UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORT
PURSUANT TO SECTIONS 13 OF 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
| x | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the fiscal year ended December 31, 2003
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: 000-27267
I/OMAGIC CORPORATION
(Exact name of registrant as specified in its charter)
| Nevada | 88-0290623 | |
| (State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | |
| 4 Marconi, Irvine, CA | 92618 | |
| (Address of principal executive offices) | (Zip Code) | |
Registrant’s telephone number, including area code: (949) 707-4800
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.001 par value
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark if disclosure of delinquent filers in response to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨
Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2).
Yes ¨ No x
The aggregate market value of the voting common equity held by nonaffiliates of the registrant computed by reference to the closing sale price of such stock, was approximately $3,558,308, as of June 30, 2003, the last business day of the registrant’s most recently completed second fiscal quarter. The registrant has no non-voting common equity.
The number of shares of the registrant’s common stock, $.001 par value, outstanding as of April 8, 2004 was 4,529,672.
DOCUMENTS INCORPORATED BY REFERENCE: None.
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Introductory Note
This Annual Report on Form 10-K contains “forward-looking statements.” These forward-looking statements include, but are not limited to, statements relating to our anticipated financial performance, business prospects, new developments, new strategies and similar matters, and/or statements preceded by, followed by or that include the words “believe,” “may,” “could,” “expect,” “anticipate,” “estimate,” “intend,” “plan,” “seek,” or similar expressions. We have based these forward-looking statements on our current expectations and projections about future events, based on the information currently available to us. These forward-looking statements are subject to risks, uncertainties and assumptions, including those described under the heading “Risk Factors” in Item 7 of this Annual Report on Form 10-K that may affect the operations, performance, development and results of our business. You are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date stated, or if no date is stated, as of the date of this Annual Report on Form 10-K. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or any other reason except as we may be required to do under applicable law. In light of these risks, uncertainties and assumptions, the forward-looking events discussed in this Annual Report on Form 10-K may not occur.
Interested readers can access our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, through the United States Securities and Exchange Commission’s website at http://www.sec.gov. These reports can be accessed free of charge.
For purposes of this Annual Report, unless the context indicates otherwise, references to “we,” “us,” “our,” “I/OMagic,” and the “Company” means or refers to I/OMagic Corporation.
Company Overview
We operate in the data storage and digital entertainment industries. We sell data storage and digital entertainment products primarily in the United States and to a lesser extent in Canada, together known as the North American marketplace. Our data storage product offerings are predominantly focused on optical data storage media and include recordable compact disc, or CD, drives and recordable digital video or versatile disc, or DVD, drives predominantly for personal computers, or PCs. Our digital entertainment product offerings are predominantly focused on products that complement our line of data storage products and include MP3 players, digital audio headphones and palm-sized 20 gigabyte hard disk drives that we call our Digital Photo Library™ system. Our data storage products accounted for approximately 94% of our net sales during the year ended December 31, 2003, whereas our digital entertainment products accounted for approximately 6% of our net sales for that period.
For the years ended December 31, 2003 and 2002, according to NPD Intelect® Market Tracking, a provider of sales tracking services for, among others, the consumer electronics and information technology industries, we achieved the number one market share in both unit and dollar sales of “after-market” compact disc rewritable, or CD-RW, drives in North America. “After-market” products are
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products not built into a PC at the time of its initial purchase. For the year ended December 31, 2003, according to NPD Intelect® Market Tracking, despite offering dual-format recordable DVD drives since only July 2003, we achieved the number four market share in both unit and dollar sales of after-market recordable DVD drives in North America. We believe that the market for DVD-based data storage products will experience significant growth over the next few years and that we are in a position to benefit from this growth in terms of sales and market share.
We sell our products through computer, consumer electronics and office supply superstores and other major North American retailers, including Best Buy Co., Inc., Best Buy Canada Ltd., CompUSA, Circuit City Stores, Inc., Fred Meyer Stores, Microcenter the Ultimate Computer Store, Office Depot, Inc., OfficeMax, Inc., RadioShack Corporation, Staples, the Office Superstore, Inc., and Target Corporation. Our retailers collectively operate retail locations throughout North America. We also have relationships with other retailers, catalog companies and Internet retailers such as Buy.com, PC Mall, Inc., Tiger Direct, Inc. and Dell Inc.
We market our products under three brand names. Our three brand names are I/OMagic®, Digital Research Technologies® and Hi-Val®. We sell our data storage products under each of these brand names, bundling various hardware devices with different software applications to meet different consumer needs. Our digital entertainment products are currently sold under our I/OMagic® and Digital Research Technologies® brand names.
We employ a “good, better, best” marketing strategy, offering a range of products within some of our product categories. We believe that this strategy enables us to address different segments of the market for data storage and digital entertainment products by offering varying products with different levels of performance and functionality at multiple price points designed to satisfy the diverse needs and budgets of consumers.
