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EX-32.1 - ZCO LIQUIDATING Corpv222444_ex32-1.htm
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EX-23.2 - ZCO LIQUIDATING Corpv222444_ex23-2.htm
EX-31.2 - ZCO LIQUIDATING Corpv222444_ex31-2.htm


United States
Securities And Exchange Commission
Washington, D.C. 20549
 

 
Form 10-K
 

 
(Mark One)
x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For The Fiscal Year Ended February 28, 2011
 
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 000-53633
 

 
OCZ Technology Group, Inc.
(Exact name of Registrant as specified in its charter)
 

 
Delaware
 
04-3651093
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
   
6373 San Ignacio Avenue
San Jose, California
 
95119
(Address of principal executive offices)
 
(Zip Code)
 
Registrant’s telephone number, including area code: (408) 733-8400
 

 
Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:

Common stock, $0.0025 par value
The NASDAQ Capital Market
(title of each class)
(name of each exchange on which registered)


 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes ¨ No x
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes ¨ No x
 
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 whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§229.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ¨ No ¨

 Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) 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.  Yes x No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check One):

Large Accelerated Filer
¨
Accelerated Filer
¨
Non-Accelerated Filer
¨
Smaller reporting company
x
(do not check if a smaller reporting company)
     
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ¨ No x

Based upon the closing sales price of the Common Stock on The NASDAQ Capital Market on August 31, 2010, the aggregate market value of the voting Common Stock held by non-affiliates of the Registrant was $26.7 million.  Shares of Common Stock held by each executive officer and director and by each person who owns 5% or more of the outstanding Common Stock have been excluded in that such persons are deemed to be affiliates.  This calculation does not reflect a determination that certain persons are affiliates of the Registrant for any other purpose.
 
The number of shares outstanding of the Registrant’s common stock, $0.0025 par value, was 51,382,632 as of May 5, 2011.
 
Documents Incorporated By Reference

None.



 
 

 
 
OCZ Technology Group, Inc.
 
Form 10-K
 
Table of Contents

   
Page
 
Forward Looking Statements
    3  
Part I
       
Item 1.
Business
    4  
Item 1a.
Risk Factors
    14  
Item 1b.
Unresolved Staff Comments
    25  
Item 2.
Properties
    25  
Item 3.
Legal Proceedings
    26  
Item 4.
(Removed And Reserved)
    26  
Part II
       
Item 5.
Market For Registrant’s Common Equity.  Related Stockholder Matters And Issuer Purchases Of Equity Securities
    27  
Item 6.
Selected Financial Data
    30  
Item 7.
Management’s Discussion And Analysis Of Financial Condition And Results Of Operations
    31  
Item 7a.
Quantitative And Qualitative Disclosures About Market Risk
    39  
Item 8.
Financial Statements And Supplementary Data
    40  
Item 9.
Changes In And Disagreements With Accountants On Accounting And Financial Disclosure
    64  
Item 9a.
Controls And Procedures
    64  
Item 9b.
Other Information
    65  
Part III
       
Item 10.
Directors, Executive Officers And Corporate Governance
    66  
Item 11.
Executive Compensation
    71  
Item 12.
Security Ownership Of Certain Beneficial Owners And Management And Related Stockholder Matters
    78  
Item 13.
Certain Relationships And Related Transactions, And Director Independence
    80  
Item 14
Principal Accounting Fees And Services
    80  
Item 15
Exhibits, Financial Statement Schedules
    81  
Part IV
       
Signatures
    82  
 
 
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Forward Looking Statements
 
This Annual Report on Form 10-K, including the following sections, contains forward-looking statements within the meaning of within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”) and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), particularly, our expectations regarding results of operations, our ability to expand our market penetration, our ability to expand our distribution channels, customer acceptance of our products, our ability to meet the expectations of our customers, product demand and revenue, cash flows, product gross margins, our expectations to continue to develop new products and enhance existing products, our expectations regarding the amount of our research and development expenses, our expectations relating to our selling, general and administrative expenses, our efforts to achieve additional operating efficiencies and to review and improve our business systems and cost structure, our expectations to continue investing in technology, resources and infrastructure, our expectations concerning the availability of products from suppliers and contract manufacturers, anticipated product costs and sales prices, our expectations that we have sufficient capital to meet our requirements for at least the next twelve months, and our expectations regarding materials and inventory management.  These forward-looking statements involve risks and uncertainties, and the cautionary statements set forth below and those contained in the section entitled “Risk Factors” identify important factors that could cause actual results to differ materially from those predicted in any such forward-looking statements.  We caution investors that actual results may differ materially from those projected in the forward-looking statements as a result of certain risk factors identified in this Form 10-K and other filings we have made with the Securities and Exchange Commission.  More information about potential factors that could affect our business and financial results is set forth under “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
 
 
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Part I
 
Item 1. Business

General

OCZ Technology Group, Inc., a Delaware corporation (“OCZ”) was formed in 2002.  OCZ has two subsidiaries, OCZ Canada, Inc., a Canadian corporation, and OCZ Technology Ireland Limited, an Irish corporation.  As part of the March 2011 Indilinx acquisition described below, we added subsidiaries in Korea and the USA.   Unless the context requires otherwise, references in this document to “us”, “our” or “we” are to OCZ on a consolidated basis.

In May 2007, we acquired PC Power and Cooling, Inc., a privately-held manufacturer of Power Supply Units (“PSUs”) that was based in San Diego, California.  We now offer both PC Power and Cooling, Inc. and OCZ branded PSUs.  In October 2007, we acquired substantially all of the assets of Silicon Data Inc., doing business as Hypersonic PC Systems, a privately-held manufacturer of high performance gaming PCs and laptops aimed at the computer gaming community that was based in Great Neck, New York.

On March 25, 2011, we acquired Indilinx Co., Ltd., a leading fabless provider of flash controller silicon and software for Solid State Drives (“SSDs”). Indilinx has supplied us with SSD controller technology, which we integrate in many of our SSDs, since 2009. Indilinx was founded in 2006 by a team from Samsung with significant expertise in flash technology. In addition to NAND flash memory, Indilinx’s product line also includes reference designs and software which enable the development and deployment of SSDs into enterprise, consumer, embedded, hybrid storage and industrial markets.
 
Overview
 
We are a leader in the design, manufacture and distribution of high-performance solid state drives, or SSDs. We focus primarily on three market segments: High-Performance and Server, Enterprise and Consumer.
 
 
 
High Performance and Server – Includes servers, workstations and high-performance computing devices primarily used in the enterprise and in specialized environments including technology and aviation
       
 
 
Enterprise – Includes data centers, cloud computing, enterprise computing devices and storage area networks
       
 
 
Consumer – Includes a broad array of consumer devices including PCs, laptops, tablets, gaming devices and mobile handsets
 
Our products provide high-performance SSDs to each of our focus market segments at competitive prices. We sell our SSDs and components directly to enterprise customers and original equipment manufacturers, or OEMs, through our direct sales force, and to other end customers through a channel of systems integrators, IT integrators and fulfillment and retail distributors, including many online retailers that are focused on technology.
 
Historically, we primarily focused on developing, manufacturing and selling high-performance DRAM memory modules to computing enthusiasts through catalog and online retail channels. As the market for SSDs began to develop over the last several years, we have shifted our focus to serve this emerging market as our primary focus. We believe that our strong R&D foundation in memory has provided a solid R&D platform and natural transition to develop our SSD capabilities, given the technological similarities between product categories. We began to implement a strategy to shift our focus towards the emerging SSD market in early 2009, which has resulted in our revenue mix shifting heavily towards SSDs, which became a majority of our business in 2010. In August 2010, we announced that we planned to deemphasize our legacy memory products by discontinuing certain low margin commodity DRAM module products. By February 28, 2011, the end of our fiscal year, we had discontinued our legacy memory products to focus on SSDs in accordance with our previously announced plans in January 2011.  Throughout this period we have continued to invest in R&D surrounding a wide array of SSD types and interfaces and on March 25, 2011, we closed on our previously announced acquisition of Indilinx Co., Ltd., a leading fabless provider of flash controller silicon and software for SSDs.
 
In addition to our SSD product lines, we design, develop, manufacture and sell other high-performance components for computing devices and systems, including thermal management solutions, AC/DC switching power supplies, or PSUs. We offer our customers flexibility and customization by providing a broad array of solutions which are interoperable and can be configured alone or in combination to enable computers to operate faster and more reliably, efficiently and cost effectively. Through our diversified and global distribution channel, we offer approximately 250 products to more than 400 customers, including leading online and offline retailers, OEMs and IT distributers.  Sales to our ten largest customers in 2011 accounted for approximately 49% of our net revenue.  During 2011, revenue from Newegg.com accounted for approximately 17% of our net revenue.  No other customer was responsible for 10% or more of our net revenue.
 
 
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We develop flexible and customizable component solutions quickly and efficiently to meet the ever changing market needs and provide superior customer service.  We believe our high performance computer components offer the speed, density, size and reliability necessary to meet the special demands of:
 
 
industrial equipment and computer systems;
 
 
computer and computer gaming and enthusiasts;
 
 
mission critical servers and high end workstations;
 
 
personal computer (“PC”) upgrades to extend the useable life of existing PCs;
 
 
high performance computing and scientific computing;
 
 
video and music editing;
 
 
home theater PCs and digital home convergence products; and
 
 
digital photography and graphic design workstations.
 
We perform the majority of our research and development efforts in-house, which increases communication and collaboration between design teams, streamlines the development process and reduces time-to-market.

Currently, our products are purchased by over 400 customers, most of which are distributors or etailers in 70 countries.  For our fiscal years ended February 28, 2011, February 28, 2010 and February 28, 2009, our net sales were $190.1 million, $144 million and $156 million, respectively, and our net loss was $30.0 million, $13.5 million and $11.7 million, respectively.

Indilinx Acquisition

On March 25, 2011, we acquired Indilinx Co., Ltd., a leading fabless provider of flash controller silicon and software for SSDs. Indilinx has supplied us with SSD controller technology, which we integrate in many of our SSDs, since 2009. Indilinx was founded in 2006 by a team from Samsung with significant expertise in flash technology. In addition to NAND flash memory, Indilinx’s product line also includes reference designs and software which enable the development and deployment of SSDs into enterprise, consumer, embedded, hybrid storage and industrial markets.

During the years ended December 31, 2010 and 2009, Indilinx had revenues (in Korean Won) of approximately 2.177 billion KRW and 8.510 billion KRW, respectively. Sales to OCZ for those periods amounted to approximately 0.48 billion KRW and 4.81 billion KRW, respectively. In 2008, Indilinx had revenues of 82.5 million KRW. Indilinx had a net loss of 4.075 billion KRW in 2010, net income of 1.465 billion KRW in 2009, and a net loss of 2.122 billion KRW in 2008. As of December 31, 2010, Indilinx had total assets of 11.6 billion KRW and stockholders’ equity of 6.1 billion KRW. Indilinx has historically prepared its financial statements in accordance with Korean GAAP, which differs from US GAAP. As a result, the foregoing numbers and the numbers in the next paragraph, are not indicative of what Indilinx’s results would have been had Indilinx prepared its financial statements in accordance with US GAAP.

