. Today, we employ a staff of software development engineers focused
on the development of yield-optimization software products. Our team also
encompasses a core group of engineers and technicians with extensive education,
experience and expertise in the semiconductor domain. Virtually every discipline
associated with the lifecycle of an IC is represented at our company, including
device physics, product design, product engineering, yield engineering, failure
analysis engineering, fab management, process engineering and testing.
COMPETITION
The worldwide market for productivity-enhancement tools and systems for
semiconductor companies is highly competitive and characterized by rapidly
changing technologies. We face direct competition from semiconductor companies
that have developed or have the ability to develop their own proprietary
yield-optimization tools and systems, as well as third-party providers of
yield-management software and services.
We have found that the tools and systems against which our products and
services most often compete are those that semiconductor companies have created
in-house as part of a specific fabrication process or through a dedicated
development group. We must overcome a tendency that some producers may have to
resist outside solutions.
The third-party providers that compete in the market for
yield-optimization tools are, generally, divisions of larger semiconductor
equipment OEMs, such as KLA-Tencor, or smaller private companies, such as Yield
Dynamics. Additionally, PDF Solutions provides service-based solutions where HPL
products can also be used. The success of our business or other businesses like
ours might prompt increased competition. As a result, we must continue to
improve existing products, develop new products and protect our innovations
through intellectual property laws in order to continue to differentiate our
product offerings.
Significant factors in our target market's choice of
productivity-enhancement software include its performance, ease of use,
reliability, price, compatibility with existing systems, installed base and
technical service and support. While price is an important competitive factor,
we believe that customers will choose the most effective productivity software,
even if it is more expensive, because of the added profitability from better
production yield.
INTELLECTUAL PROPERTY
Our future success and competitive position depends heavily upon our
continued ability to develop new proprietary technology while protecting our
existing intellectual property. To protect our products and their underlying
technology, and to prevent competitors from using our technology in their
products, we use a combination of patents, trade secrets and copyrights.
-11-
As of March 31, 2004, we held eight U.S. patents and one Taiwan patent,
expiring at different times between 2013 and 2024, and had thirteen U.S. patent
applications and sixteen foreign patent applications pending. We expect that, if
granted, the duration of these patents will be 20 years from the date of filing
the application. We continue to vigilantly pursue U.S. and foreign patent
filings. We have additional patent applications that we are developing
internally and may file in the future.
There is no assurance that any of our current or future patent
applications will result in patents, and our existing or future patents may be
circumvented, declared invalid or challenged as to scope or ownership. For these
and other reasons, we may not realize any competitive advantage from our
existing patents and any patents that we may be granted in the future.
Furthermore, others may develop technologies that are similar or superior to our
proprietary technologies or design around any patents that we may hold. To the
extent that others are able to obtain patents that overlap with our technologies
or processes, we may be required to license these patents. If we are unable to
license these patents or obtain licenses on acceptable terms, we may need to
alter our products or discontinue selling them altogether. In addition, we have
not secured patent protection in foreign countries and we cannot be certain that
the steps we take to prevent misappropriation of our intellectual property
abroad will be effective, or that the application of foreign laws to technology
developed abroad will not adversely affect the validity or enforceability of our
U.S. patents.
Much of our intellectual property has not been patented or is not
patentable. Accordingly, we have historically protected our non-patented
intellectual property as a trade secret. Trade secret protection is in many ways
inferior to patent protection. Others may reverse-engineer our non-patented
technologies and lawfully use any underlying technology that is discovered in
this process. We typically enter into confidentiality agreements with
prospective customers, distributors and business partners prior to disclosing
material proprietary information. These agreements prohibit unauthorized use and
disclosure of our trade secrets and other proprietary information. We currently
require all of our employees to enter into similar agreements. While we believe
that these agreements provide a measure of protection of our intellectual
property, they may be declared invalid or unenforceable, or we may not have the
resources to seek enforcement in the event of a breach. Additionally, courts
only protect trade secrets from misappropriation to the extent that we have
taken reasonable steps to protect the confidentiality of these trade secrets. It
is possible that a court would find our trade-secret protection practices
inadequate and therefore declare portions of our trade secrets unprotected from
misappropriation.
Much of our source code is written by programmers and engineers in the
Republic of Armenia. We generally rely on U.S. and Armenian copyright law and
international treaties for protection of our software source code, software
object code, training materials and user manuals created by our employees. While
U.S. copyright law protects the expression of an idea, it does not protect the
idea itself from being copied. As a result, others may be able to glean valuable
concepts and methods from our copyrighted material and lawfully use these ideas
and methods in a competing product or venture by simply changing the manner of
expression. In an effort to protect our software from misappropriation, we do
not typically divulge our source code to customers or vendors, although we have
placed our source code in escrow in connection with certain transactions.
EMPLOYEES
As of March 31, 2004, we employed approximately 220 employees worldwide
with 73 in the United States, 126 in Armenia and 21 in four other locations
around the world. None of our employees are represented by a labor union or are
subject to a collective bargaining agreement. We believe that our relationship
with our employees is good.
-12-
DIRECTORS AND OFFICERS
The following table sets forth the directors and officers of the
Company, their ages and positions as of May 31, 2004:
Name Age Position
- ------------------------------------------------ ---------- ----------------------------------------------------------------------
Cary D. Vandenberg 48 President and Chief Executive Officer
Michael P. Scarpelli 37 Chief Financial Officer, Senior Vice President of Administration and
Secretary
Elias Antoun 47 Director, Chairman of the Board
Lawrence Kraus 41 Director
Dr. Yervant Zorian 48 Director
William Lamkin III 60 Senior Vice President Sales & Global Customer Support
Dr. Victor Boksha 43 Vice President of Business Development
Dean Frazier 44 Vice President of Marketing
Brian Gordon 46 Vice President of Software Engineering
CARY D. VANDENBERG. Mr. Vandenberg joined the Company in May 2003 as
President and Chief Executive Officer. Prior to joining HPL, Mr. Vandenberg was
Vice President of Strategic Business Development at Communicant Semiconductor
Technologies AG, a European based semiconductor foundry. He worked at
Communicant from July 2001 to May 2003 and during this period he was responsible
for the design kit and modeling group, corporate partnerships, and the
e-business strategy. Mr. Vandenberg has over 20 years of management experience
in software and semiconductor companies including positions at Sequencia, Inc.
(President & CEO), JENOPTIK INFAB Intrack, Inc. (President), and PROMIS Systems
Corporation Ltd. (Vice President). Mr. Vandenberg holds a Bachelor of Science
degree in commerce from Santa Clara University.
MICHAEL P. SCARPELLI. Mr. Scarpelli has been our Chief Financial
Officer, Treasurer, Senior Vice President of Administration and Secretary since
July 2002. In these roles, he is principally responsible for the Company's
worldwide finance function including accounting, financial systems and
facilities. Mr. Scarpelli joined the Company in January 2002 as Vice President
of Corporate Development, responsible for the oversight of the Company's mergers
and acquisitions function. Prior to joining HPL, Mr. Scarpelli was an auditor
with PricewaterhouseCoopers LLP since 1989 and an audit partner since 1998. Mr.
Scarpelli received his Bachelor of Arts degree in economics from the University
of Western Ontario and is a Certified Public Accountant and a Chartered
Accountant.