We subcontract manufacture our products predominantly in Asian countries, which allows us to offer products at highly competitive prices and which we believe permits maximum flexibility in the development of new and enhanced products. Many of our subcontract manufacturers have substantial product development resources and facilities in Asia, and are among the major component manufacturers in their product categories. Some of our largest subcontract manufacturers are also our shareholders, including Behavior Tech Computer Corp., and its affiliated companies, or BTC, and Lung Hwa Electronics Co., Ltd. According to industry sources, BTC is among the largest optical storage drive manufacturers in the world and Lung Hwa Electronics is a major manufacturer of digital entertainment products. These subcontract manufacturers expend substantial resources on research, development and design of new technologies and efficient manufacturing processes.
I/OMagic Corporation was incorporated under the laws of the State of Nevada in October 1992. We have two subsidiaries, I/OMagic Corporation, a California corporation, and IOM Holdings, Inc., a Nevada corporation. Our principal executive offices are located in Irvine, California and our main telephone number is (949) 707-4800.
Industry Overview
Storing, managing, protecting, retrieving and transferring data has become critical to individuals and businesses due to their increasing dependence on and participation in data-intensive activities. The data storage industry is growing in response to the needs of individuals and businesses to store, manage, protect, retrieve and transfer increasing amounts of data resulting from:
| • | the growth in the number of PCs, and the number, size and complexity of computer networks and software programs; |
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| • | the emergence and development of new data-intensive activities, such as e-mail, e-commerce, and the increasing availability of products and services over the Internet, together with the rise in bandwidth available to access and download data from over the Internet; and |
| • | the existence and availability of increasing amounts of digital entertainment data, such as music, movie, photographic, video gaming and other multi-media data. |
Traditional PC data generally includes document, e-mail, financial and historical, software program and other data. The data storage industry has grown significantly over the last two decades as the PC has become a virtually indispensable tool in the home and office, resulting in increasing amounts of traditional PC data. As a result of these and other developments, traditional PC data storage requirements have correspondingly increased.
Digital entertainment data generally includes music, photographic, movie and video game data. For nearly two decades, music has been offered on CDs as the prevailing standard. In the mid-to-late 1990s, the ability to copy CDs, and to download, remix, and copy or “burn” music to a personalized CD began to gain popularity and made the recordable CD drive, or “CD burner,” a desirable component of the PC. With the growth and acceptance of the Internet and the advent of on-line music availability, the demand for music has increased and as a result, the demand for faster and easier data storage and retrieval has grown.
We believe that the increasing amount of traditional PC and digital entertainment data that is being generated and used is stimulating increased demand for products offering data storage, management, protection, retrieval and transfer. We also believe that those products that offer flexibility and high-capacity storage in a cost-effective, user-friendly manner are in highest demand.
According to NPD Intelect® Market Tracking, the North American data storage industry, including all media (for example, floppy disks, CDs and DVDs) and drives, grew to approximately $2.2 billion in 2003, representing a 10% increase from approximately $2.0 billion in 2002. Also according to NPD Intelect® Market Tracking, unit sales in the data storage industry, including all media and drives, grew to approximately 82 million units in 2003, representing a 12.3% increase from approximately 73 million units in 2002.
Key Factors Driving Growth in the Data Storage and Digital Entertainment Industries
We believe that the following key factors, among others, are driving and will continue to drive growth in the data storage and digital entertainment industries:
| • | Increased use of the Internet. As individuals and businesses increase their data-intensive use of the Internet for communications, commerce and data retrieval, the corresponding need to utilize data storage devices for the storage, management, protection, retrieval and transfer of data, especially high-capacity, cost-effective data storage devices, will continue to grow. In addition, increasing bandwidth allowing high data transfer rates over the Internet makes use of the Internet for data-intensive activities more convenient and cost-effective. |
| • | Growth in new types of data. The growth in new types of data such as music, photographic, movie, and video gaming data, including high-resolution audio and video data, requires far greater storage capacity than traditional PC data. We believe that individual consumers and businesses increasingly depend on their abilities to store, manage, protect, retrieve and transfer these types of data using data storage devices. |
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| • | Growth in the critical importance of data. Business databases contain information about customers, suppliers, competitors and industry trends that may be analyzed and transformed into a valuable asset and a competitive advantage. Efficiently storing, managing, protecting, retrieving and transferring this information has become increasingly important to the success of many businesses. |
| • | Decrease in the cost of storing data. The cost of data storage on magnetic, optical and solid state media continues to decrease with advances in technology and improved manufacturing processes. This decrease in cost encourages and enables individual consumers and businesses to purchase more data storage media and devices. |
We believe that the factors listed above are driving growth in the major product categories of the data storage and digital entertainment industries, which include data storage devices for traditional PC data and digital entertainment data, digital photography products and digital audio products.
Data storage devices for traditional PC data include hard disk drives and optical CD and DVD drives. Data storage devices for digital entertainment data include hard disk drives and CD and DVD drives as well as digital video recorders, or DVRs. Digital photography products include digital cameras and related solid state memory devices. Digital audio products include MP3 players and their built-in hard disk drives and solid state memory devices. Some of these devices represent the convergence of data storage products for both traditional PC data and digital entertainment data. For instance, a DVD drive and DVD media can operate as the primary tool for storage, management, protection, retrieval and transfer of traditional PC data as well as digital entertainment data such as music, photos, movies, video games and other multi-media.