Using the March 25, 2011 exchange rate of approximately 1,112 KRW to 1 US Dollar, the total Indilinx revenues for the three years ended December 31, 2010, 2009, and 2008 were approximately $2.0 million, $7.7 million, and $74,000, respectively. Sales to OCZ were approximately $436,000, or 22%, in 2010 and $4.3 million, or 57%, in 2009. Sales in 2008 were immaterial. Indilinx had a net loss of approximately $3.7 million in 2010, a net income of $1.3 million in 2009, and a net loss of $1.9 million in 2008. As of December 31, 2010, Indilinx had total assets of approximately $10.4 million and stockholders’ equity of approximately $5.5 million.

In 2010, we moved much of our controller supply from Indilinx to alternative vendors. This switch was due to a production delay at Indilinx that caused missed product release dates and delays in fulfilling demand. This delay was the primary contributor of Indilinx’s revenue decline from 2009 to 2010.

Indilinx supplies controllers for our Vertex, Z-drive and Colossus series of SSDs, and supplies controllers for our SSDs that are components of our customers’ end products. We will continue to produce, supply and support the Indilinx product line for current customers, which include other SSD manufacturers and OEMs on a global basis. We expect to benefit from Indilinx’s strong technology position and R&D capabilities. Indilinx has 20 awarded or filed patents related to its controller technology, and we expect to utilize this technology across a broader portion of our product line, including our enterprise SSD products. In addition to enhanced product capabilities through integrated controller functionality, we expect to improve our SSD product gross margins through vertical integration.

Indilinx is headquartered in Seoul, South Korea and has additional offices in Milpitas, California and Taipei, Taiwan. We have added approximately 45 employees through our Indilinx acquisition, the majority of which are R&D employees and located in South Korea. We expect to retain Indilinx’s employees, including Bumsoo Kim, Founder and President of Indilinx and Hyun Mo Chung, Indilinx’s Chief Technology Officer who are now officers of OCZ.
 
 
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The purchase price was $32.3 million which was paid in 4,160,630 shares of our common stock and $569,343 in cash.
 
Our Product Groups
 
We operate in a single industry segment and have three product groups, consisting of SSD, Memory and Power Supplies. The following table summarizes our revenues by product group, which are described in each of the subsequent product group segment discussions:
 
   
Fiscal Year Ended February 28,
 
   
2011
   
2010
   
2009
 
Revenues
 
(Dollars in millions)
 
SSD
  $ 133.2       70.0 %   $ 43.5       30.2 %   $ 12.4       7.9 %
Memory
    35.8       18.9       71.5       49.7       99.1       63.6  
PSU/Other
    21.1       11.1       29.0       20.1       44.5       28.5  
Total Revenues
  $ 190.1       100.0 %   $ 144.0       100.0 %   $ 156.0       100.0 %
 
Solid State Drives (SSD)
 
Our SSD products are primarily used in computers, servers, data storage systems and industrial equipment that require increased speed, lower power consumption or increased reliability. Our products are available with a variety of interfaces, the majority of which are PCIe, SATA and SAS, and also include PATA, USB, IE 1394 and mini PCIe. Our drives are manufactured in a variety of form factors, including 3.5 inch and 2.5 inch, as well as card based and external. Our SSD drives leverage our proprietary Virtual Controller Architecture, or VCA, and firmware, which enable us to differentiate our products by delivering high performance enterprise-class characteristics at a low cost by using commodity components.
 
Memory
 
By February 28, 2011, in accordance with our previously announced plans, we had discontinued our legacy memory products in order to allocate our resources to our SSD products. Our Memory product line consisted of DRAM memory modules utilizing a wide range of DRAM technologies from legacy DDR SDRAM (double data rate synchronous dynamic random access memory) to leading-edge high performance DDR3 SDRAM devices, the evolutionary improvements over DDR SDRAM. We expect to derive very little, if any, revenue from our legacy memory business in the future.
 
Power Supplies
 
We manufacture power supplies that are designed to power computers and industrial devices while maintaining interoperability with other system components, adhering to industry standards and increasing output efficiency through superior design. Our power supplies are designed to operate at higher temperatures and under more demanding internal conditions with stricter load regulation than is required under normal circumstances. Power supplies are sold under both the OCZ and PC Power & Cooling brands, and are able to address a wide range of applications from gaming to servers.

Industry Overview
 
SSDs use flash memory chips, rather than the rotating platters used by hard disk drives (“HDDs”), to store data.  Flash memory is a type of non-volatile memory, meaning that it can continue to store information even when the power is turned off.  It also allows information to be erased and rewritten.  SSDs based on flash memory have a number of unique advantages over conventional hard disk drive technology and represent the next step in the evolution of storage technology:
 
 
faster start-up because, unlike HDDs, there is no spinning disk;
 
 
at least 10x faster than HDDs, allowing quicker access to the stored data, because no read/write head is required;
 
 
high mechanical reliability and durability due to lack of moving parts;
 
 
far more resistant to the failure due to shock, high altitude, vibration, humidity, and extreme temperature;
 
 
less failure while writing or erasing data, which translates into lower chance of irrecoverable data damage; and
 
 
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require less power to operate and generate less heat than that of conventional hard disk drives, resulting in decreased power consumption specifically in data centers, which reduces operating costs significantly for data center operators.  The reduced power consumption also makes SSDs ideal for use in laptop computers and appliances where battery life is a consideration.
 
hard-disk
 
Note the numerous mechanical parts included in the traditional hard disk drive shown above on the left picture.  Solid state drives, pictured on the right, have no moving parts. 
 
We believe the advantages of SSD technology are particularly beneficial to at least five distinct market segments:
 
 
enterprise storage and video-on-demand (VoD) applications;
 
 
military and industrial applications;
 
 
servers and workstations;
 
 
portable, ULPC and desktop PCs; and
 
 
consumer related markets.
 
Solid State Drives
 
 
The worldwide market for SSDs continues to grow rapidly and is becoming increasingly accepted as a mainstream storage device across broad market segments. The need for data storage has continued to grow rapidly in recent years due to the growth in the volume of data produced and shared as well as the increase in computing, networking and cloud architectures. Further, enterprises are increasingly dependent on their collection and analysis of data, which has placed increased demand on both higher performing and more reliable data storage devices. The high growth of devices accessing data across both Enterprise and Consumer segments has also increased the need for faster access to information.
 
SSDs have gained market acceptance across High-Performance and Server, Enterprise and Consumer markets recently, which had been dominated by traditional mechanical hard disk drives, or HDDs. Growing evidence that SSDs are making inroads includes the availability of the offerings in notebook and netbook PCs, blade servers, and enterprise storage systems.  As the benefits of deploying SSDs increase and outweigh the lower price benefits of HDDs, many segments of the market have rapidly shifted to adopt this new SSD technology. Historically, cost effectiveness on a per gigabyte basis limited the adoption of SSDs across all market segments. SSD manufacturers have increasingly incorporated the use of MLC and eMLC NAND flash memory, which has allowed manufacturers to lower their total bill of materials cost and enabling the products to be priced competitively with HDDs. MLC, or multi-level cell, is a memory element capable of using multiple levels of a cell to store information, as opposed to older SLC, or single-level cell memory. The use of multiple levels of a cell increases total usable capacity and decreases latency when accessing stored data. As the price per gigabyte of SSDs continues to decline and relative performance continues to improve, SSD adoption is expected to accelerate.
 
Technological advancements and evolutionary trends have spurred the market adoption of SSDs including improved performance, endurance, and reliability. One of the major technological advancements includes the introduction of sophisticated tiering software in data storage systems, the advancement of controller and firmware technologies and the broadened mix of interface technologies addressable with SSDs. Tiering software has added intelligence to the datacenter and storage stack, allowing applications to automatically recognize and differentiate frequently used data from less frequently used data. Tiering allows for frequently used data to be directed towards SSDs, where rapid access is a principal requirement. This allows users to retrieve data and run applications with the lowest possible latency by leveraging the improved performance of SSDs to manage mission-critical functions. Secondly, advancements in controller and firmware have provided SSDs with many of the advanced features that define HDDs’ value proposition and critical features. These features include drive bootability, error correction and TRIM support. TRIM support is an active optimization used with SSDs where a drive can automatically wipe inactive data, boosting capacity and speed while preserving active data on the drive. Controller and firmware technology allows SSD manufacturers to enhance the performance characteristics of SSD components. Lastly, the broadened range of interfaces compatible with SSDs has increased adoption, particularly in the enterprise market. Common interfaces such as SAS, SATA and PCIe are expected to dominate enterprise SSD deployments in the future.
 
 
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 Enterprise SSDs
 
The enterprise segment is comprised of high performance servers (a form of specialized computer), storage arrays (banks of independently housed hard drives or SSDs) and network equipment.  Performance is paramount to this segment of the market.  Traditional enterprise storage solutions make use of HDDs, whose ability to input and output data is limited by the maximum speed of about 15,000 RPM with which the disk can rotate.  To work around the speed limitations of HDDs, existing solutions employ complex strategies to speed up access to data on disk such as “striping” or “short-stroke”.  Although such strategies increase the speed with which data can be read from and written to the disk they also reduce the usable capacity of each disk.  Less capacity per disk creates a need for additional disks to achieve a desired total capacity.  SSDs also have faster read and write speeds, at least 10x that of HDDs, according to Laptop Advisor and Gartner, an independent analysis firm.  Also, while HDDs are highly economic on a cost per amount of storage basis at the time of purchase, the total cost of ownership of an enterprise storage solution is heavily influenced by the power consumption and heat generation.  Without moving parts, SSDs require significant less power to operate compared to HDDs.  This means less heat generation, which in turn means lower power requirement for cooling at the system level.  Reduced power consumption and cooling requirements for the datacenter translate into lower datacenter operating costs.
 
We have focused on gaining market-share within the enterprise segment of the SSD market, which we believe will be the highest margin segment of the market.  Our products are designed to address what we believe to be the key challenges enterprises currently face with regard to high performance storage solutions: performance, reliability, power consumption, and cooling requirements.  At this time we believe OCZ, STEC, Toshiba and Fusion I/O are among the vendors currently shipping enterprise-ready SSD products.
 
Power Supply Units
 
Power supply units are the main source of conversion between main alternating current and the direct current used by computers and other electronic devices.  As modern electronics, computers, servers and workstations become more complicated, the increased power handling and efficiency of AC/DC conversion become paramount.  Key drivers in the power supply unit industry are the release of new PCs and industry standards, as well as growing regulatory requirements in the European Union, North America and Japan for increased power consumption.  
 
Thermal Management
 
A computer system’s components produce large amounts of heat during operation, including integrated circuits such as central processing units (“CPUs”), chipset and graphics cards, along with hard drives.  This heat must be dissipated in order to keep these components within their safe operating temperatures.  This is done mainly using heat sinks to increase the surface area which dissipates heat, and, separately, fans to speed up the exchange of air heated by the computer parts for cooler ambient air.  
 
The OCZ Solution
 
We design, develop, manufacture and distribute a broad range of SSDs for the High-Performance and Server, Enterprise and Consumer markets. We believe our primary competitive advantages arise from our internal R&D expertise and the ability to capitalize on that expertise to develop differentiated solutions for our customers. This has enabled us to incorporate advanced functionality and capabilities and to develop and commercialize products that are optimized for our customers’ requirements quickly and efficiently. Our solutions offer key benefits to our customers including:
 
 
 
Broad spectrum of SSD solutions, interfaces and form factors – We have a broad array of SSD products that we market to High-Performance and Server, Enterprise and Consumer markets. Our products address the SSD requirements of customers including consumer electronics, workstations, servers and data storage. Our products are offered in a wide range of form factors and interfaces, including SAS, SATA and PCIe interfaces. In addition, we are one of the few SSD companies to own and vertically integrate commercialized controller technology with our acquisition of Indilinx.
       