ELIAS ANTOUN. Mr. Antoun joined our Board of Directors in August 2000
and serves as a member of our audit and compensation committees. Mr. Antoun is
President and Chief Executive Officer of Pixum, Inc. of Mountain View,
California, a semiconductor solutions provider for video imaging. Prior to this,
he was President and Chief Executive Officer of MediaQ, Incorporated, a provider
of semiconductor solutions which was acquired by NVIDIA Corporation (Nasdaq:
NVDA) in August 2003. From March 1998 to January 2000, Mr. Antoun served as
Executive Vice President, Consumer Products Division at LSI Logic. Mr. Antoun
served as President of LSI Logic K.K., a Japanese subsidiary of LSI Logic, from
January 1996 to March 1998. Mr. Antoun has served as the Chairman of the Board
since July 2002. Mr. Antoun's term expires at the next election of directors.
LAWRENCE KRAUS. Mr. Kraus is a co-founder of the Company and has served
as a member of the board of directors of the Company's principal operating
subsidiary, HPLI, since its formation in 1989. From February 2001 to September
2002, Mr. Kraus served as HPLI's Vice President of Strategic Marketing. Mr.
Kraus previously served as HPLI's Director of Hardware Development from May 1989
to January 1995 and as the Vice President and General Manager of HPLI's hardware
divisions until their sale to Credence Systems Corporation in June 1998. With
the sale of the hardware divisions to Credence, Mr. Kraus joined Credence as a
Director of Operations and served in that capacity until February 2001.
-13-
Mr. Kraus is currently a manager of hardware development at Advantest
America, Inc. Mr. Kraus was elected to our board of directors in August 2000 and
his term expires at the next election of directors.
DR. YERVANT ZORIAN. Dr. Zorian has served as Vice President and Chief
Scientist at Virage Logic Corporation since June 2000. He previously was the
Chief Technology Advisor at LogicVision and a Distinguished Member of the
Technical Staff at Bell Laboratories, Lucent Technologies. Dr. Zorian has
chaired several Institute of Electrical and Electronic Engineering ("IEEE")
symposiums and workshops. He currently serves as the editor and chief emeritus
of IEEE Design & Test of Computers and is the Vice President of IEEE Computer
Society. He has authored four books, received several best paper awards and
holds twelve U.S. patents in the area of test technology. Dr. Zorian is an
honorary doctor of the National Academy of Science, Armenia, and is a Fellow of
IEEE. Mr. Zorian was elected to our board of directors in August 2000 and his
term expires at the next election of directors.
WILLIAM LAMKIN III. Mr. Lamkin joined HPL in September 2003 as the
Senior Vice President of Global Sales and Global Customer Support and has
overall responsibility for global sales and customer support activities. He has
over 15 years experience marketing software products and services specifically
to the semiconductor and flat panel industries. He spent over 10 years with
PROMIS Systems Corp., most recently managing the Asia Pacific Region while
residing in Singapore. PRI Automation, a supplier of material transport systems
and software to semiconductor manufacturers, acquired Promis Systems Corp. and
Mr. Lamkin was promoted to Vice President of Global Software Sales. He has held
the position of Vice President of Marketing and Sales at both Camstar Systems
and Realtime Performance, both suppliers of software and services to the
semiconductor industry. Previously he performed various local and national sales
management duties at software divisions of Xerox and General Electric. He holds
a Bachelors of Arts degree in political science from the University of South
Florida.
DR. VICTOR BOKSHA. Dr. Boksha joined HPL in November 2003 as the Vice
President of Business Development and is currently focused on building new
products and industry relationships in the emerging Design for Manufacturing
(DFM) market. Dr. Boksha is a semiconductor industry veteran, with an extensive
background in lithography, RET and TCAD. He brings to HPL almost 25 years of
technology and business experience in high-volume mask and wafer manufacturing,
simulation, equipment design, advanced lithography development, yield
improvement and venture investments. Recently, he worked with Cadence Design
Systems on a new DFM business opportunity and also advised a leading silicon IP
provider on technology strategy. Previously he worked for OPC Technologies,
which was acquired by Mentor Graphics, and brought RET capabilities to the
Calibre product line. Prior to OPC, he worked for Technology Modeling Associates
(TMA), which is currently part of Synopsys. He holds an M.Sc. degree in
Management from MIT Sloan School and a Ph.D degree in laser microlithography
from Belarus Academy of Science.
DEAN FRAZIER. Mr. Frazier joined HPL in March 2004 as the Vice
President of Marketing. Mr. Frazier is responsible for worldwide marketing
activities at HPL. He has over twenty years of semiconductor industry experience
in IC design, semiconductor process development and EDA software. Most recently,
Mr. Frazier was a founder of EMASYS Corporation, a developer of business
intelligence software for IC companies. He has also served as VP of Engineering
& Operations for Chameleon Systems, a venture-funded fabless IC company; as
Director of Design Technology for Chips & Technologies which was acquired by
Intel; and has held various marketing and engineering roles at Seattle Silicon
and Motorola. Mr. Frazier holds a Bachelor of Science degree in Chemical
Engineering from Stanford University.
BRIAN GORDON. Mr. Gordon joined HPL in September 2003 as the Vice
President of Software Development and is responsible for the development of all
software products at HPL. He has more than 20 years experience in the design,
development and implementation of mission-critical enterprise software for
manufacturing. From 1984 to 2003 Mr. Gordon was Chief Technology Officer at
Camstar Systems, a leading provider of enterprise manufacturing performance
management systems for semiconductor, electronics, life sciences, and other
global industrial manufacturers.
-14-
In this role he was the Chief Architect responsible for the design,
development, delivery and support of all software products. Prior to Camstar, he
was the founder of a successful consulting practice, developing manufacturing
and accounting software for midrange customers. His work has been patented, and
he has also published many technical articles.
ITEM 2. PROPERTIES
The following table sets forth the Company's principal properties as of
May 31, 2004. We believe that our existing facilities are adequate for our
current needs.
Square Expiration of
Location Footage Lease Term Uses
- ------------------------------ ---------------------------- ----------------------------- --------------------------------------
Austin, Texas 25,140 February 2006 Offices
Bedford, Massachusetts 12,050 October 2005 Offices; research and development
Chennai, India 2,097 March 2007 Offices
HsinChu, Taiwan 1,636 May 2006 Offices
Yokohama, Japan 2,444 April 2006 Offices
San Jose, California 12,500 December 2005 Executive offices
Plano, Texas 18,302 March 2006 Offices
Yerevan, Armenia 18,772 December 2004 Offices; research and development
ITEM 3. LEGAL PROCEEDINGS
Between July 31, 2002 and November 15, 2002, several class-action
lawsuits were filed against the Company, certain current and former officers and
directors of the Company, and the Company's independent auditors in the United
States District Court for the Northern District of California. The lawsuits were
consolidated into a single action (the "Securities Action"), which alleges that
the defendants violated Sections 10(b) and 20(a) of the Securities Exchange Act
of 1934, Rule 10b-5 promulgated thereunder, and Sections 11, 12(a)(2) and 15 of
the Securities Act of 1933 by making a series of material misrepresentations as
to the financial condition of the Company during the class period of July 31,
2001 to July 19, 2002. The plaintiffs are generally seeking to recover
compensatory damages, costs and expenses incurred, interest and such other
relief as the court may deem appropriate. The parties have stipulated to extend
the time to respond to the consolidated complaint until August 16, 2004.
We have signed a memorandum of understanding (the "MOU") with the lead
plaintiffs that resolves the Securities Action. Under the MOU, we
would issue common stock to the class. Final settlement is contingent on several
conditions, including execution of a formal settlement agreement and court
approval.