Types of Data Storage Media
The following types of data storage media are the principal means through which traditional PC data as well as digital entertainment data can be stored, managed, protected, retrieved and transferred:
| • | Magnetic. Magnetic data storage drives store digital data by magnetically altering minutely small areas of a magnetic media surface so that specific areas represent either a “1” or a “0.” Indeed, all digital data is comprised of different combinations of “1s” and “0s,” regardless of the media on which the data is stored. Examples of magnetic data storage media include floppy disks, Zip® disks, hard disks and magnetic tape. |
| • | Optical. Optical data storage drives store digital data by using lasers to alter minutely small areas of an optical media surface. Examples of optical data storage media include CDs and DVDs. |
| • | Solid State. Solid state storage devices store digital data by applying electronic charges to alter minutely small areas of a memory chip or card. Examples of solid state media include flash memory chips, flash memory cards and thumbdrives. Thumbdrives are more commonly known as universal serial bus, or USB, drives which are small, portable flash memory devices that plug into any standard USB drive. Solid state media is typically used for digital data storage in digital cameras, personal digital assistants, or PDAs, cellular phones and MP3 players. |
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Relative Advantages and Disadvantages of Types of Data Storage Media
Each of the mainstream types of data storage media generally available to consumers has certain advantages and disadvantages. These include:
Magnetic Media
| • | Floppy disks. Floppy disks are removable media allowing physical transport of data. External floppy disk drives allow portability of the drive itself. Floppy disks benefit from being “legacy” products with a large existing user base and a low cost per unit for a floppy disk. Relative to other available media, floppy disks have extremely low capacity, holding up to approximately 1.44 megabytes per disk depending on the user’s operating system and other factors, and represent a very high cost per megabyte. In addition, floppy disks typically employ older, less efficient storage, management, protection, retrieval and transfer technology, and offer moderate data access times and data transfer rates, moderate reliability and a tendency towards degradation over time which risks the loss of data stored on the disk. |
| • | Zip® Disks. Zip® disks are removable media allowing physical transport of data. External Zip® disk drives allow portability of the drive itself. Relative to other available media, Zip® disks have moderate capacity, holding up to approximately 200 megabytes per disk depending on the user’s operating system and other factors, and represent a moderate cost per megabyte. Zip® disks themselves have a moderate cost per unit and offer moderate data access times and data transfer rates. A special Zip® drive is required to utilize Zip® disk technology and media. |
| • | Magnetic Tape. Magnetic tape is removable media allowing physical transport of data. Magnetic tape drives are typically larger than other storage drives, making them comparatively less portable. Relative to other available media, magnetic tape has moderate to high capacity, holding up to approximately 80 gigabytes, or 80,000 megabytes, depending on the user’s operating system and other factors, and represents a moderate cost per megabyte. Magnetic tape itself has a high cost per unit and typically employs older, less efficient storage, management, protection, retrieval and transfer technology, and offers slow data access times but fast data transfer rates, moderate reliability and a tendency towards degradation over time which risks the loss of data stored on the tape. |
| • | Hard Disks. Hard disks are fixed media and typically are not removable, thus prohibiting the physical transport of data and portability of the drive itself. Relative to other available media, hard disks have high capacity, holding up to approximately 500 gigabytes, or 500,000 megabytes, depending on the user’s operating system and other factors, and offer a low cost per megabyte. Hard disks have a fixed storage capacity and are not scalable. Hard disks offer fast data access times and data transfer rates and generally good reliability, but data protection and retrieval is dependent on drive reliability. Hard disks require another device or medium for data back-up purposes or for data transportability. |
Optical Media
| • | Compact Discs. CDs are removable media allowing physical transport of data. External CD drives allow portability of the drive itself. Relative to other available media, CDs have moderate capacity, holding up to approximately 600 megabytes, depending on the user’s operating system and other factors, and offer virtually unlimited storage capacity with the use of additional low cost CDs. CDs offer only moderate data access times and data |
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transfer rates as compared to hard disk technologies; however, new technology continues to improve data access times for this media. CDs are also compatible with numerous devices ranging from PCs to CD and DVD players typically found in the home and office. Unlike hard disks, the integrity of data protection and retrieval is not drive-dependent, since a reliability problem with an optical drive will not affect digital data already stored on a CD, and ease of transport allows access to data using another drive if a problem exists with a user’s primary drive unit. In addition, unlike magnetic media, use of CDs results in limited or no degradation of the CD itself.