 
 
Superior performance at lower price points – Our Virtualized Controller Architecture(“VCA”) and firmware incorporates proprietary technology and design to pool resources to create a “super controller.” This pooling of resources delivers an increase in raw performance beyond standard single-chip solutions and enables additional features not available on other multi-chip solutions. VCA supports a broad range of interfaces with minimal software porting. In addition, our acquisition of Indilinx provides proprietary controller technology and engineering resources which we intend to incorporate into a broader portion of our product line.
       
 
 
Compelling value proposition versus legacy HDDs – Our broad array of SSD products provides significant performance advantages as compared to HDDs, and our incorporation of MLC-based technology increases our ability to compete on price as well. Performance advantages of SSDs as compared to HDDs include increased reliability, less thermal emissions, up to 90% less power consumption, speeds that are 10x faster and improved durability.
 
 
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Leading R&D capabilities – Our leading R&D expertise and superior design capabilities enable us to quickly launch new products with short introduction schedules compared to many of our competitors. We have had many disruptive product introductions, including the first bootable PCIe SSD, the first product line with comprehensive interface capabilities, including SATA, SAS, USB, FC, and PCIe, and the industry’s first optical HSDL product which provides high capacity I/O at high speeds. Our acquisition of Indilinx adds significant resources to our R&D team, increasing our R&D capabilities significantly.
       
 
 
Fully-integrated manufacturing provides visibility – We own, manage and fully-integrate all of our manufacturing, allowing us to provide a high degree of visibility to our customers, control the quality of products we deliver, and customize products to accommodate specific customer design requirements. Our acquisition of Indilinx will provide us further control of our supply chain and allow us to create customized controllers. In addition, we have an extensive distribution network through channel partners.

Flexible and Customizable Component Solutions
 
We provide flexible and customizable component solutions to address the specific application needs of our end users.  Our design principles allow us to develop proprietary components to deliver a broad range of products with superior features.  As of our fiscal year ended February 28, 2011 we offered over 250 products.
 
Rapid Time to Market
 
We strive to reduce the design and development time required to incorporate the latest technologies and to deliver the next generation of products and solutions.  Our in-house design competencies and control of the design of many of the pieces used within our component solutions enable us to rapidly develop, build and test components.

Extensive Distribution Channels
 
We have built a diverse and extensive distribution network reaching a wide range of customers in 70 countries.  This network includes traditional retailers and etailers, as well as OEMs, systems integrators and distributors.
 
Strategic Relationship
 
We have engineering and marketing relationships (for example, being a nominated “solutions partner” or “certified supplier”) with certain motherboard manufacturers and integrated circuit manufacturers and chipset/platform providers such as Advanced Micro Devices, Inc., NVIDIA Corporation, ASUS, Gigabyte Technology, ASRock, and MSI Computer Corporation.  We believe that these relationships enable us to respond to changing consumer needs, to develop product ranges which are compatible with multiple platforms and to develop other products designed to obtain optimum performance from a specific platform.
 
Customer Service
 
We seek to build brand loyalty by offering product warranties, comprehensive return and replacement policies and accessible technical support.  Members of our customer service staff have technical expertise which we believe supports us in maintaining our reputation for technical expertise and attentive customer care.
 
Strategy
 
Our objective is to leverage our R&D expertise, design capabilities and advanced technology and IP to become the leading supplier of SSDs. The principal elements of our strategy are:
 
 
 
Capitalize on our early commercial leadership in SSDs We have been an early innovator in the SSD market, and today we are among the largest pure-play SSD providers. We have built a strong brand through recognition of our numerous product awards, and have become a recognized leader in the SSD market. We intend to capitalize on this market leadership to further build our brand equity, deliver new products to our customers, increase market share and grow our revenues.
       
 
 
Extend R&D leadership and product development Our heritage is in strong R&D capabilities, and we intend to continue to focus on that core capability. We have produced a strong set of leading SSD products that are a result of our R&D and design capabilities. We intend to further enhance and extend our product line through continued R&D.
 
 
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Build our direct Enterprise and OEM customer relationships We began selling memory and components through retail channels, which remain strong customers for our SSD products. Additionally, we plan to build on our network of enterprise and OEM relationships, which have had strong interest in and adopted certain of our SSD products. We intend to further strengthen these relationships and develop additional relationships over time to increase our market share and drive our revenue growth.
       
 
 
Leverage our expanded manufacturing capacity to meet growing SSD demand –We recently expanded our manufacturing capabilities at our Taiwan facility and have reallocated capacity from our discontinued memory business to serve growing SSD demand. We intend to leverage this increased capacity to meet the strong demand for our products.
       
 
 
Strengthen our capital base to increase revenue and margin We intend to strengthen our capital base, which will provide working capital and capital assets to allow us to fulfill current demand for our products. In addition to growing revenue by more efficiently fulfilling orders, increased working capital will provide the flexibility to source flash memory more efficiently by buying in quantity and directly from flash manufacturers at more attractive prices rather than relying on resellers, which should allow us to increase our gross margins.

Our Products and Services
 
We provide our customers with a variety of advanced technological products, including:
 
Solid State Storage and Other Flash Memory Based Products
 
We design and manufacture flash storage products in a broad variety of forms and capacities.  Our wide range of flash storage products come in a variety of formats and interfaces.  Our SSD products are predominantly used in computers, servers and industrial equipment that require increased speed, lower power consumption and or increased reliability.  Our Solid State Storage products are available with a variety of interfaces including PCIe, SATA, PATA, USB, IE 1394, SAS and mini PCIe and in various form factors, including 3.5 inch, 2.5 inch as well as card based and external (pen drive based formats). 
 
The following table summarizes certain of our Solid State Drive offerings:

Product (Interfaces)
 
Density
 
Features
 
Applications
MLC- Based Solid State Disk Drives (SATA II, SATA III, PCIe, SAS, PATA, mSATA, HSDL)
 
Up to 2TB
 
Low power consumption Read/write speeds up to 1.3GB/s
 
Consumer, Mobile computing, PCs, High Performance and Server
             
SLC-Based Solid State Disk Drives (SATA II, SATA III, PCIe, SAS, FC)
 
Up to 1.2TB
 
Low power consumption Read/write speeds up to 1.3GB/s, Lower latency, Enhanced endurance and reliability
 
Enterprise, High Performance Computing, Servers, Workstations, Storage area Networks, Data Centers, Cloud Computing
             
USB Drives & Portable SSDs (USB 2.0, USB 3.0)
 
128MB -128GB
 
260MB per second read/write
 
Mobile computing, PCs
 
Power Supply
 
We manufacture power supplies that are designed to power computers and industrial devices while maintaining interoperability, adhering to industry standards and increasing output efficiency through design.  Our power supplies are designed to operate at higher temperatures and under more demanding internal conditions with stricter load regulation than is required under normal circumstances.
 
The following table contains some of our power supply product offerings:

Product
 
Density
 
Features
 
Applications
High Wattage Power Supplies
 
Up to 1200 watts
 
50 C operation, 80%+ efficiency and 1% load regulation, multiple formats
 
OEM applications servers, workstations, storage area networks, high performance computing
             
Low Noise Power Supplies
 
Up to 750 watts
 
Low audible noise
 
PCs and video/audio workstations, home theater PCs
             
Modular PSUs
 
Up to 1000 watts
 
Removable reconfigurable cables
 
End-user upgrades, overclocking and case modding, gaming computers and home theater PCs
             
High Efficiency PSUs
 
Up to 1000 watts
 
Green friendly with 85% plus efficiency
 
End-user upgrades, gaming computers and home theater PCs
 
 
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Thermal Management
 
We design, manufacture and sell various computer related thermal management products that sell through substantially the same sales channel as other OCZ products.  These products take advantage of OCZ developed technology and concepts in order to deliver products that our customer base requests or that we believe they will have interest in.

Suppliers
 
We do not have any long term supplier contracts or obligations to purchase raw materials.
 
Manufacturing
 
  Our products are built to our requirements and specifications in our own facilities as well as at several contract-manufacturing facilities in the United States and Taiwan.  In order to maintain quality control, products are tested when they reach the point of final assembly at our premises.  Certain items are purchased from several manufacturers with final assembly, testing and packaging completed in our in-house manufacturing facilities.
 
In September 2007, we established our own testing and manufacturing facilities in Taiwan, followed by the addition, in August 2008, of our own surface mount assembly equipment.  In October 2010 we announced the opening of a new testing and SSD manufacturing plant in Taipei, Taiwan.  This facility increases OCZ’s SSD manufacturing capacity to 140,000 units a month from 50,000 units a month helping to accommodate the demand for both client and enterprise OCZ SSDs.  The establishment of our manufacturing facilities has helped improve and expand our ability to manufacture certain key components and products.
 
Research and Development
 
We believe that the timely development of new products is essential to maintaining our competitive position.  Our research and development activities are focused primarily on new high-speed SSDs memory modules, power supplies and ongoing improvement in manufacturing processes and technologies and continual improvement in test routines and software.  We plan to continue to devote research and development efforts to the design of new products which address the requirements of our target markets.
 
Our engineering staff continually explores practical applications of new technologies, works closely with our customers and provides services throughout the product life cycle, including architecture definition, component selection, schematic design, layout, manufacturing and test engineering.  We design our products to be compatible with existing industry standards and, where appropriate, develop and promote new standards.  An important aspect of our research and development effort is to understand the challenges presented by our customers’ requirements and satisfy them by utilizing our industry knowledge, proprietary technologies and technical expertise.
 
Our research and development expenses totaled $7.7 million, $5.3 million and $2.6 million in the fiscal years ended February 28, 2011, February 28, 2010 and February 28, 2009, respectively.
 
Intellectual Property
 
We protect our intellectual property through a variety of measures, including trade secrets, non-disclosure agreements, trademarks, copyrights and patents. Currently, we have five patents issued in the United States, one additional patent granted in Australia which is still pending in the US, one notice of allowance received and several office actions of pending applications by the patent office requiring relatively minor amendments. The total number of pending US applications is presently over 50 with new applications being filed on a regular basis.
 
 
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Competition
 
The market for our products is highly competitive, rapidly evolving and subject to new technological developments, changing customer needs and new product introductions.  We compete primarily with large vendors of computer components, and to a lesser extent, large vendors of PCs.  In addition, we also compete with a number of smaller vendors who specialize in the sale of high performance products and computer systems and components.

We believe our principal competitors include:

 
specialized solid state storage makers such as Fusion-io, Inc., Pliant Technology, SMART Modular Technologies Inc., and STEC, Inc.;

 
global technology vendors such as Intel Corporation and Samsung Electronics Co., Ltd.;

 
specialized power supply chassis and cooling manufacturers such as Antec, Inc., Thermaltake Technology Inc. USA and Enermax Technology Corporation; and

 
We may also compete with, among others, Hitachi, Ltd., Micron Technology, Inc., SanDisk Corporation, Seagate Technology, Toshiba, and Western Digital.
 

We believe that the principal competitive factors in our target markets include the following:

 
first to market with new emerging technologies;

 
flexible and customizable products to fit customers’ objectives;
 
 
high product performance reliability;
 
 
early identification of emerging opportunities;
 
 
cost-effectiveness;
 
 
interoperability of products;
 
 
scalability; and
 
 
localized and responsive customer support on a worldwide basis.
  