Five shareholders of the Company have brought suit in the District
Court of Dallas County, Texas, against the Company's independent auditors and
the managing underwriter in the Company's initial public offering, in connection
with claims relating to the Company's acquisition of Covalar Technologies Group,
Inc. in February 2002 (the "Covalar Action"). On April 26, 2004, the Company and
the Company's former President and Chief Executive Officer were named as
defendants in this action. Our response to the amended petition is currently due
August 2, 2004. Subject to a reservation of rights, we have accepted the
underwriter's request to indemnify the underwriter in connection with the
Company's initial public offering and to advance expenses in this matter. While
we had obtained insurance to cover its obligation to indemnify and advance
expenses to the underwriter, the insurer has raised certain defenses to
coverage. Even if coverage is afforded, however, coverage for these
-15-
indemnification obligations is subject to a sub-limit of $1,000,000 and may
be exhausted by payments of defense costs and settlements in the Securities
Action. On June 3, 2004, an associate judge granted the auditors' and
underwriter's motions for summary judgment. The plaintiffs have appealed this
ruling and a hearing is currently scheduled for August 20, 2004. On June 9,
2004, the Company's independent auditors filed a responsible third party
petition against the Company and Company's former President and CEO. The third
party petition does not seek affirmative relief but instead was filed for
purposes of apportioning fault in jury findings. We have accepted service of the
third party petition, and our response to the third party petition has been
extended until thirty days after the hearing on plaintiffs' notice of appeal of
the associate judge's decision on the summary judgment motions.
On July 13, 2004 we signed a settlement and release agreement with the
plaintiffs in the Covalar Action pursuant to which we have agreed to issue the
plaintiffs additional shares of common stock, which will be placed in escrow
pending final approval of the settlement in the Securities Action.
Based on the terms of the above settlements, we determined that a liability
related to the Securities Action and the Covalar Action was probable and that
the value was reasonably estimable. Accordingly, we have recorded a non-cash
long term liability of approximately $7.9 million in our consolidated financial
statements as of March 31, 2004, representing management's estimate of the value
of the 7 million shares of common stock that we have agreed to issue under the
MOU and the Covalar Action settlement. This liability was calculated by
utilizing a valuation based on both the income and market approaches as of March
31, 2004, consistent with the Company's assessment of goodwill impairment. This
liability will be revalued quarterly until the actual effective date of the
settlements.
We are also a nominal defendant in consolidated stockholder derivative
lawsuits pending in Superior Court in the County of Santa Clara, California.
These lawsuits, which were filed between July 31, 2002 and December 31, 2002,
assert derivative claims on behalf of the Company against certain current and
former officers and directors of the Company and the Company's independent
auditors. The consolidated complaint asserts claims for insider trading, breach
of fiduciary duties, breach of contract, professional negligence and unjust
enrichment, and seeks damages suffered by the Company, treble damages for the
sale of shares, costs and expenses of these actions and such other relief as the
court may deem appropriate. The parties have stipulated to extend the time to
respond to the consolidated derivative complaint until July 16, 2004, and are
continuing to negotiate a potential resolution of this action.
On May 22, 2003, five former shareholders of FabCentric, Inc., which
was acquired by the Company in December 2001, sued the Company, the Company's
former President and Chief Executive Officer and former Chief Financial Officer,
and the Company's independent auditors in a lawsuit pending in Superior Court in
the County of Santa Clara, California. This lawsuit alleges claims for fraud,
negligent misrepresentation, breach of warranties and covenants, breach of
contract, and negligence, and seeks rescission or, alternatively, damages, costs
and expenses. On October 31, 2003, the plaintiffs filed an amended Complaint
adding the managing underwriter in the Company's initial public offering and the
Company's current Chief Financial Officer as defendants. The underwriter and
auditors have filed demurrers, which are scheduled to be heard on September 28,
2004. The parties have stipulated to extend the time for the other defendants to
respond to the amended complaint until September 7, 2004. The plaintiffs served
inspection demands on the defendants on June 25, 2004.
Additionally, in April 2003, UBS PaineWebber, Inc. filed suit against
the Company in the Supreme Court of the State of New York, County of New York
(the "New York Action") alleging tortious interference of contract and a
violation of the Uniform Commercial Code. This action relates to the transfer of
shares of HPL common stock putatively pledged to UBS PaineWebber, Inc. by Y.
David Lepejian, the Company's former President and Chief Executive Officer, and
his spouse and sought, among other things, mandatory injunctive relief requiring
HPL to affect the transfer of the subject stock. We moved to dismiss the New
York Action. In May 2003, we filed an interpleader action in United States
District Court for the Northern District of California relating to the stock in
-16-
question in the New York Action (the "California Action"). Mr. Lepejian and UBS
PaineWebber have been engaged in an NASD arbitration proceeding regarding the
pledge of the shares. The interpleader action and the New York action were
voluntarily dismissed without prejudice by the Company and UBS PaineWebber,
respectively. On or about October 1, 2003, UBS PaineWebber filed suit in
Delaware Chancery Court which essentially re-stated the claims originally
asserted in the New York action (the "Delaware Action"). On June 22, 2004, we
and UBS PaineWebber signed a settlement agreement and mutual release whereby the
parties dismissed the New York Action, the California Action and the Delaware
Action with prejudice at no cost to the Company.
Additionally, Twin City Fire Insurance Company (the Company's
first-layer "D&O" insurance carrier) filed a declaratory relief action on
October 6, 2003, in Superior Court in the County of Santa Clara, California,
against the Company, the Company's former President and Chief Executive Officer,
the Company's former Chief Financial Officer, and other former and current
officers and directors of the Company seeking a determination that no coverage
is afforded the defendants under Twin City's policy, which follows form to the
Company's primary D&O policy issued by Executive Risk Indemnity Inc. Executive
Risk has already agreed to pay its policy limits for the Securities Actions,
exhausting the limits of the Company's primary D&O policy. We filed an amended
cross-complaint on June 14, 2004 in the Twin City action, seeking a declaration
that Twin City and the Company's other excess D&O insurance carriers, National
Union and St. Paul, are obligated to indemnify the Company for losses in
connection with the Securities Actions and that Twin City has breached its
insurance contract by not paying the defendants' defense expenses on a current
basis. On June 21, 2004, the Superior Court granted Twin City's unopposed motion
to file a Third Amended Complaint alleging two additional declaratory-relief
causes of actions based on two policy exclusions. We intend to oppose the claims
made in the Third Amended Complaint.
Except as noted above, all of the aforementioned matters are in the
early stages other than the settled actions as discussed above. As a
result, we believe that no additional amount above the $7.9 million discussed
above should be accrued for these matters under Statement of Financial
Accounting Standard ("SFAS") No. 5, "Accounting for Contingencies," because we
are currently unable to evaluate the likelihood of an unfavorable outcome or
estimate the amount or range of potential loss, if any, of the unsettled
actions.
Any adverse resolution of the aforementioned litigation could have a
material effect on our financial condition, results of operations or cash flows.
We are investigating a number of alternatives, including informal and formal
restructuring, which potentially may dilute shareholder equity but could
mitigate any material adverse effect on our financial condition or results of
operations that might otherwise result from an unfavorable resolution of these
lawsuits.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
-17-
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
On September 30, 2002, our common stock was delisted from the Nasdaq
National Market. Since that time, no established public trading market has
existed for our common stock and shares of our common stock are neither listed
on any national securities exchange nor presently traded on any public stock
exchange or in any other public market. Although quotations for shares of our
common stock may be obtained through the over-the-counter "pink sheets"
maintained by Pink Sheets LLC (a centralized quotation service that collects and
publishes market maker quotes for over-the-counter securities), because
secondary market activity for shares of our common stock has been limited and
sporadic, such quotations may not accurately reflect the price or prices at
which purchasers or sellers would currently be willing to purchase or sell
shares of our common stock. The following table shows the range of high and low
closing bid prices for our common stock for the periods indicated, as reported
on the Nasdaq National Market under the symbol "HPLA" for the period July 30,
2001, the date of our initial public offering, to September 30, 2002, and in the
Pink Sheets under the symbol "HPLA.PK" for the period October 1, 2002 through
March 31, 2004. The quotations on the Pink Sheets reflect inter-dealer prices,
without retail mark-up, mark-down or commission and may not necessarily
represent actual transactions.