| • | Digital Video or Digital Versatile Discs. The relative advantages and disadvantages of DVD drives and media are generally the same as for CD drives and media. However, as compared to other available media, DVDs are moderate to high capacity, holding up to approximately 4.3 gigabytes, or 4,300 megabytes, depending on the user’s operating system and other factors. |
Solid State Media
| • | Flash memory. Flash memory cards are removable media allowing physical transport of data. Flash memory chips are similar to flash memory cards, but are generally not removable. Typically, flash memory chips and cards are used in portable devices such as digital cameras, PDAs and cellular phones. Relative to other available media, flash memory chips and cards have moderate capacity, holding up to approximately 1 gigabyte, or 1,000 megabytes, depending on the user’s operating system and other factors, and offer very high cost per megabyte and high cost per unit. Flash memory media and devices are highly reliable, consume very little power and offer very fast data access times and data transfer rates, but flash memory chips require another device or medium for data back-up purposes. |
Industry Challenges and Trends
We believe that the challenges currently facing the data storage and digital entertainment industries include:
| • | Need for transition to high-capacity, cost-effective and flexible media and related storage devices. We believe that, as a result of the rapid growth in data and in new applications requiring or using high data-content movies, photos, music and games and other multi-media, the data storage industry needs to offer higher capacity, more cost-effective and flexible media and storage devices. To meet this need, optical storage product offerings are shifting from CD- to DVD-based technologies. |
| • | Need for broad-based product offerings to stimulate further growth. The demand for data storage and digital entertainment products is expanding and market opportunities are therefore available to sell these products to a wide range of consumers seeking products ranging from entry-level to state-of-the-art. By offering various products combining different levels of performance and functionality at multiple price points to a wide range of consumers, we believe that the industry can satisfy unmet consumer demand and further stimulate sales of digital storage and digital entertainment products. |
| • | Need to identify and satisfy consumer demands and preferences. The data storage and digital entertainment industries are characterized in part by rapidly changing consumer demands and preferences for higher levels of product performance and functionality. We believe that, to be successful, companies must closely identify changes in consumer demands and |
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preferences and introduce both new and enhanced data storage and digital entertainment products to provide higher levels of performance and functionality than existing products.
Trends in the data storage and digital entertainment industries include the trend toward higher capacity optical storage media and related drives, including the trend away from CD-based media and devices and towards DVD-based media and devices. According to NPD Intelect® Market Tracking, unit sales of recordable CD drives in the North American marketplace declined 14% from 2002 through 2003, while unit sales of recordable DVD drives increased by 447% from 2002 through 2003. We believe that this illustrates the transition from CD-based data storage products to DVD-based devices and we believe that this trend will continue into the future.
Developing trends in the data storage and digital entertainment industries include the early adoption of super-high-capacity optical data storage devices using technology such as Blu-ray™ DVD or High-definition DVD. Blu-ray™ DVD technology is expected to expand DVD capacity up to tenfold and is expected to allow, for the first time in a device widely available to consumers, the storage and retrieval of high definition videos and images for playback on high-definition DVD players and compatible televisions and monitors. A competing new technology also exists called High-definition DVD, or HD-DVD. The storage capacity of HD-DVD is limited to approximately 60% of a Blu-ray™ DVD. Proponents of HD-DVD technology contend, however, that it has less compatibility problems with existing DVD technology as compared to Blu-ray™ DVD technology and that data compression software reduces the importance of the greater storage capacity offered by Blu-ray™ DVD technology.
It is not yet clear whether Blu-ray™ DVD or HD-DVD will become the dominant technology, if they will coexist, or if a new technology will emerge. Nonetheless, we believe that the increased performance offered by these technologies will likely result in consumer acceptance of products using these technologies. Furthermore, we believe that regardless of which technology becomes the dominant technology, we will be able to incorporate either technology into our product offerings in much the same way as we do today with the large number of format types ranging from recordable and rewritable CD-based products to DVD-based products.
The I/OMagic Solution
We sell data storage and digital entertainment products to the North American retail marketplace. We believe that we possess a combination of core competencies that provide us with a competitive advantage, including the ability to successfully identify consumer needs and preferences, use our sales and distribution channels to sell new and enhanced products, efficiently manage product development cycles, efficiently manage our product supply chain, and use our brands and merchandising efforts to market and sell data storage and digital entertainment products.
Successfully executing our core competencies yields substantial benefits including the ability to:
| • | rapidly bring both new and enhanced products to market in a cost-effective manner; |
| • | offer high-value products which combine performance, functionality and reliability at competitive prices; and |
| • | establish and maintain a large market presence for our core data storage product offerings resulting in significant market share. |
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We work closely with our retailers to promote our products, monitor consumer demands and preferences and stay at the forefront of the market for data storage and digital entertainment products. We also work closely with our subcontract manufacturers and benefit from their substantial research and development resources and economies of scale. As a result of working with our retailers and subcontract manufacturers, we are able to rapidly bring new and enhanced data storage and digital entertainment products to market in a cost-effective manner.
The market intelligence we gain through consultation with our retailers and subcontract manufacturers enables us to deliver products that combine performance and functionality demanded by the marketplace. Obtaining these products through our subcontract manufacturers, along with efficient management of our supply chain, allows us to offer these products at competitive prices.
We sell our products through computer, consumer electronics and office supply superstores and other retailers who collectively operate retail locations throughout North America. Our network of retailers enables us to offer products to consumers across North America, including every major metropolitan market in the United States. Our largest retailers include Best Buy, Circuit City, CompUSA, Staples, Office Depot and OfficeMax.