We believe that we compete favorably with respect to most of these factors.  However, most of our competitors have longer operating histories, significantly greater resources and greater name recognition.  They may be able to devote greater resources to the development, promotion and sale of their products than we can, which could allow them to respond more quickly to new technologies and changes in customer needs.
 
Backlog
 
Sales of our products are generally made pursuant to purchase orders.  We include in backlog only those customer orders for which we have accepted purchase orders and to which we expect to ship within 45 days.  Since orders constituting our current backlog are subject to changes in delivery schedules or cancellation with only limited or no penalties, we believe that the amount of our backlog is not necessarily an accurate indication of our future net sales.
 
Employees
 
As of our fiscal year ended February 28, 2011, we employed 422 full-time employees, of which 272 were in general and administration (including operations, finance, administration, information technology, quality assurance, procurement and materials work), 92 were in research and development, and 58 were in sales and marketing.  Our employees are not represented by any collective bargaining agreements and we have never experienced a work stoppage.  The majority of our employees are located in San Jose and Carlsbad, California; Ontario, Canada; Waddinxveen, the Netherlands, and Taipei, Taiwan.
 
Environmental Matters
 
Our business involves purchasing finished goods as components from different vendors and then integration of these components into system level finished products of our own design at our facilities.  Accordingly, we are not involved in the actual manufacturing of components, which can often involve significant environmental regulations with respect to the materials used, as well as work place safety requirements.  Our operations and properties, however, are subject to domestic and foreign laws and regulations governing the storage, disposal and recycling of computer products.  For example, our products may be subject to the European Union’s Directive 2002/96/EC Waste Electrical and Electronic Equipment and Directive 2002/95/EC on Restriction on the Certain Hazardous Substances in Electrical and Electronic Equipment.  To date, we have not been the subject of any material investigation or enforcement action by either U.S. or foreign environmental regulatory authorities.  Further, because we do not engage in primary manufacturing processes like those performed by our suppliers who are industrial manufacturers, we believe that costs related to our compliance with environmental laws should not materially adversely affect us.
 
 
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Available Information
 
Our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 12(a) or 15(d) of the Securities Exchange Act of 1934, as amended are available free of charge on our website (www.ocztechnology.com under the “Investor Relations – Regulatory Info – SEC Filings” caption) as soon as reasonably practicable after we electronically file such material with, or furnish it to, the Securities and Exchange Commission (the “SEC”).  The contents of our web site are not intended to be incorporated by reference into this report or in any other report or document we file or furnish, and any references to our web site are intended to be textual references only.
 
The public may also read or copy any materials that we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, D.C. 20549.  The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1.800.SEC.0330.  The SEC maintains a website that contains reports, proxy and information statements, and other information regarding issuers, including OCZ, that file electronically with the SEC.  The address of the website is http://www.sec.gov.
 
 
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Item 1a. Risk Factors
 
In addition to the other information described elsewhere in this Annual Report, you should carefully consider the following risk factors, which could materially adversely affect our business, financial condition and results of operations.  The risks described below are not the only risks facing OCZ.  Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial may materially adversely affect our business, financial condition and results of operations.
 
Risks Related to Our Business
 
We are subject to the cyclical nature of the markets in which we compete and a continued downturn could adversely affect our business.
 
The markets in which we compete, including SSDs, flash, thermal management and power supply markets, are highly cyclical and characterized by constant and rapid technological change, rapid product obsolescence and price erosion, evolving standards, short product life cycles and wide fluctuations in product supply and demand. These markets have experienced significant downturns often connected with, or in anticipation of, maturing product cycles of both manufacturers’ and their customers’ products and declines in general economic conditions. These downturns have been characterized by diminished product demand, production overcapacity, high inventory levels and accelerated erosion of average selling prices.
 
Our historical operating results have been subject to substantial fluctuations and we may experience substantial period-to-period fluctuations in future operating results. A downturn in these markets could have a material adverse effect on the demand for our products and therefore a material adverse effect on our business, financial condition and results of operations. Moreover, changes in end-user demand for the products sold by any individual customer can have a rapid and disproportionate effect on demand for our products from that customer in any given period, particularly if the customer has accumulated excess inventories of products purchased from us. Our net sales and results of operations could be materially and adversely affected in the future due to changes in demand from individual customers or cyclical changes in the industries utilizing our products.
 
We have experienced quarterly and annual losses in the past and may experience losses in the future.
 
We have experienced losses on a quarterly and annual basis in the past. We have expended, and will continue to expend, substantial funds to pursue engineering, research and development projects, enhance sales and marketing efforts and otherwise operate our business. We may not be profitable on a quarterly or annual basis in the future.
 
Sales to a limited number of customers represent a significant portion of our net sales, and the loss of any key customer would materially harm our business.
 
Our dependence on a limited number of customers means that the loss of a major customer or any reduction in orders by a major customer would materially reduce our net sales and adversely affect our results of operations. We expect that sales to relatively few customers will continue to account for a significant percentage of our net sales for the foreseeable future. However, these customers or our other customers may not use our products at current levels in the future, if at all. We have no firm, long-term volume commitments from any of our major customers and we generally enter into individual purchase orders with our customers, in certain cases under master agreements that govern the terms and conditions of the relationship. We have experienced cancellations of orders and fluctuations in order levels from period to period and expect that we will continue to experience such cancellations and fluctuations in the future. Customer purchase orders may be cancelled and order volume levels can be changed, cancelled or delayed with limited or no penalties. We may not be able to replace cancelled, delayed or reduced purchase orders with new orders.
 
For our fiscal years ended February 28, 2011, February 28, 2010 and February 28, 2009, our ten largest customers accounted for 49%, 51% and 49% of net sales, respectively. For our fiscal years ended February 28, 2011, February 28, 2010 and February 28, 2009, NewEgg accounted for 17%, 19% and 19% of our net sales, respectively. During each of these periods, no other customers accounted for more than 10% of our net sales.
 
Our dependence on a small number of suppliers for components, including integrated circuit devices, and inability to obtain a sufficient supply of these components on a timely basis could harm our ability to fulfill orders and therefore materially harm our business.
 
Typically, integrated circuit, or “IC”, devices represent a significant majority of our component costs for our SSD products. We are dependent on a small number of suppliers that supply key components used in the manufacture of our products. Since we have no long-term supply contracts, our suppliers may not supply the quantities of components we may need to meet our production goals. Samsung, Toshiba and Intel currently supply substantially all of the IC devices used in our Flash memory products.
 
Additionally, because of constraints on working capital, we have delayed payments to a number of vendors which could have an adverse effect on our ability to source product. Moreover, from time to time, our industry experiences shortages in IC devices and foundry services which have resulted in foundries putting their customers, ourselves included, on component allocation. While to date neither delayed payment nor component shortages has disrupted our business in a material way, in the future, we may not be able to obtain the materials that we need to fill orders in a timely manner or at competitive prices. As a result, our reputation could be harmed, we may lose business from our customers, our revenues may decline, and we may lose market share to our competitors.
 
 
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Our customers are primarily in the computing markets and fluctuations in demand in these markets may adversely affect sales of our products.
 
Sales of our products are dependent upon demand in the computing markets. We may experience substantial period-to-period fluctuations in future operating results due to factors affecting the computing markets. From time to time, these markets have experienced downturns, often in connection with, or in anticipation of, declines in general economic conditions. A decline or significant shortfall in demand in any one of these markets could have a material adverse effect on the demand for our products and therefore a material adverse effect on our business, financial condition and results of operations.
 
Customer demand is difficult to accurately forecast and, as a result, we may be unable to optimally match production to customer demand.
 
We make significant decisions, including determining the levels of business that we will seek and accept, production schedules, component procurement commitments, personnel needs and other resource requirements, based on our estimates of customer’s future requirements. The short-term nature of commitments by many of our customers and the possibility of unexpected changes in demand for their products reduces our ability to accurately estimate future customer requirements. On occasion, customers may require rapid increases in production, which can challenge our resources and can reduce margins. We may not have sufficient capacity at any given time to meet our customers’ demands. Conversely, downturns in the markets in which our customers compete can, and have, caused our customers to significantly reduce the amount of products ordered from us or to cancel existing orders leading to lower-utilization of our facilities. Because many of our costs and operating expenses are relatively fixed, reduction in customer demand would have an adverse effect on our gross margins, operating income and cash flow.
 
During an industry downturn, there is also a higher risk that our trade receivables would be uncollectible, which would be materially adverse to our cash flow and business.
 
Order cancellations or reductions, product returns and product obsolescence could result in substantial inventory write-downs.
 
To the extent we manufacture products in anticipation of future demand that does not materialize, or in the event a customer cancels or reduces outstanding orders, we could experience an unanticipated increase in our inventory. Slowing demand for our products may lead to product returns which would also increase our inventory. In the past, we have had to write-down inventory due to obsolescence, excess quantities and declines in market value below our costs.
 
We may be less competitive if we fail to develop new or enhanced products and introduce them in a timely manner.
 
The markets in which we compete are subject to rapid technological change, product obsolescence, frequent new product introductions and enhancements, changes in end-user requirements and evolving industry standards. Our ability to successfully compete in these markets and to continue to grow our business depends in significant part upon our ability to develop, introduce and sell new and enhanced products on a timely and cost-effective basis, and to anticipate and respond to changing customer requirements. In the past, we have had revenue fluctuations in our Indilinx product revenue due to product delays, and similar delays could occur again in the future.
 
The markets for our products are characterized by frequent transitions in which products rapidly incorporate new features and performance standards. A failure to develop products with required feature sets or performance standards or a delay as short as a few months in bringing a new product to market could significantly reduce our net sales for a substantial period, which would have a material adverse effect on our business, financial condition and results of operations.
 
We have experienced, and may in the future experience, delays in the development and introduction of new products. These delays could provide a competitor a first-to-market opportunity and allow a competitor to achieve greater market share. Defects or errors found in our products after commencement of commercial shipment could result in delays in market acceptance of these products. Lack of market acceptance for our new products will jeopardize our ability to recoup research and development expenditures, hurt our reputation and harm our business, financial condition and results of operations. Accordingly, our future product development efforts may not result in future profitability or market acceptance.
 
The markets in which we compete are constantly evolving and competitive, and we may not have rights to manufacture and sell certain types of products utilizing emerging formats, or we may be required to pay a royalty to sell products utilizing these formats.
 
The markets in which we compete are constantly undergoing rapid technological change and evolving industry standards. For example, many consumer devices, such as digital cameras, PDAs and smartphones, are transitioning to emerging flash memory formats, such as the Memory Stick and xD Picture Card formats, which we do not currently manufacture and do not have rights to manufacture, and which could result in a decline in demand, on a relative basis, for other products that we manufacture such as CompactFlash and secured digital USB drives. If we decide to manufacture products utilizing emerging formats such as those mentioned, we will be required to secure licenses to give us the right to manufacture such products which may not be available at reasonable rates or at all. If we are not able to supply formats at competitive prices or if we were to have product shortages, our net sales could be adversely impacted and our customers would likely cancel orders or seek other suppliers to replace us.
 
Our growth strategy includes expanding our presence in the SSD market which is highly competitive.
 
The SSD market is highly competitive. Certain of our competitors are more diversified than us and may be able to sustain lower operating margins in their SSD business based on the profitability of their other businesses. We expect competition in this market to increase as existing manufacturers introduce new products and process technologies, new manufacturers enter the market, industry-wide production capacity increases and competitors aggressively price products to increase market share. We only have limited experience competing in this market. Our growth strategy includes expanding our presence in this market, and we may not be successful in doing so.
 