Fiscal 2003 High Low
- ---------------------------------------------------------------------------- -------------- --------------
First Quarter $ 16.26 $ 9.59
Second Quarter $ 15.80 $ 13.10
Third Quarter $ 0.11 $ 0.02
Fourth Quarter $ 0.20 $ 0.02
Fiscal 2004 High Low
- ---------------------------------------------------------------------------- -------------- --------------
First Quarter $ 0.25 $ 0.11
Second Quarter $ 0.26 $ 0.12
Third Quarter $ 0.30 $ 0.18
Fourth Quarter $ 0.36 $ 0.20
As of June 30, 2004, there were approximately 138 holders of record of
our common stock and 31,274,623 shares of common stock outstanding. No dividends
have been paid on our common stock since inception, and we do not anticipate
paying any dividends in the foreseeable future.
RECENT SALES OF UNREGISTERED SECURITIES
On June 30, 2003 we issued 396,826 shares of common stock, with an
aggregate value of $50,000 pursuant to an earn-out provision in our purchase
agreement with Defect & Yield Management, Inc. This offering was exempt from
registration under Rule 506, promulgated under the Act.
-18-
ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated financial data set forth below should be read
in conjunction with "Management's Discussion and Analysis of Financial Condition
and Results of Operations," and the consolidated financial statements of HPL and
the notes to the consolidated financial statements included elsewhere in this
annual report on Form 10-K. The consolidated statement of operations data for
the years ending March 31, 2004, 2003 and 2002 and the consolidated balance
sheet data at March 31, 2004 and 2003 are derived from the audited financial
statements included in this annual report on Form 10-K. The consolidated
statement of operations data for the years ending March 31, 2001 and 2000 and
the consolidated balance sheet data at March 31, 2002, 2001 and 2000 are derived
from audited financial statements for the periods not included in this annual
report on Form 10-K. Our historical results are not necessarily indicative of
results to be expected in future periods.
Statement of Operations Data:
Years Ended March 31,
2004 2003 2002 2001 2000
------------- -------------- ------------- ------------- --------------
(in thousands, except per share data)
Revenues:
Software licenses $ 4,799 $ 5,281 $ 1,614 $ 3,159 $ 3,039
Consulting services, maintenance and other 7,902 10,311 2,899 1,156 665
------------- -------------- ------------- ------------- --------------
Total revenues 12,701 15,592 4,513 4,315 3,704
------------- -------------- ------------- ------------- --------------
Cost of revenues:
Software licenses 507 656 587 133 9
Consulting services, maintenance and other (1) 3,131 3,808 507 243 259
------------- -------------- ------------- ------------- --------------
Total cost of revenues 3,638 4,464 1,094 376 268
------------- -------------- ------------- ------------- --------------
Gross profit 9,063 11,128 3,419 3,939 3,436
------------- -------------- ------------- ------------- --------------
Operating expenses:
Research and development (1) 6,384 10,515 6,118 3,349 2,851
Sales, general and administrative (1) 13,604 19,788 9,285 4,329 3,155
Legal settlement expense 7,900 - - - -
Goodwill impairment - 30,570 - - -
Stock-based compensation 315 1,047 3,547 2,369 580
Amortization of intangible assets 1,327 1,494 294 137 148
------------- -------------- ------------- ------------- --------------
Total operating expenses 29,530 63,414 19,244 10,184 6,734
------------- -------------- ------------- ------------- --------------
Loss from operations (20,467) (52,286) (15,825) (6,245) (3,298)
Interest income (expense) and other, net 213 468 908 (190) (248)
------------- -------------- ------------- ------------- --------------
Loss before income taxes (20,254) (51,818) (14,917) (6,435) (3,546)
Provision for income taxes 89 - - - -
------------- -------------- ------------- ------------- --------------
Net loss $ (20,343) $ (51,818) $ (14,917) $ (6,435) $ (3,546)
============= ============== ============= ============= ==============
Net loss per share-basic and diluted $ (0.65) $ (1.69) $ (0.62) $ (0.37) $ (0.21)
Shares used in per share computations:
Basic and diluted 31,145 30,645 24,038 17,496 17,068
_______________________________________________________________
(1) Excludes the following stock-based
compensation charges:
Cost of revenues $ - $ 18 $ 39 $ 60 $ 2
Research and development 113 414 692 296 96
Sales, general administrative 202 615 2,816 2,013 482
------------- -------------- ------------- ------------- --------------
$ 315 $ 1,047 $ 3,547 $ 2,369 $ 580
============= ============== ============= ============= ==============
-19-
Consolidated Balance Sheet Data:
March 31,
2004 2003 2002 2001 2000
------------- -------------- ------------- ------------- --------------
(in thousands)
Cash, cash equivalents and short-term investments $ 10,210 $ 21,741 $ 47,109 $ 989 $ 178
Working capital (deficit) 3,393 13,525 35,062 (7,169) (2,090)
Total assets 44,865 60,385 101,308 5,455 5,031
Long-term debt, less current portion 39 130 280 295 1,857
Total stockholders' equity (deficit) $ 26,042 $ 46,032 $ 82,316 $ (6,748) $ (2,727)
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with Item 1:
Business; Item 6: Selected Financial Data; and Item 8: Financial Statements and
Supplementary Data. This discussion and analysis contains forward-looking
statements that involve risks, uncertainties and assumptions. Our actual results
may differ materially from those anticipated in these forward-looking statements
as a result of certain factors, including, but not limited to, those set forth
under "Risk Factors" and elsewhere in this report. HPL undertakes no obligation
to update any forward-looking statement to reflect events after the date of this
report.
OVERVIEW
We provide comprehensive yield-optimization solutions to the
semiconductor industry and flat-panel display manufacturers. We license our
software products and sell related services through our direct sales force,
distributors, sales agents and semiconductor equipment manufacturers ("OEMs")
that bundle our software with their hardware.
On April 10, 2002, we acquired all of the outstanding capital stock of
Defect & Yield Management, Inc., a Delaware corporation ("DYM"). DYM is engaged
in the sale and support of manufacturing floor defect data management software.
In connection with the acquisition, we paid the shareholders $2.0 million in
cash, issued 967,260 shares of HPL common stock and agreed to assume stock
options to purchase up to 82,740 shares of HPL's common stock. The total value
of the transaction was $17.1 million. We issued in June 2003 an additional
396,826 shares of common stock with a value of $50,000 in the aggregate to the
former DYM stockholders to satisfy the earn-out provisions in the merger
agreement. The acquisition provided the Company access to an installed customer
base in over 70 facilities worldwide, complementary technology and a highly
skilled workforce.
-20-
In each of the last three fiscal years, a relatively small number of
customers have accounted for a large portion of our revenues, and the
composition of our major customers has changed from year to year. This is
because we currently have a limited sales force, our products have a lengthy
sales cycle and we recognize relatively large license revenues upon entering
into perpetual licensing agreements. We had three, three and four end customers
that individually accounted for at least 10% of our revenues in the years ended
March 31, 2004, 2003 and 2002, respectively. In the aggregate, these end
customers accounted for 42%, 61% and 66% of our revenues in the years ended
March 31, 2004, 2003 and 2002, respectively.