We employ a three-brand strategy to sell some of the same or similar products through different retailers and to maintain consumer loyalty to at least one of our brands. Our three-brand marketing strategy enables us to provide each of our major industry retailers with their own distinct brand. We believe that this approach reduces price competition among our most important retailers as a result of brand differentiation and benefits us by making our products more attractive to those retailers. We also employ a “good, better, best” marketing strategy offering consumers a broad line of data storage products ranging from entry-level to state-of-the-art. Our “good, better, best” lines of products combine different levels of performance and functionality at various price points. We believe that our “good, better, best” strategy allows us to sell to consumers who seek a more attractive combination of performance and functionality at lower prices than other leading data storage products. We intend to adopt this strategy in expanding our digital entertainment product offerings.
As a result of our large retail network and our three-brand and “good, better, best” marketing strategies, we believe that we have established and will maintain a large market presence for our core data storage product offerings resulting in significant market share. For the years ended December 31, 2003 and 2002, according to NPD Intelect® Market Tracking, we achieved the number one market share in both unit and dollar sales of CD-RW drives in North America. For the year ended December 31, 2003, according to NPD Intelect® Market Tracking, despite offering recordable DVD drives since only July 2003, we achieved the number four market share in both unit and dollar sales of recordable DVD drives in North America. By using the same strategies in offering our digital entertainment products, we believe that we will be able to establish a large market presence resulting in significant market share for those products as well.
Our Data Storage Solution
We focus on optical data storage products to respond to the demands and preferences of the data storage marketplace. We believe that the market for data storage products, especially after-market devices that can be purchased separately from and easily used in conjunction with a standard PC, has shifted its demand largely to optical media and drives. We believe that optical media and drives represent the optimal combination of high-capacity storage capability, cost-effectiveness and flexibility. Magnetic hard-disk and drive technology is the closest competitor to optical media in the contexts of storage capacity, cost-effectiveness and flexibility. However, while the storage capacity of any given hard-disk is fixed, optical media has virtually unlimited storage capacity through the addition of low-cost CDs or DVDs. Moreover, optical media has far more flexibility than hard-disk media, allowing users to
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store music, photos and movies utilizing a stand-alone recorder or a desktop or laptop PC and then play them back on standard CD or DVD players. In addition, hard-disk media is usually built into a PC, lacking effective portability and ease of physical transport of data.
We believe that our focus on optical data storage products is also consistent with the proliferation of digital entertainment devices. Digital cameras, MP3 players and other digital entertainment devices are well-complemented by the use of optical media for data back-up and high-capacity storage purposes. Existing solid state media, while convenient in many respects, offers relatively low storage capacity and relatively poor cost effectiveness. Accordingly, optical media, with its high storage capacity, cost effectiveness and convenience is a complementary product for consumers who desire to store, manage, protect, retrieve and transfer digital data used in conjunction with their digital entertainment devices.
Our Digital Entertainment Solution
The acceptance of relatively new technologies such as data compression technologies, and the widespread availability of digital entertainment media such as music, photos, movies and games are stimulating the proliferation of digital entertainment products. We offer digital entertainment products incorporating these technologies to capitalize on the widespread availability of digital entertainment media. We seek to provide users of our digital entertainment products with enjoyable, user-friendly experiences from products that combine high levels of performance, functionality and reliability at competitive prices.
Some of the data storage products that we offer and plan to offer, such as CD and DVD duplicators and DVRs, can operate as both data storage and digital entertainment products. Due to their versatility, we believe that products that combine data storage and digital entertainment functionality are more attractive to many consumers. Accordingly, we believe that further convergence of data storage and digital entertainment products will offer additional opportunities to satisfy consumer demands and preferences.
To assist us in increasing sales of our digital entertainment products, we intend to emulate many of the methods employed in our data storage business, including our three-brand and “good, better, best” marketing strategies. We also intend to work closely with our retailers and subcontract manufacturers in developing and offering our digital entertainment products for sale.
Our Strategy
Our primary goal is to remain a leading provider of data storage products and to expand our market share in the data storage industry. Our secondary goal is to expand our digital entertainment product line to offer additional products that complement our data storage products. Our business strategy to achieve these goals includes the following elements:
| • | Continue to develop and solidify our North American retail network. We have developed, and plan to continue to develop and solidify, close relationships with leading North American retailers. These retailers carry many of the products we sell, and as we offer both new and enhanced data storage and digital entertainment products, we intend to take advantage of our existing relationships with these retailers to offer these products to consumers. |
| • | Continue to develop and expand strategic relationships. We have developed, and plan to continue to develop and expand upon, our strategic relationships with our subcontract manufacturers, such as BTC and Lung Hwa Electronics in Asia, in order to enhance our product development efforts and benefit from their knowledge of data storage and digital |
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entertainment products. Some of these relationships are particularly strong because some of our important subcontract manufacturers are also our shareholders. By continuing to subcontract manufacture our products, we intend to continue to increase our operating leverage by delivering products incorporating new technology without the substantial investment and fixed costs associated with product development and manufacturing in an industry characterized by rapid product innovation and obsolescence.