 
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The market for enterprise Flash-based SSD products is relatively new and evolving, which makes it difficult to forecast end user adoption rates and customer demand for our products.
 
The enterprise Flash-based SSD market is new and rapidly evolving. As a result, we may encounter risks and uncertainties related to our business and future prospects. It is difficult to predict, with any precision, end user adoption rates, customer demand for our products or the future growth rate and size of this market. The rapidly evolving nature of the markets in which we sell our products, as well as other factors that are beyond our control, reduce our ability to accurately evaluate our future outlook and forecast quarterly or annual performance. Furthermore, our ability to predict future sales is limited and our SSD product may never reach mass adoption.
 
Industry consolidation could adversely affect our business by reducing the number of our potential significant customers and increasing our reliance on our existing key customers.
 
Many significant participants in our customers’ industries are merging and consolidating as a result of competitive pressures and we expect this trend to continue. Consolidation will likely decrease the number of potential significant customers for our products and services. Fewer significant customers will increase our reliance on key customers and, due to the increased size of these companies, may negatively impact our bargaining position and profit margins. Consolidation in some of our customers’ industries may result in increased customer concentration and the potential loss of customers. The loss of, or a reduced role with, key customers due to industry consolidation could negatively impact our business.
 
We may make acquisitions that involve numerous risks. If we are not successful in integrating an acquisition, our operations may be adversely affected.
 
As part of our business and growth strategy, we expect to acquire or make significant investments in businesses, products or technologies that allow us to complement our existing product offering, expand our market coverage, increase our engineering workforce or enhance our technological capabilities. For example in 2007, we acquired PC Power and Cooling, Inc., a producer of PC thermal management products, and substantially all the assets of Silicon Data Inc., doing business as Hypersonic PC Systems, a manufacturer of boutique high performance gaming PCs and laptops. We stopped the manufacture and sale of certain Hypersonic PC products in our fiscal year ended February 28, 2010. On March 25, 2011, we acquired Indilinx Co., Ltd, a privately held fabless provider of flash controller silicon and software for SSDs. Acquisitions or investments expose us to the risks commonly encountered in acquisitions of businesses, including, among others:
 
 
 
lower than anticipated sales and profitability;
             
 
 
problems integrating the purchased operations, technologies or products;
             
 
 
costs associated with the acquisition;
               
 
 
negative effects on profitability resulting from the acquisition;
               
 
 
adverse effects on existing business relationships with suppliers and customers;
         
 
 
risks associated with entering markets in which we have no or limited prior experience;
         
 
 
loss of key employees of the acquired business; and
       
 
 
litigation arising from the acquired company’s operations before the acquisition.
 
Our inability to overcome problems encountered in connection with any acquisition could divert the attention of management from other strategic opportunities and operational matters, utilize scarce corporate resources and otherwise harm our business. In addition, we are unable to predict whether or when any prospective acquisition candidate will become available or the likelihood that any acquisition will be completed. Even if we do find suitable acquisition opportunities, we may not be able to consummate the acquisitions on commercially acceptable terms or realize the anticipated benefits of any acquisitions we do undertake.
 
We may make acquisitions that are dilutive to existing stockholders, result in unanticipated accounting charges or otherwise adversely affect our results of operations.
 
We may grow our business through business combinations or other acquisitions of businesses, products or technologies that allow us to complement our existing product offerings, expand our market coverage, increase our engineering workforce or enhance our technological capabilities. If we make any future acquisitions, we could issue stock that would dilute our stockholders’ percentage ownership, incur substantial debt, reduce our cash reserves or assume contingent liabilities. Furthermore, acquisitions may require material charges and could result in adverse tax consequences, substantial depreciation, deferred compensation charges, in-process research and development charges, the amortization of amounts related to deferred compensation and identifiable purchased intangible assets or impairment of goodwill, any of which could negatively impact our results of operations.
 
We may not be able to maintain or improve our competitive position because of the intense competition in the markets we serve.
 
We conduct business in markets characterized by intense competition, rapid technological change, constant price pressures and evolving industry standards. Our competitors include many large domestic and international companies that have substantially greater financial, technical, marketing, distribution and other resources, broader product lines, lower cost structures, greater brand recognition and longer-standing relationships with customers and suppliers than we do. As a result, our competitors may be able to respond better to new or emerging technologies or standards and to changes in customer requirements. Further, some of our competitors are in a better financial and marketing position from which to influence industry acceptance of a particular industry standard or competing technology than we are. Our competitors may also be able to devote greater resources to the development, promotion and sale of products, and may be able to deliver competitive products at a lower price.
 
 
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We compete against global technology vendors such as Intel Corporation and Samsung Electronics Co., Ltd. Our primary competitors in the solid state storage maker industry include Fusion-io, Inc., Pliant Technology, SMART Modular Technologies Inc., and STEC, Inc. Our primary competitors in the specialized power supply chassis and cooling manufacturing industry include Antec, Inc., Thermaltake Technology Inc. USA and Enermax Technology Corporation. We currently compete or may compete with, among others, Hitachi, Ltd., Micron Technology, Inc., SanDisk Corporation, Seagate Technology, Toshiba, and Western Digital.
 
We expect to face competition from existing competitors and new and emerging companies that may enter our existing or future markets with similar or alternative products, which may be less costly or provide additional features. In the PC market in Asia, we expect to face increasing competition from local competitors such as A-DATA Technology Co., Ltd. and GSkill International Enterprise. We also face competition from current and prospective customers that evaluate our capabilities against the merits of manufacturing products internally. In addition, some of our significant suppliers, including Samsung Electronics Co., Ltd., Infineon Technologies AG and Micron Technology, Inc., are also our competitors, many of whom have the ability to manufacture competitive products at lower costs as a result of their higher levels of integration. Competition may also arise due to the development of cooperative relationships among our current and potential competitors or third parties to increase the ability of their products to address the needs of our prospective customers. Accordingly, it is possible that new competitors or alliances among competitors may emerge and rapidly acquire significant market share.
 
We expect that our competitors will continue to improve the performance of their current products, reduce their prices and introduce new products that may offer greater performance and improved pricing, any of which could cause a decline in sales or loss of market acceptance of our products. In addition, our competitors may develop enhancements to, or future generations of, competitive products that may render our technology or products obsolete or uncompetitive.
 
The future growth of our OEM-focused products is dependent on achieving design wins into commercially successful OEM systems and the failure to achieve design wins or of OEM customers to incorporate our products in their systems could adversely affect our operating results and prospects.
 
We rely on OEMs to select our OEM-focused products to be designed into their systems, which we refer to as a design win. We often incur significant expenditures in the development of a new product without any assurance that an OEM will select our product for design into its system. Additionally, in some instances, we may be dependent on third parties to obtain or provide information that we need to achieve a design win. Some of these third parties may not supply this information to us on a timely basis, if at all. Furthermore, even if an OEM designs one of our products into its system, we cannot be assured that its product will be commercially successful or that we will receive any net sales as a result of that design win. Our OEM customers are typically not obligated to purchase our products and can choose at any time to stop using our products if their own systems are not commercially successful, if they decide to pursue other systems strategies, or for any other reason. If we are unable to achieve design wins or if our OEM customers’ systems incorporating our products are not commercially successful, our net sales would suffer.
 
Our future success is dependent on our ability to retain key personnel, including our executive officers, and attract qualified personnel. If we lose the services of these individuals or are unable to attract new talent, our business will be adversely affected.
 
Our future operating results depend in significant part upon the continued contributions of our key technical and senior management personnel, many of whom would be difficult to replace. We are particularly dependent on the continued service of Ryan M. Petersen, our Chief Executive Officer, Arthur F. Knapp, our Chief Financial Officer, Alex Mei, our Chief Marketing Officer, Bumsoo Kim, our President Semiconductor Division and Chief Executive Officer and President of Indilinx, and Hyun Mo Chung, our Senior Vice President of R&D and Chief Technology Officer of Indilinx. Our future operating results also depend in significant part upon our ability to attract, train and retain qualified management, manufacturing and quality assurance, engineering, marketing, sales and support personnel. We are continually recruiting such personnel. However, competition for such personnel is intense, and we may not be successful in attracting, training or retaining such personnel now or in the future. There may be only a limited number of persons with the requisite skills to serve in these positions and it may be increasingly difficult for us to hire such persons over time. The loss of any key employee, the failure of any key employee to perform in his or her current position, our inability to attract, train and retain skilled employees as needed or the inability of our officers and key employees to expand, train and manage our employee base could materially and adversely affect our business, financial condition and results of operations.
 
We have and will continue to incur increased costs as a result of being a U.S. publicly-reporting company.
 
We have incurred, and will continue to face, increased legal, accounting, administrative and other costs as a result of being a publicly-reporting company that we did not incur as a private company. The Sarbanes-Oxley Act of 2002, as well as rules subsequently implemented by the Securities and Exchange Commission, or the SEC, and the Public Company Accounting Oversight Board, have required changes in the corporate governance practices of public companies. In July 2010, the Dodd-Frank Wall Street Reform and Protection Act, or the Dodd Frank Act, was enacted. There are significant corporate governance and executive compensation-related provisions in the Dodd-Frank Act that require the SEC to adopt additional rules and regulations in these areas. We expect these rules and regulations to increase our legal and financial compliance costs, to make legal, accounting and administrative activities more time-consuming and costly and to result in a diversion of management’s time from our other business activities. We have also incurred substantially higher costs to obtain directors’ and officers’ insurance. In addition, as we gain experience with the costs associated with being a publicly-reporting company, we may identify and incur additional overhead costs.
 
 
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If we fail to maintain an effective system of internal controls over financial reporting, we may not be able to report our financial results accurately or detect fraud, which could harm our business and the trading price of our common stock.
 
Effective internal controls are necessary for us to produce reliable financial reports and are important in our effort to prevent financial fraud. Beginning with our fiscal year ended February 28, 2011, we are required to periodically evaluate the effectiveness of the design and operation of our internal controls. These evaluations may result in the conclusion that enhancements, modifications or changes to our internal controls are necessary or desirable. While management evaluates the effectiveness of our internal controls on a regular basis, these controls may not always be effective. There are inherent limitations on the effectiveness of internal controls including collusion, management override, and failure of human judgment. Because of this, control procedures are designed to reduce rather than eliminate business risks. If we fail to maintain an effective system of internal controls, we may be unable to produce reliable financial reports or prevent fraud and it could harm our financial condition and results of operations and result in loss of investor confidence and a decline in our share price.
 
Our indemnification obligations to our customers and suppliers for product defects and adverse decisions in lawsuits relating to product performance issues could require us to pay substantial damages.
 
A number of our product sales and product purchase agreements provide that we will defend, indemnify and hold harmless our customers and suppliers from damages and costs which may arise from product warranty claims or claims for injury or damage resulting from defects in our products. We maintain insurance to protect against certain claims associated with the use of our products, but our insurance coverage may not be adequate to cover all or any part of the claims asserted against us. A successful claim brought against us that is in excess of, or excluded from, our insurance coverage could substantially harm our business, financial condition and results of operations.
 
We may also be subject to lawsuits from customers and consumers relating to product defects and performance issues. For example, on March 24, 2011, a purported class action suit was filed in the United States District Court for the Northern District of California San Jose Division alleging that certain of our SSDs sold on or after January 1, 2011 did not meet certain performance criteria and as a result we engaged in certain deceptive practices and violated various laws. Among other things, the suit seeks unspecified actual and compensatory damages, as well as punitive damages, restitution, disgorgement and injunctive and other equitable relief. We believe that the lawsuit has no merit and we intend to vigorously defend against this litigation. An adverse decision in this or other litigation could materially harm our business, financial condition and results of operations.
 