From July 2002 until today, as a result of our investigation into
financial and accounting irregularities which ultimately lead to a restatement
of our financial statements for the years ended March 31, 2001 and 2002, and the
litigation discussed in the Liquidity and Capital Resources section below, we
experienced a significant period of transition. In our year ending March 31,
2003, senior management was focused on determining the impact of the financial
restatement on our business going forward, integrating previously acquired
businesses and cutting costs to reflect the level of sales activities we were
experiencing. In our year ended March 31, 2004, we began to hire a new
management team, filling five senior positions with the hiring of a new Chief
Executive Officer, Senior Vice President of Sales, Vice President of Software
Development, Vice President of Marketing and Vice President of Business
Development. With the new management team in place, we have shifted our focus
and resources in order to better integrate our yield analysis software
capabilities with our TestChip solutions to better compete in the DFM market
segment with our unique product offerings. This has resulted in a decrease in
our revenue in the year ended March 31, 2004 from the year ended March 31, 2003
and an operating loss of $20.5 million, which includes $10.8 million in non-cash
charges ($7.9 million in settlement shares, $ 2.6 million in
depreciation and amortization and $0.3 million in stock based compensation), in
the year ended March 31, 2004. At March 31, 2004, we have $10.2 million in cash
and cash equivalents.
As of March 31, 2004, we had an accumulated deficit of $98.0 million.
Since going public in 2001, we have not achieved profitability on a quarterly or
annual basis. As we continue to build our customer base and further develop new
products, we expect to continue to incur net operating losses at least through
our year ending March 31, 2005. We will need to generate significantly higher
revenues in order to support research and development, sales and marketing and
general and administrative expenses, and to achieve and maintain profitability.
Our ability to generate higher revenues may continue to be impacted by our
litigation, the capital spending trends of our potential and current customers
in the semiconductor industry, the time to market of our new products and our
ability to compete in our market segment. See Liquidity and Capital Resources
below.
CRITICAL ACCOUNTING POLICIES
The discussion and analysis of our financial condition and results of
operations are based upon our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements requires us to make
estimates and judgments that affect our reported assets, liabilities, revenues
and expenses, and our related disclosure of contingent assets and liabilities.
On an on-going basis, we evaluate our estimates, including those related to
revenue recognition, goodwill and identifiable, separately recorded intangible
assets, litigation, contingent liabilities and income taxes. We base our
estimates on historical experience and on various other assumptions that are
believed to be reasonable under the circumstances. Our estimates then form the
basis of judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions.
We believe the following critical accounting policies and the related
judgments and estimates significantly affect the preparation of our consolidated
financial statements:
Revenue Recognition
Revenue recognition rules are very complex, and certain judgments
affect the application of our revenue policy. The amount and timing of our
revenue is difficult to predict, and any shortfall in revenue or delay in
recognizing revenue could cause our operating results to vary significantly from
quarter to quarter. In addition to determining our results of operations for a
given period, our revenue recognition determines the timing of certain expenses,
such as commissions, royalties and other variable expenses.
-21-
We derive revenues principally from the sale of software licenses,
software maintenance contracts and consulting services. We offer two types of
licenses: perpetual and time-based. Perpetual licenses have no expiration date,
while time-based licenses require renewal. Our software product licenses provide
a narrowly defined subset of features for a given customer. The customer may
acquire additional licenses to extend the functionality of our products as its
technologies and facilities change or if it wishes to use additional features of
our software for its production process. Our licenses usually limit the number
of people who can use the software at a given time.
Revenues from software licenses are generally recognized upon the
execution of a binding agreement and delivery of the software, provided that:
the fee is fixed or determinable; vendor-specific objective evidence exists to
allocate a portion of the total license fee to any undelivered elements of the
arrangement; collection is reasonably assured; and the agreement does not
contain customer acceptance clauses. If customer acceptance clauses exist,
revenues are recognized upon customer acceptance and all other revenue
recognition criteria are met.
If consulting or other services sold in connection with the software
license are essential to the functionality of the software or involve
significant production, customization or modification of software, we recognize
revenue on either a percentage-of-completion or completed contract basis. For
the percentage-of-completion method, we recognize revenues using labor hours
incurred as the measure of progress against the total labor hours estimated for
completion of the project. We consider a project completed after all contractual
obligations are met. At times, an unbilled accounts receivable balance can exist
which comprises revenue recognized in advance of contractual billings. We make
provisions for estimated contract losses in the period in which the loss becomes
probable and can be reasonably estimated. Estimates of total labor hours or
expected losses on contracts are subject to judgment and actual amounts may
differ significantly from those estimates.
For contracts with multiple obligations (e.g., deliverable and
undeliverable products, post-contract support and other services), we allocate
revenues to the undelivered element of the contract based on objective evidence
of its fair value. This objective evidence is the sales price of the element
when sold separately or the renewal rate specified in the agreement for
licensing arrangements with terms of one year or greater that include
post-contract customer support and software updates. We recognize revenues
allocated to undelivered products when the criteria for software license
revenues set forth above are met. Revenues from time-based software licenses are
generally recognized ratably over the period of the licenses. Determining
whether objective evidence of fair value exists is subject to judgment and
resulting fair values used in determining the value of the undelivered elements
is also subject to judgment and estimates.
Software maintenance revenues are recognized ratably over the term of
the maintenance period, which is generally one year. Our software maintenance
includes product maintenance updates, Internet-based technical support and
telephone support. Revenues derived from our consulting services are recognized
as the services are performed. Revenues derived from software development
projects are recognized on a completed contract basis.
We also derive revenues from the sale of software licenses, maintenance
and post-contract support services through our distributors. Revenues from sales
made through our distributors for which the distributors have return rights are
recognized when the distributors have sold the software licenses or service to
their customers and the criteria for revenue recognition under SOP 97-2, as
amended, are met. Revenues from maintenance and post-contract support services
sold through our distributors are recognized ratably over the contract period.
Amounts invoiced to our customers in excess of recognized revenues are
recorded as deferred revenues. The timing and amounts invoiced to customers can
vary significantly depending on specific contract terms and can therefore have a
significant impact on deferred revenues in any given period.
-22-
Goodwill and Intangible Assets
Consideration paid in connection with acquisitions is required to be
allocated to the acquired assets, including certain identifiable intangible
assets, goodwill, and liabilities acquired. Acquired assets and liabilities are
recorded based on our estimate of fair value, which requires significant
judgments, including those with respect to future estimated cash flows and
discount rates. For identifiable intangible assets that we separately record, we
are required to estimate the useful life of the assets and recognize their cost
as an expense over the useful lives. We use the straight-line method to amortize
long-lived assets, except goodwill, which results in an equal amount of expense
in each period.
We assess the impairment of identifiable intangibles and long-lived
assets whenever events or changes in circumstances indicate that the carrying
value may not be recoverable. Furthermore, we assess the impairment of goodwill
at least annually. Factors we consider important which could trigger an
impairment review include the following:
o significant underperformance relative to historical or projected future
operating results;
o significant changes in the manner of our use of the acquired assets or
the strategy for our overall business;
o significant negative industry or economic trends;
o significant decline in our stock price for a sustained period;
o market capitalization relative to net book value; and
o a current expectation that, more likely than not, a long-lived asset will
be sold or otherwise disposed of significantly before the end of its
previously estimated useful life.