| • | Continue to develop and offer high value products. We intend to continue to work in conjunction with our retailers and subcontract manufacturers to enhance existing products and develop new products to satisfy consumer demands and preferences. We believe that our core competencies such as our efficient management of product development and management of our product supply chain will enable us to enhance our products and develop new products in a cost-effective and timely manner. We believe that our target consumers seek high value products that combine performance, functionality and reliability at prices competitive with other leading products offered in the marketplace. We intend to continue to focus on high value product offerings by promoting and offering our products as affordable alternatives to higher-priced products offered by our competitors. |
| • | Increase market share using our three-brand and “good, better, best” approaches. As a result of our close relationships with leading North American retailers and our three-brand and “good, better, best” marketing strategies, we have become a leading provider of data storage products. We plan to continue to focus on increasing our market share for our data storage products and on developing and building market share for our digital entertainment products. As funds become available, we intend to invest in a comprehensive targeted, brand- and product-specific marketing program to further establish awareness of our three brands and our products, and to solidify the confidence of existing users, and attract new purchasers, of our products. We also intend to further expand our “good, better, best” approach throughout our data storage product lines and into our digital entertainment product lines to sell products to consumers with varying needs, preferences and budgets. |
| • | Expand into new sales channels. We plan to expand our market penetration beyond our existing retailers to including corporate and government procurers, value-added resellers and value-added distributors. Our company websites are located at http://www.iomagic.com, http://www.dr-tech.com and http://www.hi-val.com. On these websites, we plan to continue to offer select products for direct purchase by consumers, conduct special promotions, and offer downloads and upgrades to existing and potential purchasers of our products. |
| • | Market products to our existing consumer base. We intend to market new, enhanced and current products to existing purchasers of our products. We believe that we can increase sales of our digital entertainment products by marketing them to existing purchasers of our data storage products, and vice versa, so that purchasers of products of one of our two principal product categories buy products from our other principal product category. In addition, we believe that existing users of our products can be an important source of referrals for potential new purchasers of our products. |
Our Products
We have two product categories: our data storage product category and our digital entertainment product category. Our data storage products consist of a range of products that store traditional PC data as well as music, photos, movies, games and other multi-media. These products are designed principally for general data storage purposes. Our digital entertainment products consist of a range of products that focus on digital music, movies and photos. These products are designed principally for entertainment purposes.
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Our Data Storage Products
Our data storage products are based on one or more of the following technology formats which allow the storage, management, protection, retrieval and transfer of data:
| Technology |
Meaning |
Data Storage and Retrieval Capability(1) | ||
| CD-ROM |
Compact Disc-Read Only Memory | Retrieval only | ||
| CD-R |
Compact Disc-Recordable | Retrieval and single-session storage | ||
| CD-RW |
Compact Disc-Rewritable | Retrieval and multi-session storage | ||
| DVD-ROM |
Digital Video Disc-Read Only Memory | Retrieval only | ||
| DVD-R or DVD+R |
Digital Video Disc-Recordable | Retrieval and single-session storage | ||
| DVD-RW or DVD+RW |
Digital Video Disc-Rewritable | Retrieval and multi-session storage and backward compatibility with CDs | ||
| DVD+/-RW+/-R |
Dual Format Digital Video Disc-Rewritable and Recordable | Retrieval and multi-session storage and backward compatibility with CDs and DVD-Rs | ||
| CD-RW+DVD |
Compact Disc-Rewritable DVD | Retrieval and multi-session storage and backward compatibility with CDs and DVD-ROMs | ||
| DVR |
Digital Video Recorder | Retrieval and multi-session storage and backward compatibility with CDs and DVDs | ||
| (1) | Single-session storage media and devices allow storage on a disc only a single time, whereas multi-session storage media and devices allow repeated storage, erasure and re-storage of data. Backward compatible devices permit the use of media based on older technology in devices employing newer technology, such as DVD-based devices which permit the use of CD media. |
Many of the technologies identified in the table above are competing formats. We seek to deliver data storage products that enable the storage, management, protection, retrieval and transfer of data to and from all major formats to satisfy the needs of consumers regardless of their choice of format. Because certain formats ultimately may be rejected or disfavored by the marketplace, we do not base our products on a single format or on a small number of formats. We seek to offer products that are cross-compatible over numerous formats to offer the most comprehensive solution available to the broadest range of consumers.