Our operations in the United States and foreign countries are subject to political and economic risks, which could have a material adverse effect on our business and operating results.
 
Our financial success may be sensitive to adverse changes in general political and economic conditions in the United States such as changes in regulatory requirements, taxes, recession, inflation, unemployment and interest rates. Such changing conditions could reduce demand in the marketplace for our products or increase the costs involved for us to manufacture our products.
 
Sales outside of the United States accounted for approximately 64% of net sales for the fiscal year ended February 28, 2011. Sales outside of the United States accounted for approximately 57% and 61% of net sales in fiscal years ended February 28, 2010 and February 29, 2009, respectively. We anticipate that international sales will continue to constitute a meaningful percentage of our total net sales in future periods. In addition, a significant portion of our design and manufacturing is performed at our facilities in Taiwan. As a result, our operations may be subject to certain risks, including changes in regulatory requirements, tariffs and other barriers, increased price pressure, timing and availability of export licenses, difficulties in accounts receivable collections, difficulties in protecting our intellectual property, natural disasters, difficulties in staffing and managing foreign operations, difficulties in managing distributors, difficulties in obtaining governmental approvals for products that may require certification, restrictions on transfers of funds and other assets of our subsidiaries between jurisdictions, foreign currency exchange fluctuations, the burden of complying with a wide variety of complex foreign laws and treaties, potentially adverse tax consequences and uncertainties relative to regional, political and economic circumstances.
 
We are also subject to the risks associated with the imposition of legislation and regulations relating to the import or export of high technology products. We cannot predict whether quotas, duties, taxes or other charges or restrictions upon the importation or exportation of our products will be implemented by the United States or other countries. Some of our customers’ purchase orders and agreements are governed by foreign laws, which often differ significantly from those of the United States. Therefore, we may be limited in our ability to enforce our rights under such agreements and to collect damages, if awarded. These factors may have a material adverse effect on our business, financial condition and results of operations.
 
Our inability to effectively manage our operations in foreign countries could harm our operating results.
 
A significant portion of our design and manufacturing operations are carried out outside of the United States at our foreign facilities. Further, international sales have accounted for a significant portion of our overall sales. In some of the countries in which we operate or sell our products, it is difficult to recruit, employ and retain qualified personnel to manage and oversee our local operations, sales and other activities. Further, given our executive officers’ existing managerial burdens, their lack of physical proximity to the activities being managed and the inherent limitations of cross-border information flow, our executive officers who reside in the United States may be unable to effectively oversee the day-to-day management of our foreign subsidiaries and operations. The inability of or failure by our domestic and international management to effectively and efficiently manage our overseas operations could have a negative impact on our business and adversely affect our operating results.
 
 
18

 
 
Worldwide economic and political conditions may adversely affect demand for our products.
 
The current economic slowdown in the United States and worldwide has adversely affected and may continue to adversely affect demand for our products. Another decline in the worldwide computing markets or a future decline in economic conditions or consumer confidence in any significant geographic area would likely decrease the overall demand for our products, which could have a material adverse effect on us. For example, a decline in economic conditions in China could lead to declining worldwide economic conditions. If economic conditions decline, whether in China or worldwide, we could be materially adversely affected.
 
The occurrence and threat of terrorist attacks and the consequences of sustained military action in the Middle East have in the past, and may in the future, adversely affect demand for our products.
 
In addition, terrorist attacks may negatively affect our operations directly or indirectly and such attacks or related armed conflicts may directly impact our physical facilities or those of our suppliers or customers. Furthermore, these attacks may make travel and the transportation of our products more difficult and more expensive, ultimately affecting our sales.
 
Also as a result of terrorism, the United States has been and may continue to be involved in armed conflicts that could have a further impact on our sales, our supply chain and our ability to deliver products to our customers. Political and economic instability in some regions of the world could negatively impact our business. The consequences of armed conflicts are unpredictable and we may not be able to foresee events that could have a material adverse effect on us.
 
More generally, any of these events could cause consumer confidence and spending to decrease or result in increased volatility to the United States economy and worldwide financial markets. Any of these occurrences could have a material adverse effect on our business, financial condition and results of operations.
 
Unfavorable currency exchange rate fluctuations could result in our products becoming relatively more expensive to our overseas customers or increase our manufacturing costs, each of which could adversely affect our profitability.
 
Our international sales and our operations in foreign countries make us subject to risks associated with fluctuating currency values and exchange rates. Because sales of our products have been denominated to date primarily in U.S. dollars, increases in the value of the U.S. dollar could increase the price of our products so that they become relatively more expensive to customers in the local currency of a particular country, leading to a reduction in sales and profitability in that country. Future international activity may result in increased foreign currency denominated sales. Gains and losses on the conversion to U.S. dollars of accounts receivable, accounts payable and other monetary assets and liabilities arising from international sales or operations may contribute to fluctuations in our results of operations. In addition, as a result of our foreign sales and operations, we have revenues, costs, assets and liabilities that are denominated in foreign currencies. Therefore, decreases in the value of the U.S. dollar could result in significant increases in our manufacturing costs that could have a material adverse effect on our business and results of operations.
 
Our worldwide operations could be subject to natural disasters and other business disruptions, which could materially adversely affect our business and increase our costs and expenses.
 
Our worldwide operations could be subject to natural disasters and other business disruptions, which could harm our future revenue and financial condition and increase our costs and expenses. For example, our corporate headquarters in San Jose, California and our manufacturing facilities in Taiwan are located near major earthquake fault lines. Taiwan is also subject to typhoons during certain times of the year. In the event of a major earthquake, typhoon or hurricane, or other natural or manmade disaster, we could experience business interruptions, destruction of facilities and/or loss of life, any of which could materially adversely affect our business and increase our costs and expenses.
 
The recent earthquake and tsunami, and other collateral events, in Japan may adversely affect the demand for our products and services in the Japanese market or cause shortages of some components, which may cause a decline in revenues and negatively affect our operating results.
 
Revenue sourced from the Japanese market was zero in the fiscal year ended February 28, 2011, $4.2 million in fiscal year ended February 28, 2010 and $1.7 million in fiscal year ended February 28, 2009.  The recent earthquake and tsunami in Japan, and other collateral events, including, among others, the catastrophic loss of lives, businesses, infrastructure, and delays in transportation, may have a direct negative impact on us or an indirect impact on us by affecting our employees, customers, or the overall economy in Japan and may reduce the demand for our products and services. As a result, these events could cause a decline in our revenue in Japan and our results of operations could be materially and adversely affected.
 
Although we generally do not purchase component parts from manufacturers in Japan, we have from time-to-time purchased NAND flash memory from Toshiba. The earthquake and tsunami in Japan have disrupted the manufacturing operations of several component suppliers located in Japan. Depending on the length of these disruptions, we, and other manufacturers of electronic equipment, may need to locate alternate component suppliers to fulfill our needs. Depending on the number of manufacturers looking for alternate sources of components, it may be difficult to locate alternative suppliers. Some of the other manufacturers may also look to purchase components from some of our other suppliers. Because we do not have long-term supply contracts with our component manufacturers and we are relatively small customers of these suppliers, our component suppliers may reduce the amount of components that they sell to us in order to fulfill or partially fulfill some of these additional orders. Our component manufacturers may also increase prices in response to any increased demand.
 
 
19

 
 
Our ability to compete successfully and achieve future growth will depend, in part, on our ability to protect our intellectual property, as well as our ability to operate without infringing the intellectual property of others.
 
We attempt to protect our intellectual property rights through trade secret laws, non-disclosure agreements, confidentiality procedures and employee disclosure and invention assignment agreements. To a lesser extent, we also protect our intellectual property through patents, trademarks and copyrights. It is possible that our efforts to protect our intellectual property rights may not:
 
 
 
prevent our competitors from independently developing similar products, duplicating our products or designing around the patents owned by us;
               
 
 
prevent third-party patents from having an adverse effect on our ability to do business;
               
 
 
provide adequate protection for our intellectual property rights;
             
 
 
prevent disputes with third parties regarding ownership of our intellectual property rights;
             
 
 
prevent disclosure of our trade secrets and know-how to third parties or into the public domain;
           
 
 
prevent disclosure of our trade secrets and know-how to third parties or into the public domain;
           
 
 
prevent the challenge, invalidation or circumvention of our existing patents;
         
 
 
result in patents that lead to commercially viable products or provide competitive advantages for our products; and
         
 
 
result in issued patents and registered trademarks from any of our pending applications.
 
If any of our issued patents are found to be invalid or if any of our patent applications are rejected, our ability to exclude competitors from making, using or selling the same or similar products as ours could be compromised. We have occasionally applied for and may in the future apply for patent protection in foreign countries. The laws of foreign countries, however, may not adequately protect our intellectual property rights. Many U.S. companies have encountered substantial infringement problems in foreign countries. Because we conduct a substantial portion of our operations and sell some of our products overseas, we have exposure to foreign intellectual property risks.
 
In addition, the industries in which we compete are characterized by vigorous protection and pursuit of intellectual property rights. We believe that it may be necessary, from time to time, to initiate litigation against one or more third parties to preserve our intellectual property rights. From time to time, we have received, and may receive in the future, notices that claim we have infringed upon, misappropriated or misused other parties’ proprietary rights. Any of the foregoing events or claims could result in litigation. Such litigation, whether as plaintiff or defendant, could result in significant expense to us and divert the efforts of our technical and management personnel, whether or not such litigation is ultimately determined in our favor. In the event of an adverse result in such litigation, we could be required to pay substantial damages, cease the manufacture, use and sale of certain products, expend significant resources to develop or acquire non-infringing technology, discontinue the use of certain processes or obtain licenses to use the infringed technology. Product development or license negotiating would likely result in significant expense to us and divert the efforts of our technical and management personnel. We may not be successful in such development or acquisition and necessary licenses may not be available on reasonable terms, or at all.
 
Our indemnification obligations for the infringement by our products of the intellectual property rights of others could require us to pay substantial damages.
 
We currently have in effect a number of agreements in which we have agreed to defend, indemnify and hold harmless our customers and suppliers from damages and costs which may arise from the infringement by our products of third-party patents, trademarks or other proprietary rights. We may periodically have to respond to claims and litigate these types of indemnification obligations. Any such indemnification claims could require us to pay substantial damages. Our insurance does not cover intellectual property infringement.
 
We could incur substantial costs as a result of violations of or liabilities under environmental laws.
 
Our business involves purchasing finished goods as components from different vendors and then assembly of these components into finished products at our facilities. We therefore are not involved in the actual manufacturing of components, which can often involve significant environmental regulations with respect to the materials used, as well as work place safety requirements. Our operations and properties, however, do remain subject in particular to domestic and foreign laws and regulations governing the storage, disposal and recycling of computer products. For example, our products may be subject to the European Union’s Directive 2002/96/EC Waste Electrical and Electronic Equipment and Directive 2002/95/EC on Restriction on the Certain Hazardous Substances in Electrical and Electronic Equipment. Our failure to comply with present and future requirements could cause us to incur substantial costs, including fines and penalties, investments to upgrade our product cycle or curtailment of operations. Further, the identification of presently unidentified environmental conditions, more vigorous enforcement by regulatory agencies, enactment of more stringent laws and regulations, or other unanticipated events may arise in the future and give rise to material environmental liabilities and related costs which could have a material adverse effect on our business, financial condition and results of operations.
 