When one or more of the above indicators of impairment occurs we
estimate the value of long-lived assets and intangible assets to determine
whether there is an impairment. We measure any impairment based on the projected
discounted cash flow method, which requires us to make several estimates
including the estimated cash flows associated with the asset, the period over
which these cash flows will be generated and a discount rate commensurate with
the risk inherent in our current business model. These estimates are subjective
and if we made different estimates, it could materially impact the estimated
fair value of these assets and the conclusions we reached regarding an
impairment. We identified triggering events in the second, third and fourth
quarter of our year ended March 31, 2003 which required us to perform the first
step of the analysis.
The first and second steps of the two-step process are as follows:
Step 1 - We compare the fair value of our reporting units to the carrying value,
including goodwill. For each reporting unit where the carrying value, including
goodwill, exceeds the unit's fair value, we proceed on to Step 2. If a unit's
fair value exceeds the carrying value, no further analysis is performed and no
impairment charge is necessary. We measure fair value by weighing equally our
projected five year discounted cash flows with a terminal value discounted to
the measurement date (the "Income Approach") and looking at comparable public
companies and the multiples at which they trade, based on their trailing twelve
months revenue and forward looking twelve months revenue compared to our
comparable revenue to determine our market value (the "Market Approach").
Step 2 - We perform an allocation of the fair value of the reporting unit to our
identifiable tangible and non-goodwill intangible assets and liabilities. This
derives an implied fair value for the reporting unit's goodwill. We then compare
the implied fair value of the reporting unit's goodwill with the carrying amount
of the reporting unit's goodwill. If the carrying amount of the reporting unit's
goodwill is greater than the implied fair value of its goodwill, an impairment
charge would be recognized for the excess.
-23-
At March 31, 2003, we performed Step 1 as of March 31, 2003 and
determined that goodwill was impaired. We then performed Step 2 and determined
that a $30.6 million impairment charge was required in the three months ended
March 31, 2003. During 2004, we continued to test for impairment on an annual
basis and determined that there was no impairment in goodwill.
Litigation
Management's estimated range of liability related to some of the
pending litigation is based on claims for which our management can estimate the
amount and range of loss. Because of the uncertainties related to our insurance
coverage and indemnification obligations we have provided to various parties who
are defendants and the amount and range of potential losses, if any, related to
litigation, management is currently unable to make a reasonable estimate of the
total liability that could result from an unfavorable outcome of all of the
litigation. As of March 31, 2004, we have tentatively settled the Securities
Action and the Covalar Action. These settlements require the Company to issue 7
million shares of HPL common stock which have been valued in a manner consistent
with our calculation for the impairment of goodwill at $7.9 million.
Accordingly, we have accrued this non-cash cost in our financial statements as
of March 31, 2004. This liability will be revalued quarterly until the effective
date of the settlements. As additional information becomes available on our
other pending litigation, we will assess the potential liability related to
these matters and create and/or revise our estimates. Such revisions in
estimates of the potential liability could materially impact our results of
operation and financial condition. Any resolution of the litigation could
materially affect our financial resources and liquidity. See Liquidity and
Capital Resources below.
Income Taxes
We are required to estimate our income taxes in each of the
jurisdictions in which we operate as part of the process of preparing our
consolidated financial statements. This process involves estimating our actual
current tax exposure, together with assessing temporary differences resulting
from differing treatment of items, such as deferred revenue, for tax and
accounting purposes. These differences result in deferred tax assets and
liabilities. We then assess the likelihood that our net deferred tax assets will
be recovered from future taxable income and, to the extent we believe that
recovery is not likely, we must establish a valuation allowance. We currently
have a full valuation allowance on our gross deferred tax assets. In the event
our future taxable income is expected to be sufficient to utilize our deferred
tax assets, an adjustment to the valuation allowance will be made, increasing
income in the period in which such determination is made.
Stock-based compensation
We account for our employee stock option plans using the intrinsic
value method described in Accounting Principles Board ("APB") Opinion No. 25,
"Accounting for Stock Issued to Employees" and related interpretations. Under
APB Opinion No. 25, deferred stock compensation is recorded for the difference,
if any, between an option's exercise price and the fair value of the underlying
common stock on the grant date of the option. As permitted by SFAS No. 123,
"Accounting for Stock-Based Compensation," we adopted the "disclosure only"
alternative described in SFAS No. 123 for its employee stock plans.
We account for stock issued to non-employees in accordance with the
provisions of SFAS No. 123 and Emerging Issues Task Force Consensus ("EITF") No.
96-18 "Accounting for Equity Instruments that Are Issued to Other than Employees
For Acquiring, or in Conjunction with Selling, Goods or Services." Under SFAS
No. 123 and EITF No. 96-18, stock options and warrants issued to non-employees
are accounted for at their fair value calculated using the Black-Scholes option
pricing model.
-24-
Compensation expense resulting from employee and non-employee stock
options are amortized to expense using an accelerated approach over the term of
the options in accordance with Financial Accounting Standards Board
Interpretation ("FIN") No. 28, "Accounting for Stock Appreciation Rights and
Other Variable Stock Option or Award Plans."
RECENT ACCOUNTING PRONOUNCEMENTS
In December 2003, the SEC issued Staff Accounting Bulletin (SAB) No. 104,
REVENUE RECOGNITION (SAB No. 104), which codifies, revises and rescinds certain
sections of SAB No. 101, REVENUE RECOGNITION, in order to make this interpretive
guidance consistent with current authoritative accounting and auditing guidance
and SEC rules and regulations. The changes noted in SAB No. 104 did not have a
material impact upon our financial position, cash flows or results of
operations.
On March 31, 2004, the FASB issued a proposed Statement, "Share-Based
Payment, an amendment of FASB Statements Nos. 123 and 95," that addresses the
accounting for share-based payment transactions in which an enterprise receives
employee services in exchange for either equity instruments of the enterprise
or, liabilities that are based on the fair value of the enterprise's equity
instruments or that may be settled by the issuance of such equity instruments.
The proposed statement would eliminate the ability to account for share-based
compensation transactions using Accounting Principles Board, or APB, Opinion No.
25, "Accounting for Stock Issued to Employees," and generally would require that
such transactions be accounted for using a fair-value-based method and
recognized as expenses in our consolidated statement of income. The proposed
standard would require the modified prospective method be used, which would
require that the fair value of new awards granted from the beginning of the year
of adoption plus unvested awards at the date of adoption be expensed over the
vesting period. In addition, the proposed statement encourages companies to use
the "binomial" approach to value stock options, which differs from the
Black-Scholes option pricing model, that we currently use to determine the fair
value of our options. The proposed standard is recommending that the effective
date for public companies be fiscal years beginning after December 15, 2004. The
changes under this proposed standard will not have a material impact upon our
financial position or cash flows, but may have a material impact on our results
of operations, depending on the amount of stock options we grant in future
periods.
-25-
RESULTS OF OPERATIONS
The following table sets forth statement of operations data for the
periods indicated as a percentage of total revenues.