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Our data storage products currently include:
| • | Internal and external optical data storage drives based on the following technologies: CD-ROM, CD-RW, DVD-ROM, DVD+R, DVD+RW, DVD+/-RW+/-R or CD-RW+DVD; |
| • | External CD-RW and DVD+RW drives that integrate a recordable drive and a built-in seven-in-one, or 7-n-1, digital media card reader with a proprietary external casing that features a three-way adjustable lighting system allowing the user to adjust the lighting to blue, red or purple, which we call our MediaStation™ devices; our 7-n-1 digital media card reader supports seven different types of solid state memory devices including: CompactFlash, IBM Micro Drive, Multimedia Card, Secure Digital, Memory Stick, Memory Stick Pro and SmartMedia; |
| • | Internal dual format DVD recordable drives that integrate a recordable drive and a built-in 7-n-1 digital media card reader; |
| • | Disc duplicator systems that are stand-alone units that do not require a computer connection and that copy information from a source disc, such as a CD or DVD, to a compatible target disc; |
| • | External Floppy disk drives that integrate a floppy disk drive and a built-in 7-n-1, digital media card reader with a proprietary external casing that features a three-way adjustable lighting system allowing the user to adjust the lighting to blue, red or purple, which we call our DataStation™ devices; and |
| • | Case enclosures for external or portable data storage drives. |
We plan to offer data storage products that use dual-layer DVD technology which is expected to double DVD capacity to approximately 8.5 gigabytes, or 8,500 megabytes, depending on the user’s operating system and other factors. We plan to continue our efforts to enhance our data storage products by increasing performance and functionality as well as reducing the size of their drive units and enclosures to increase portability and ergonomics.
According to NPD Intelect® Market Tracking, sales of recordable CD drives in the North American marketplace declined to approximately $300 million in 2003, representing a 37% decrease from approximately $475 million in 2002. However, this was offset by substantial growth in recordable DVD drives and illustrates the transition from CD-based data storage products to DVD-based devices. According to NPD Intelect® Market Tracking, sales of recordable DVD drives in the North American marketplace increased to approximately $225 million in 2003, representing a 234% increase from approximately $67 million in 2002. Unit sales of DVD recordable drives increased to approximately 1 million units in 2003, representing a 447% increase from approximately 187,000 units in 2002.
We believe that the market for data storage products is undergoing a transition from CD- to DVD-based data storage products. Compared to the CD format, the DVD format enables users to store substantially more data. We intend to continue to closely monitor the data storage market and, if the market continues its shift from CD-based data storage products to DVD-based data storage products, we expect to continue to shift our focus predominately to DVD products.
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Our Digital Entertainment Products
Our existing and planned digital entertainment products include:
| • | MP3 digital audio players; |
| • | 20 gigabyte palm-sized portable external hard drives with built-in 7-n-1 media card readers that facilitate the convenient storage of high-resolution digital music, photos and movies and other data files, enabling the transfer of these files from a flash memory card to a hard drive and eliminating the need for purchasing multiple, less cost-effective flash memory cards; we refer to this system as our Digital Photo Library™ system; |
| • | Six channel digital audio headphones with WinDVD™ software, which is a software-only DVD decoder and application for the PC that allows users to playback DVD movies, MPEG video content, video CDs, or VCDs, and audio CDs on PCs that are equipped with a DVD drive without the need for a hardware decoder card; the headphones and WinDVD™ software support Dolby Digital®/AC-3 surround sound and include a built-in amplifier that allows a user to connect a PC, DVD drive and home theater system into one centralized unit; we refer to these headphones as our Sound Assault™ headphones; |
| • | Do-it-yourself digital photo accessories such as our line of EasyPrint™ products that allow users to create personalized photo frames, key chains, magnets and pocket-sized photo albums from their own digital photos using our proprietary photo-enhancing and printing software; and |
| • | DVRs, which are stand-alone DVD-based video and audio storage and playback devices; DVRs allow users to record movies and other television or video as well as audio content directly onto DVDs and playback that content over a user’s television or other video monitor and sound system. |
We plan to expand our line of digital audio headphones. In addition, we are working with our subcontract manufacturers to develop new MP3 audio players and MP4 video players with imbedded MP3 technology for audio playback.
We believe that the market for digital entertainment products is expanding. We intend to continue to monitor the digital entertainment market and develop products to meet changing demands of the marketplace. Currently, our digital entertainment products represent a relatively new product category. These products accounted for approximately 6% of our net sales during 2003. We expect to continue to allocate resources to this product category to attempt to increase net sales. We believe that our strategic relationships with our retailers and our subcontract manufacturers will further our ability to achieve these goals.
Product Warranties
Each of our products sold to consumers is subject to a minimum warranty of one year. These warranties cover only repair or replacement of the product.
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Product Development
Our product development efforts are directed toward satisfying the demands of the North American marketplace for data storage and digital entertainment products. We operate in industries that are subject to rapid technological change, product obsolescence and rapid changes in consumer demands and preferences. We attempt to anticipate and respond to these changes by focusing on the following primary objectives:
| • | Enhancement of existing products. We seek to increase the performance and expand the functionality of our existing data storage and digital entertainment products to satisfy existing and emerging consumer demands and preferences. Our product enhancement efforts are directed toward, among other things, increasing product storage and retrieval speeds, and enhancing user-friendliness and ease of product installation. These efforts are also aimed at reducing manufacturing costs so that we can maintain and improve gross margins while continuing to offer high-value products to consumers. |
| • | Development of new products. Our new product development efforts are directed toward, among other things, use of existing technology and adoption of new technology to satisfy existing and emerging consumer demands and preferences. Our new product development efforts include implementing existing technology to offer products that are compatible with a wide range of formats. These efforts also include implementing new technology to offer products that deliver better solutions to the core needs of the data storage and digital entertainment marketplaces such as high-capacity, cost-effective, flexible and portable data storage, management, protection, retrieval and transfer. |
Our retailers and our subcontract manufacturers play an important role in the enhancement of our existing products and the development of new products. We work closely with our retailers and our subcontract manufacturers to identify existing market trends, predict future market trends and monitor the sales performance of our products.