 
20

 
 
We are subject to a variety of federal, state and foreign laws and regulatory regimes. Failure to comply with governmental laws and regulations could subject us to, among other things, mandatory product recalls, penalties and legal expenses which could have an adverse effect on our business.
 
Our business is subject to regulation by various federal and state governmental agencies. Such regulation includes the radio frequency emission regulatory activities of the Federal Communications Commission, the anti-trust regulatory activities of the Federal Trade Commission and Department of Justice, the consumer protection laws of the Federal Trade Commission, the import/export regulatory activities of the Department of Commerce, the product safety regulatory activities of the Consumer Products Safety Commission, the regulatory activities of the Occupational Safety and Health Administration, the environmental regulatory activities of the Environmental Protection Agency, the labor regulatory activities of the Equal Employment Opportunity Commission and tax and other regulations by a variety of regulatory authorities in each of the areas in which we conduct business. We are also subject to regulation in other countries where we conduct business. In certain jurisdictions, such regulatory requirements may be more stringent than in the United States. We are also subject to a variety of federal and state employment and labors laws and regulations, including the Americans with Disabilities Act, the Federal Fair Labor Standards Act, the WARN Act and other regulations related to working conditions, wage-hour pay, over-time pay, employee benefits, anti-discrimination, and termination of employment.
 
We have received information that a distributor in the United Arab Emirates may have re-exported some of our products into Iran and that a distributor in Lebanon may have re-exported our products into Syria. We also discovered that we sent products to persons in Iran and in Cuba (although that person later changed his address to one in Mexico) and provided sales support materials for a presentation in Iran. We have voluntarily disclosed potential violations of the Iranian Transaction Regulations and the Export Administration Regulations of the U.S. Department of Treasury, Office of Foreign Assets Control and the U.S. Department of Commerce, Office of Export Enforcement. We have terminated our relationships with these distributors. While we attempt to ensure that our distributors comply with applicable law, their actions are not within our complete control, and there are risks that our products may be re-exported to certain jurisdictions in contravention of our requirements or instructions in the future.
 
Noncompliance with applicable regulations or requirements could subject us to investigations, sanctions, mandatory product recalls, enforcement actions, disgorgement of profits, fines, damages, civil and criminal penalties, or injunctions. In addition from time to time we have received, and expect to continue to receive, correspondence from former employees terminated by us who threaten to bring claims against us alleging that we have violated one or more labor and employment regulations. In certain instances former employees have brought claims against us and we expect that we will encounter similar actions against us in the future. An adverse outcome in any such litigation could require us to pay contractual damages, compensatory damages, punitive damages, attorneys’ fees and costs.
 
Any enforcement action could harm our business, financial condition and results of operations. If any governmental sanctions are imposed, or if we do not prevail in any possible civil or criminal litigation in the future, our business, financial condition and results of operations could be materially adversely affected. In addition, responding to any action will likely result in a significant diversion of management’s attention and resources and an increase in professional fees.
 
Changes in the applicable tax laws could materially affect our future results.
 
We operate in different countries and are subject to taxation in different jurisdictions. As a result, our future effective tax rates could be impacted by changes in the applicable tax laws of such jurisdictions or the interpretation of such tax laws. For example, on May 5, 2009, President Obama and the U.S. Treasury Department proposed changing certain tax rules for U.S. corporations doing business outside the U.S. The proposed changes would restrict the ability of U.S. corporations to transfer funds between foreign subsidiaries without triggering U.S. income tax, limit the ability of U.S. corporations to deduct expenses attributable to un-repatriated foreign earnings and modify the foreign tax credit rules. We cannot determine whether these proposals will be enacted into law or what changes, if any, may be made to such proposals prior to their being enacted into law. Depending on their content, such proposals (if enacted) or other changes in the applicable tax laws could increase our effective tax rate and adversely affect our after-tax profitability.
 
Risks Related to our Debt
 
Our indebtedness could impair our financial condition, harm our ability to operate our business, limit our ability to borrow additional funds or capitalize on acquisition or other business opportunities.
 
We had entered into a Sale of Accounts and Security Agreement with Faunus Group International, Inc, pursuant to which we could factor our foreign receivables up to $10 million in the aggregate (as amended, the “FGI Agreement”). We had entered into a Loan and Security Agreement with Silicon Valley Bank dated as of July 2009 (as amended, the “SVB Agreement” and collectively with the FGI Agreement, the “Factoring Loan Agreements”) to factor all our domestic receivables up to $10 million in the aggregate. The SVB Agreement also capped the aggregate debt under both Factoring Loan Agreements to $17.5 million. Under the Factoring Loan Agreements we guaranteed our obligations thereunder and had pledged substantially all of our assets as security. As of our fiscal year ended February 28, 2010, the outstanding loan balances under the Factoring Loan Agreements were $10.4 million in the aggregate. Also, we may incur additional debt in the future, subject to certain limitations contained in our debt instruments.
 
In February 2011 we signed an agreement with Silicon Valley Bank for asset-based financing of up to $25 million (the “New SVB Agreement”). This new agreement, which expires in February 2012, expands the $17.5 million debt capability available under the prior joint factoring arrangements with Silicon Valley Bank and Faunus Group International, Inc. The new agreement contains financial covenants for quarterly EBITDA as defined in the agreement and a monthly quick ratio computation (our cash and accounts receivable divided by current liabilities). Interest rates range between prime +1.5% to prime +2.5%. There are also provisions for letter of credit sub-limits and various operational, reporting, negative and affirmative covenants with which we must comply. As of February 28, 2011, the outstanding loan balance under the New SVB Agreement was $20.0 million, and the applicable interest rate is prime + 2.0%. The bank’s prime rate was 4.0% at February 28, 2011.
 
 
21

 
 
The degree to which we are leveraged and the restrictions governing this indebtedness, such as a minimum quick ratio, could have important consequences including, but not limited to, the following:
 
 
 
it may limit our ability to service all of our debt obligations;
       
 
 
it may impair our ability to incur additional indebtedness or obtain additional financing in the future for working capital, capital expenditures, acquisitions, general corporate purposes or other purposes;
       
 
 
some of our debt is and will continue to be at variable rates of interest, which may result in higher interest expense in the event of increases in interest rates;
       
 
 
our debt agreements contain, and any agreements to refinance our debt likely will contain, financial and restrictive covenants, and our failure to comply with them may result in an event of default which, if not cured or waived, could have a material adverse effect on us;
       
 
 
our level of indebtedness will increase our vulnerability to general economic downturns and adverse industry conditions;
       
 
 
our debt service obligations could limit our flexibility in planning for, or reacting to, changes in our business and our industry; and
       
 
 
it may limit our ability to engage in certain transactions or capitalize on acquisition or other business opportunities.
 
The Factoring Loan Agreements had, and the New SVB Agreement has, “material adverse change” provisions that essentially grant the lenders broad discretion in determining whether to accelerate the payment of all amounts due under the those agreements when adverse events occur with respect to us, our business, financial condition, results of operation, assets, liabilities or prospects. As of November 30, 2008 and February 28, 2009 we failed to comply with one or more loan covenants under the loan agreement with Silicon Valley Bank which was the predecessor to the Factoring Loan Agreements. We received a waiver from Silicon Valley Bank for such non-compliances. We could violate one or more loan covenants in the future. If we are in violation of covenants in the New SVB Agreement in the future and do not receive a waiver, the lender could choose to accelerate payment on all outstanding loan balances. If we needed to obtain replacement financing, we may not be able to quickly obtain equivalent or suitable replacement financing. If we are unable to secure alternative sources of funding, such acceleration would have a material adverse impact on our financial condition.
 
The terms of the New SVB Agreement may restrict our ability to engage in certain transactions.
 
Pursuant to the terms of the New SVB Agreement, we are subject to financial covenants and cannot engage in certain transactions, including disposing of certain assets, incurring additional indebtedness, declaring dividends, acquiring or merging with another entity or leasing additional real property unless certain conditions are met or unless we receive prior approval from Silicon Valley Bank. If Silicon Valley Bank does not consent to any of these actions or if we are unable to comply with these covenants, we could be prohibited from engaging in transactions which could be beneficial to our business and our stockholders.
 
To service our debt, we will require cash and we may not be able to generate sufficient cash flow from operations to satisfy these obligations or to refinance these obligations on acceptable terms, or at all.
 
Our ability to generate cash depends on many factors beyond our control. Our ability to make payments on our debt and to fund working capital requirements, capital expenditures and research and development efforts will depend on our ability to generate cash in the future. Our historical financial results have been, and we expect our future financial results will be, subject to substantial fluctuation based upon a wide variety of factors, many of which are not within our control including, among others, those described in this section.
 
Unfavorable changes in any of these factors could harm our operating results and our ability to generate cash to service our debt obligations. If we do not generate sufficient cash flow from operations to satisfy our debt obligations, we may have to undertake alternative financing plans, such as refinancing or restructuring our debt, selling assets, reducing or delaying capital investments or seeking to raise additional capital. Also, certain of these actions would require the consent of our lenders. The terms of our financing agreements contain limitations on our ability to incur debt.
 
We may not be able to obtain refinancing on acceptable terms or at all or sell assets on a timely basis, at reasonable prices or at all. Our inability to generate sufficient cash flow to satisfy our debt obligations, or to refinance our obligations on commercially reasonable terms, would have an adverse effect on our business, financial condition and results of operations.
 
 
22

 
 
Risks Related to our Common Stock
 
The price of our common stock may be volatile and subject to wide fluctuations.
 
The market price of the securities of technology companies has been especially volatile. In addition, our common stock was listed on the OTCBB since January 14, 2009 and only recently began trading on the NASDAQ Capital Market on April 23, 2010. Accordingly, we have an extremely limited history of public trading of our common stock within the United States. The market price of our common stock may be subject to wide fluctuations. If our net sales do not increase or increase less than we anticipate, or if operating or capital expenditures exceed our expectations and cannot be adjusted accordingly, or if some other event adversely affects us, the market price of our common stock could decline. Broad market and industry factors may adversely affect the market price of our common stock, regardless of our actual operating performance. Factors that could cause fluctuations in our stock price may include, among other things:
 
 
 
actual or anticipated variations in quarterly operating results;
       
 
 
changes in financial estimates by us or by any securities analysts who might cover our stock, or our failure to meet the estimates made by securities analysts;
       
 
 
changes in the market valuations of other companies operating in our industry;
       
 
 
announcements by us or our competitors of significant acquisitions, strategic partnerships or divestitures;
       
 
 
additions or departures of key personnel; and
       
 
 
a general downturn in the stock market.
 
The market price of our stock also might decline in reaction to events that affect other companies in our industry, even if these events do not directly affect us. In the past, companies that have experienced volatility in the market price of their stock have been the subject of securities class action litigation. If we were to become the subject of securities class action litigation, it could result in substantial costs and a diversion of management’s attention and resources.
 
We may experience significant period-to-period quarterly and annual fluctuations in our net sales and operating results, which may result in volatility in our share price.
 
We may experience significant period-to-period fluctuations in our net sales and operating results in the future due to a number of factors and any such variations may cause our share price to fluctuate. It is likely that in some future period our operating results will be below the expectations of securities analysts or investors. If this occurs, our share price could drop significantly.
 