Year ended March 31,
-----------------------------------------------------------
2004 2003 2002
--------------- -------------- --------------
Revenues:
Software licenses 38 % 34 % 36 %
Consulting services, maintenance and other 62 % 66 % 64 %
--------------- -------------- --------------
Total revenues 100 % 100 % 100 %
--------------- -------------- --------------
Cost of revenues:
Software licenses 4 % 4 % 13 %
Consulting services, maintenance and other 25 % 24 % 11 %
--------------- -------------- --------------
Total cost of revenues 29 % 28 % 24 %
--------------- -------------- --------------
Gross profit 71 % 72 % 76 %
--------------- -------------- --------------
Operating expenses:
Research and development 50 % 67 % 136 %
Sales, general and administrative 107 % 127 % 206 %
Legal settlement expense 62 % - % - %
Goodwill impairment - % 196 % - %
Stock based compensation 3 % 7 % 79 %
Amortization of intangible assets 10 % 10 % 7 %
--------------- -------------- --------------
Total operating expenses 232 % 407 % 428 %
--------------- -------------- --------------
Loss from operations (161)% (335)% (352)%
=============== ============== ==============
Comparison of years ended March 31, 2004 and 2003
Revenues. Total revenues decreased to $12.7 million in the year ended
March 31, 2004 from $15.6 million in the year ended March 31, 2003, or a
decrease of 19%. Our sales cycle for the license of our software products has
historically been very long. Our products are new and our customers spend a
significant amount of time evaluating our products. Customer purchase orders
typically include integration and installation services, rights of return and
acceptance criteria. As such, we defer a significant amount of our license
revenue until integration and installation services are complete, rights of
return lapse and final acceptance occurs. The amount of our license revenue is
currently at levels that have resulted in no meaningful trend from period to
period. Our ability to sell our products in the future may also be affected by
declines in capital spending by potential customers in the semiconductor
industry.
Product sales were highly concentrated, with 42% of total revenues in
the year ended March 31, 2004 coming from three customers and 61% of total
revenues in the year ended March 31, 2003 coming from four customers.
Software license revenue decreased to $4.8 million in the year ended
March 31, 2004, from $5.3 million in the year ended March 31, 2003, or a
decrease of 9%. Software license revenue in the year ended March 31, 2004
includes $2.2 million in deferred revenue from March 31, 2002 which was accepted
in the year ended March 31, 2004. Software license revenue in the year ended
March 31, 2003 includes $4.6 million in revenue deferred as a result of our
financial restatement in the year ended March 31, 2002 as customer acceptance
was received in the period.
-26-
Consulting services, maintenance and other revenues decreased to $7.9
million in the year ended March 31, 2004, down from $10.3 million in the year
ended March 31, 2003, or a decrease of 23%. The decrease was due to customer
delays in providing layout design specifications for custom services work and
verifying silicon testing results as well as a shift in focus from low-margin,
higher-volume services work to high-margin, lower-volume services work.
Gross profit. As a percentage of revenues, gross profit decreased to
71% in the year ended March 31, 2004 to 72% in the year ended March 31, 2003.
The modest decline was primarily due to the above variances in revenue from
period to period and changes in cost of revenues. In addition, in the year ended
March 31, 2004, we expensed $491,000 in deferred costs relating to the sale of a
software license recognized in the period.This additional expense was partially
offset by increased margins in our service business as a result of a shift in
focus as noted above. Gross profit has been and will continue to be affected by
a variety of factors, the most important of which is the relative mix of
revenues among software licenses, maintenance fees and consulting services.
Research and development. Research and development expenses represented
50% of revenues in the year ended March 31, 2004 compared to 67% of revenues in
the year ended March 31, 2003. Actual costs decreased to $6.4 million in the
year ended March 31, 2004, down from $10.5 million for the year ended March 31,
2003. This decrease was primarily attributable to the cost-cutting measures
commenced in September 2002 and continued through December 2003. Salaries and
related benefits of research and development engineers represent the single
largest component of our research and development expenses. We expect our
research and development costs to remain relatively stable for the foreseeable
future.
Sales, general and administrative. Sales, general and administrative
expenses in the year ended March 31, 2004 were $13.6 million, or 107% of
revenues, compared to $19.8 million, or 127% of revenues in the year ended March
31, 2003. The decrease in costs was primarily due to decreases in staff,
professional fees and costs associated with litigation and the restatement of
our financial statements. Legal and professional fees associated with litigation
and the restatement of our financial statements were approximately $2.7 million
and $3.9 million during years ended March 31, 2004 and 2003, respectively. We
expect the level of legal fees to decline significantly in fiscal 2005 as our
pending legal matters are resolved.
Legal settlement expense. In the year ended March 31, 2004,
we were able to reasonably estimate the cost of the potential settlement of the
Securities Action and the Covalar Action, and as such, we accrued $7.9 million,
our estimate of the value of the stock to be issued in connection with such
settlement.. The liability will be revalued quarterly until the effective date
of the settlements. See Liquidity and Capital Resource below.
Goodwill impairment. The Company operates within one reporting unit as
defined by SFAS 142. Therefore, goodwill is not allocated within the Company, as
it is considered enterprise goodwill. During the fourth quarter of the year
ended March 31, 2003, the Company determined that there were indicators of
impairment to the carrying value of goodwill, principally as a result of
reducing its revenue forecast given the then current economic environment in the
semiconductor industry. The Company performed its annual impairment review for
goodwill and other intangible assets on March 31, 2003 and recorded a charge of
$30.6 million relating to goodwill impairment, which is recorded as a component
of operating income in the accompanying consolidated statement of operations.
The amount of goodwill impairment was based on the fair value of the Company,
representing its only reporting unit utilizing a valuation based on both the
discounted cash flow and market approach. At March 31, 2004 we performed an
impairment test and determined that there was no further impairment in goodwill.
Future goodwill impairment tests may result in charges to earnings if the
Company determines that goodwill has been further impaired.
-27-
Stock-based compensation. Stock-based compensation expense in the year
ended March 31, 2004 was $315,000, compared with $1.0 million in the year ended
March 31, 2003. Stock-based compensation expense in the year ended March 31,
2004 decreased from the previous year primarily as a result of decreases in
staff related to acquisitions, which resulted in the reversal of previously
expensed stock-based compensation which was not earned by the terminated
employees.
Amortization of intangible assets. Amortization of intangible assets
was $1.3 million in the year ended March 31, 2004, compared to $1.5 million in
the year ended March 31, 2003. This decrease in amortization is due to certain
intangible assets being fully amortized prior to fiscal 2004.
Interest income (expense) and other, net. Interest income, net of
interest and other expenses for the year ended March 31, 2004 and 2003 were
$213,000 and $468,000, respectively. This decrease was due to less interest
income from lower average balances of cash, cash equivalents and short-term
investments and lower interest rates on cash balances during the year ended
March 31, 2004.
Provision for income taxes. In the years ended March 31, 2004 and 2003,
we incurred operating losses for which we have recorded valuation allowances for
the full amount of our net deferred tax assets, because the future realization
of the deferred tax assets was not likely as of March 31, 2003 and 2002. In the
year ended March 31, 2004, the provision for income tax in the amount of $89,000
resulted from foreign income tax withholding.
Comparison of years ended March 31, 2003 and 2002
Revenues. Total revenues increased to $15.6 million in the year ended
March 31, 2003 from $4.5 million in the year ended March 31, 2002, or an
increase of 245%. Our sales cycle for the license of our software products has
historically been very long. Our products are new and our customers spend a
significant amount of time evaluating our products. Customer purchase orders
typically include integration and installation services, rights of return and
acceptance criteria. As such, we defer a significant amount of our license
revenue until integration and installation services are complete, rights of
return lapse and final acceptance occurs. Approximately 75% of this increase is
attributable to increased consulting revenue from our acquisition of Covalar.
The amount of our license revenue is currently at levels that have resulted in
no meaningful trend from period to period. Our ability to sell our products in
the future may also be affected by the current decline in capital spending by
potential customers in the semiconductor industry.
Product sales were highly concentrated, with 61% of total revenues in
the year ended March 31, 2003 coming from three customers and 66% of total
revenues in the year ended March 31, 2002 coming from four customers.
Software license revenue increased to $5.3 million in the year ended
March 31, 2003, from $1.6 million in the year ended March 31, 2002, or an
increase of 227%. This increase was due to greater customer acceptance of the
Company's product during the year ended March 31, 2003. Software license revenue
in the year ended March 31, 2003 relates primarily to previously deferred
revenue for which the revenue was recognized in the current year as final
customer acceptances were received on previously delivered software.