Many of our retailers are among the largest computer, consumer electronics and office supply retailers in North America such as Best Buy, Circuit City, CompUSA, Staples, Office Depot and OfficeMax. Through their close contact with the marketplace for data storage and digital entertainment products, our retailers are able to provide us with important information about consumer demands and preferences.
Many of our subcontract manufacturers have substantial product development resources and facilities in Asia, and are among the major component manufacturers in their product categories. Some of our largest subcontract manufacturers are also our shareholders, including BTC and Lung Hwa Electronics. According to industry sources, BTC is among the largest optical storage drive manufacturers in the world and Lung Hwa Electronics is a major manufacturer of digital entertainment products. These subcontract manufacturers expend substantial resources on research, development and design of new technologies and efficient manufacturing processes.
Our Irvine, California headquarters houses a product-development team that coordinates and manages the subcontract logistics and product development efforts of our subcontract manufacturers in Asia. At our Irvine facility, we also develop user manuals, product packaging and marketing literature as well as installation guides and supplemental materials, including software and hardware designed to permit user-friendly product installation.
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Operations
We subcontract manufacture our data storage and digital entertainment products. We believe that by outsourcing the manufacturing of our products to our subcontract manufacturers, we benefit from:
| • | Lower Overhead Costs. By subcontract manufacturing our products we believe that we benefit from lower overhead costs resulting from the elimination of capital expenditures related to owning and operating manufacturing facilities, such as expenditures related to acquiring a manufacturing plant, property and equipment, and staffing, as well as the ongoing cash requirements to fund such an operation. |
| • | Economies of Scale. By subcontract manufacturing our products with some of the largest production facilities available in the industry, we believe that we benefit from our subcontract manufacturers’ economies of scale, which enable us to keep unit production costs low, our supply chain management efficient and our expansion or contraction of product orders flexible in response to changing consumer demands and preferences. |
| • | Engineering and Manufacturing Resources. By subcontract manufacturing our products we believe that we benefit from our subcontract manufacturers’ substantial engineering and manufacturing resources, which aid us in developing product enhancements and new products and enable us to rapidly bring them to market in a cost-effective manner. |
| • | Diversification of Manufacturing Risks. By subcontract manufacturing our products to a group of manufacturers we believe that we are able to diversify the risks associated with employing a single manufacturer. We also believe that we are potentially able to expand our opportunities with respect to new products as they arise by virtue of the varying expertise of those manufacturers. |
| • | Reduction of Potential Liabilities. By subcontract manufacturing our products we believe that we reduce potential significant liabilities associated with direct product manufacturing, including environmental liabilities and liabilities resulting from warranty claims. We believe that the reduction in potential liabilities decreases our business risks and results in tangible economic benefits such as cost savings related to insurance and the operation of compliance programs. |
We believe that the relatively low overhead costs resulting from subcontract manufacturing the products we offer for sale, the economies of scale of our subcontract manufacturers, and the engineering and manufacturing resources of our subcontract manufacturers enable us to offer products combining high levels of performance, functionality and reliability at prices competitive with other leading products offered in the marketplace.
We utilize a subcontract logistics and product development consultant located in Taipei, Taiwan. Our consultant assists us in identifying new products, qualifying prospective manufacturing facilities and coordinating product purchases and shipments from some of our subcontract manufacturers. The majority of our products are shipped directly by our subcontract manufacturers to our packaging, storage and distribution facility in Irvine. These products are then packaged and shipped by us either directly to retail locations across North America or to a centralized distribution center. Product shipments are primarily made through major commercial carriers.
Quality Control
Our primary subcontract manufacturers are among the major computer and electronic component manufacturers in Asia with rigorous quality control and shipping guidelines. We regularly inspect product samples, periodically tour our subcontract manufacturing facilities and monitor defective product returns.
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Sales and Marketing
Three-Brand Marketing Strategy
We employ a three-brand approach to achieve our goal of product differentiation among various sales channels and price points. Our three brands are I/OMagic®, Digital Research Technologies® and Hi-Val®. We sell our data storage products under each of these brands, bundling various hardware devices with different software applications to meet different consumer needs. Currently, our digital entertainment products are sold under our I/OMagic® and Digital Research Technologies® brands. This three-brand approach enables us to provide each of our major industry retailers with their own distinct brand, to differentiate products sold through different channels and to stimulate competition among those channels. This enables us to capture market share and limit some of the negative effects of third-party competition.
“Good, Better, Best” Marketing Strategy
We utilize a “good, better, best” marketing strategy. We believe that this strategy helps us satisfy the demands and preferences of a diverse consumer base by offering a variety of products within some of our product lines. We offer