Approximately $380,000 of software license revenue in the year ended March 31,
2002 relates to an arbitration settlement of royalties due from a customer.
Consulting services, maintenance and other revenues increased to $10.3
million in the year ended March 31, 2003, up from $2.9 million in the year ended
March 31, 2002, or an increase of 256%. These increases were due to an increase
in consulting services related to our acquisition of Covalar and an increase in
maintenance fees from a greater number of customers, both existing customers and
those from our acquisitions.
-28-
Gross profit. As a percentage of revenues, gross profit decreased to
72% for the year ended March 31, 2003 from 76% for the year ended March 31, 2002
as service revenue as a percentage of total revenue increased in the year. Gross
profit has been and will continue to be affected by a variety of factors, the
most important of which is the relative mix of revenues among software licenses,
maintenance fees and consulting services.
Research and development. Research and development expenses represented
67% of revenues in the year ended March 31, 2003 compared to 136% of revenues in
the year ended March 31, 2002. Actual costs increased to $10.5 million for the
year ended March 31, 2003, up from $6.1 million for the year ended March 31,
2002. This increase in absolute terms is primarily attributable to the increase
of software engineers related to acquisitions. Salaries and related benefits of
research and development engineers represent the single largest component of our
research and development expenses.
Sales, general and administrative. Sales, general and administrative
expenses for the year ended March 31, 2003 were $19.8 million, or 127% of
revenues, compared to $9.3 million, or 206% of revenues in the year ended March
31, 2002. The increase in costs was primarily due to increases in staff,
professional fees and the headcount increases related to acquisitions, and legal
and professional fees associated with litigation and the restatement of our
financial statements.
Goodwill impairment. The Company operates within one reporting unit as
defined by SFAS 142. Therefore, goodwill is not allocated within the Company, as
it is considered enterprise goodwill. During the fourth quarter of the year
ended March 31, 2003, the Company determined that there were indicators of
impairment to the carrying value of goodwill, principally as a result of
reducing its revenue forecast given the then current economic environment in the
semiconductor industry. The Company performed its annual impairment review for
goodwill and other intangible assets on March 31, 2003 and recorded a charge of
$30.6 million relating to goodwill impairment, which is recorded as a component
of operating income in the accompanying consolidated statement of operations.
The amount of goodwill impairment was based on the fair value of the Company,
representing its only reporting unit utilizing a valuation based on both the
discounted cash flow and market approach. Future goodwill impairment tests may
result in charges to earnings if the Company determines that goodwill has been
further impaired.
Stock-based compensation. Stock-based compensation expense for the year
ended March 31, 2003 was $1.0 million, compared to $3.5 million for the year
ended March 31, 2002. Stock-based compensation expense in the year ended March
31, 2003 decreased from the previous year primarily as a result of our reduction
in workforce on September 30, 2002, which resulted in the reversal of previously
expensed stock-based compensation which was not earned by the terminated
employees.
Amortization of intangible assets. Amortization of intangible assets
was $1.5 million in the year ended March 31, 2003, compared to $294,000 in the
year ended March 31, 2002. This increase in amortization resulted from the
acquisitions of Defect & Yield Management in the first quarter of fiscal 2003
and a full year amortization of the intangible assets related to the
acquisitions of FabCentric and Covalar, which were completed in the year ended
March 31, 2002.
Interest income (expense) and other, net. Interest income, net of
interest and other expenses for the year ended March 31, 2003, was $468,000,
compared with net income of $908,000, for the year ended March 31, 2002. This
decrease was due to less interest income from lower average balances of cash,
cash equivalents and short-term investments and lower interest rates on cash
balances during the year ended March 31, 2003.
Provision for income taxes. In the years ended March 31, 2003 and 2002,
we incurred operating losses for which we have recorded valuation allowances for
the full amount of our net deferred tax assets, because the future realization
of the deferred tax assets was not likely as of March 31, 2003 and 2002.
-29-
LIQUIDITY AND CAPITAL RESOURCES
Our financial statements have been prepared on a going concern basis,
which contemplates the realization of assets and the satisfaction of liabilities
in the normal course of business. Accordingly, the financial statements do not
include any adjustments relating to the recoverability and classification of
recorded asset amounts or the amount and classification of liabilities that
might be necessary if we are unable to continue as a going concern. We have
experienced net losses and negative cash flows since going public in July 2001
and, as of March 31, 2004, we had an accumulated deficit of $98.0 million. We
expect to have a net operating loss in our year ending March 31, 2005. For the
year ending March 31, 2004, cash used in operations and to fund capital
expenditures was $9.7 million. Such conditions raise doubt about our ability to
continue as a going concern unless we increase our revenues or raise additional
capital. At March 31, 2004, we had approximately $10.2 million in cash and cash
equivalents and short-term investments after repaying $1.5 million to retire our
secured convertible debenture and the receipt of $1.2 million in income tax
refunds from our amendment of prior year tax returns. Our current operating plan
for the year ending March 31, 2005 projects that cash available from planned
revenue combined with the $10.2 million on hand at March 31, 2004 will be
adequate to fund operations through March 31, 2005. There can be no assurances
that the current cash on hand combined with the projected revenues will be
adequate to sustain operations through March 31, 2005. Our future cash position
will be adversely affected by slow or diminished revenue growth, research and
development expenses, additional sales and marketing costs and higher general
and administrative expenses, such as professional fees associated with the
litigation. If additional funds are required, there is no assurance that the
Company will be able to raise such funds on term acceptable to the Company, or
at all, until all of our pending litigation discussed below is resolved.
Net cash used in operating activities for the year ended March 31, 2004
was approximately $9.4 million, compared to $23.8 million used in operating
activities for the year ended March 31, 2003 and $12.4 million used in operating
activities in the year ended March 31, 2002. Our cash used in operations for the
years ended March 31, 2004, 2003, and 2002 was primarily due to our net loss,
adjusted for certain non-cash items including depreciation and amortization,
goodwill impairment, stock-based compensation and deferred revenue.
Net cash used in investing activities was $1.4 million for the year
ended March 31, 2004 compared to $7.1 million provided by investing activities
for the year ended March 31, 2003 and $27.4 million used in investing activities
for the year ended March 31, 2002. The cash used in investing activities for the
year ended March 31, 2004 consisted primarily of purchases of marketable
securities. The cash inflows from investing activities for the year ended March
31, 2003 consisted primarily of proceeds from sales of marketable securities.
Our investing activities for the year ended March 31, 2002 consisted primarily
of the acquisitions of Tyecin, FabCentric and Covalar, purchases of marketable
securities, and equipment purchases.
Net cash used in financing activities was $1.8 million for the year
ended March 31, 2004, mainly due to the repayment of our $1.5 million secured
convertible debenture in May 2003. Net cash provided by financing activities was
$1.1 million for the year ended March 31, 2003, mainly due to the additional
amount received from our former Chief Executive Officer in connection with
fictitious sales transactions. Net cash provided by financing activities was
$71.7 million for the year ended March 31, 2002, primarily from our initial
public offering completed in August 2001, amounts received from our former Chief
Executive Officer, and proceeds from exercise of stock options, partially offset
by the repayment of notes payable and capital lease obligations.
-30-
Future payments due under debt and lease obligations as of March 31,
2004 are as follows (in thousands):
Capital Lease Operating
Year Ending March 31, Obligations (1) Leases Total
------------------------------------- ----------------- ----------------- -----------------
2005