A number of factors, in addition to those cited in other risk factors applicable to our business, may contribute to fluctuations in our sales and operating results, including:
 
 
 
the timing and volume of orders from our customers;
       
 
 
the rate of acceptance of our products by our customers, including the acceptance of design wins;
       
 
 
the demand for and life cycles of the products incorporating our products;
       
 
 
the rate of adoption of our products in the end markets we target;
       
 
 
cancellations or deferrals of customer orders in anticipation of new products or product enhancements from us or our competitors or other providers;
       
 
 
changes in product mix; and
       
 
 
the rate at which new markets emerge for products we are currently developing or for which our design expertise can be utilized to develop products for these new markets.
 
 
23

 
 
The sale of our outstanding common stock and exercise of outstanding warrants and options are not subject to lock-up restrictions and may have an adverse effect of the market price of the our stock.
 
As of May 5, 2011, we had 51,382,632 shares of common stock outstanding, options to purchase an aggregate of 3,945,277 shares of common stock outstanding, and warrants to purchase an aggregate of 4,220,938 shares outstanding Since only 4,584,193 shares of our common stock, including shares issuable upon exercise of warrants, are subject to lock-up restrictions, subject to certain exceptions, the other holders of our common stock could sell substantial amounts of their holdings. The sale or even the possibility of sale of such stock or the stock underlying the options and warrants could have an adverse effect on the market price for our securities or on our ability to obtain a future public financing. If and to the extent that warrants and/or options are exercised, stockholders could be diluted.
 
Future sales of shares could depress our share price.
 
We currently have three effective registration statements pursuant to which the selling stockholders identified in the prospectuses that are part of those registration statements may sell from time to time up to an aggregate of (i) 16,998,880 shares of outstanding common stock and (ii) 4,961,835 shares of common stock issuable upon exercise of outstanding warrants. In addition, we are required to file a registration statement with the SEC within 30 days following the closing of the Indilinx acquisition registering for resale the 4,160,630 shares of our common stock that will be issued or issuable to the Indilinx shareholders and to have the registration statement effective within 90 days following the closing, subject to certain exceptions. Sales by those selling stockholders, especially if in heavy volume and at the same time, could negatively affect our stock price. Moreover, the perception in the public market that these stockholders might sell our common stock could depress the market price of the common stock. Additionally, we may sell or issue shares of common stock in a public offering one or more additional financings or in connection with future acquisitions, which will result in additional dilution and may adversely affect market prices for our common stock.
 
No prediction can be made as to the precise effect, if any, that sales of shares of our common stock or the availability of such shares for sale will have on the market prices prevailing from time to time. Nevertheless, the possibility that substantial amounts of common stock may be sold in the public market may adversely affect prevailing market prices for our common stock and could impair our ability to raise capital through the sale of our equity securities.
 
Anti-takeover provisions in our organizational documents may discourage our acquisition by a third party, which could limit your opportunity to sell your shares at a premium.
 
Our fourth amended and restated certificate of incorporation includes provisions that could limit the ability of others to acquire control of us, modify our structure or cause us to engage in change of control transactions, including, among other things, provisions that restrict the ability of our stockholders to call meetings and provisions that authorize our board of directors, without action by our stockholders, to issue additional common stock.
 
These provisions could deter, delay or prevent a third party from acquiring control of us in a tender offer or similar transactions, even if such transaction would benefit our stockholders.
 
 
24

 
 
Item 1b. Unresolved Staff Comments
 
Not Applicable.
 
Item 2.  Properties
 
We lease the following properties under lease terms expiring at various dates through 2015:

Property
 
Square Feet
 
Property Uses
6373 San Ignacio Avenue
 
41,000
 
-Corporate Headquarters
San Jose, California, USA
     
-General, administrative, sales and
marketing office
       
-Research and Development
       
-Warehouse
         
160 Konrad Crescent, Unit #1,
 
3,375
 
-Sales and marketing office
Markham, Ontario, Canada
     
-Warehouse
         
Kleveringweg 23, Unit 6
 
3,229
 
-Sales and marketing office
Delft, The Netherlands
     
-Warehouse
         
16F-3, No. 700, Chung Cheng
 
7,714
 
-Sales and marketing office
Road
     
-Research and Development
Chung Ho City, Taipei County
     
-Purchasing
Taiwan, 235, RoC
       
         
No. 165, Changrong Road,
 
40,920
 
-Research and Development
Lujhu Township, Taiwan RoC
     
-Manufacturing
       
-Warehouse
         
No. 27, Nankan Road,
 
22,413
 
-Research and Development
Lujhu Township, Taiwan RoC
     
-Manufacturing
       
-Warehouse
         
5995 Avenida Encinas, Suite 101
 
13,031
 
-Research and Development
Carlsbad, California, USA
     
-Warehouse
 
With our acquisition of Indilinx in March 2011, we also lease the facility located at Jae C Dong, Bundang Techno Park, 145 Yatap-dong, Bundang-gu, Sungnam-si, Kyunggi-do, in South Korea.

We consider each facility to be in good operating condition and adequate for its present use, and believe that each facility has sufficient capacity to meet our current and anticipated operating requirements.
 
 
25

 
 
Item 3.  Legal Proceedings

We are from time to time involved in legal matters that arise in the normal course of business.  We do not believe that the ultimate resolution of any current matters, individually or in the aggregate, will have a material adverse effect on our business, financial condition and results of operations.
 
On March 24, 2011, a purported class action suit was filed in the United States District Court for the Northern District of California San Jose Division alleging that certain of our SSDs sold on or after January 1, 2011 did not meet certain performance criteria and as a result we engaged in certain deceptive practices and violated various laws. Among other things, the suit seeks unspecified actual and compensatory damages, as well as punitive damages, restitution, disgorgement and injunctive and other equitable relief. We believe that the lawsuit has no merit and we intend to vigorously defend against this litigation.
 
In July 2010, we received notice that a former vendor had filed legal proceedings in Taiwan demanding payment for materials which we contended were defective. At that time we accrued approximately $1.25 million for this contingency and an additional $100,000 during Q3 for potential interest costs. In December 2010, we paid a ‘counter bond’ in cash to the Taoyuan District Court in the amount of $1.28 million for the specific purpose of satisfying our obligation under the court order. On April 25, 2011 the Taoyuan District Court found in favor of the former vendor and we were ordered to pay approximately $1.2 million plus interest of approximately $150,000. Accordingly, $1.28 million of the $1.35 million liability accrued for this matter is considered satisfied, and the remaining balance due of $70,000 is included in “accounts payable” as of fiscal year ended February 28, 2011.
 
In 2009, we received inquiries from the U.S. Department of Commerce and the Federal Bureau of Investigation regarding the potential re-export of our products from the United Arab Emirates into Iran.  We consequently launched an internal investigation performed by outside counsel.  The investigation concluded that while between 2004 and 2008, we maintained a relationship with a distributor in the United Arab Emirates, we have not found any specific facts confirming these suspicions or any information about when such re-exports would have occurred or who may have received the products.  However, we did provide approximately $500 in sales support materials to the distributor in connection with a sales presentation in Iran.  We have terminated our relationship with this distributor.
 
The investigation separately discovered that in 2007 and 2008, in a total of three instances, we sent one of our high speed Reaper memory module products free of charge as either samples or replacement parts to individuals in Iran and an individual who claimed an address in Cuba but subsequently changed the address to one in Mexico.
 
We also have received information that a distributor in Lebanon to whom we sold Neural Impulse Actuators September 2008 may have re-exported one of these units into Syria and in general was interested in distributing our products in Syria, but we have not found specific facts confirming when such re-export would have occurred or who may have received the product.  We have terminated our relationship with this distributor.
 
We have voluntarily disclosed these transactions to the U.S. Department of Commerce and the U.S. Department of the Treasury and have cooperated fully with requests for information from these entities as well as the Federal Bureau of Investigation.  On May 3, 2011, we received a letter from the U.S. Department of Commerce informing us that it had reviewed its findings of the investigation and it concluded that although the activity was in fact in violation U.S. export laws, the U.S. Department of Commerce decided not to refer this matter for criminal or administrative prosecution and it closed this matter with the issuance of a warning letter only.
 
Item 4.  (Removed And Reserved)
 
 
26

 
 
Part II
 
Item 5.
Market For Registrant’s Common Equity.  Related Stockholder Matters And Issuer Purchases Of Equity Securities
 
From June 21, 2006 through April 1, 2009, our common stock was traded on the Alternative Investment Market (“AIM”) of the London Stock Exchange under the symbol “OCZ.” From April 2, 2009 to January 13, 2010, our common stock was not publicly traded and we did not undertake any efforts to determine whether transfers or trades occurred during this period of time and if transfers or trades did occur, the price(s) at which such transfers or trades occurred. On January 14, 2010 our common stock was listed on the Over-the-Counter Bulletin Board (“OTCBB”) and was traded on the OTCBB from February 10, 2010 to April 22, 2010. Since April 23, 2010, our common stock has been quoted on The NASDAQ Capital Market under the symbol “OCZ”. The quotations below reflect the high and low bid prices for our common stock since March 1, 2008 as reported on AIM, OTCBB and The NASDAQ Capital Market, as applicable. The quotations below reflect inter-dealer prices, without retail mark-up, mark-down or commission and may not necessarily represent actual transactions

The NASDAQ Capital Market
 
High
 
Low
 
Fiscal 2011:
             
Fourth quarter (December 1, 2010 – February 28, 2011)
    $ 9.16     $ 3.81  
Third quarter (September 1, 2010 – November 30, 2010)
      4.42       1.90  
Second Quarter (June 1, 2010 – August 31, 2010)
      3.89       1.80  
Period of April 23, 2010 – May 31, 2010
      5.05       3.30  
 
OTCBB
 
High
 
Low
 
Fiscal 2011:
                 
Period of March 1, 2010 – April 22, 2010
    $ 6.00     $ 3.95  
Fiscal 2010:
                 
Period of January 14, 2010 – February 28, 2010
      6.25       5.25  
 
AIM
 
High
 
Low
 
Fiscal 2010:
                 
Period of March 1, 2009 – April 1, 2009
    $ 0.36     $ 0.12  
Fiscal 2009:
                 
Fourth Quarter (December 1, 2008 – February 28, 2009)
      0.51       0.11  
Third Quarter (September 1, 2008 – November 30, 2008)
      0.65       0.38  
Second Quarter (June 1, 2008 – August 31, 2008)
      1.25       0.75  
First Quarter (March 1, 2008 – May 31, 2008
      1.88       0.90  

The closing sales price for our common stock on May 5, 2011 was $7.07, as reported by The NASDAQ Capital Market.

As of May 5, 2011, there were 106 holders of record of our common stock.

As of our fiscal year ended February 28, 2011, 35,401,908 shares of our common stock, and 4,025,056 shares of our common stock subject to options were issued and outstanding.  In addition, there were warrants to purchase 4,389,604 shares of our common stock at exercise prices ranging between $3.00 and $5.25 and an average exercise price of $5.03 per share outstanding.

Dividends
 
We have not paid any cash dividends on any of our shares to date, and we do not anticipate declaring or paying any cash dividends on our common stock. Any future determination as to the declaration and payment of dividends, if any, will be at the discretion of our Board of Directors and will be contingent upon our then existing conditions, operating results, revenues and earnings, if any, contractual restrictions, capital requirements, business prospects and general financial condition, and other factors our Board of Directors may deem relevant. The payment of any dividends will also be subject to the requirements of the Delaware General Corporation Law and certain restrictions contained in the New SVB Agreement. For as long as such agreement remains in effect, we would need the written consent of Silicon Valley Bank before making a cash dividend payment. There are currently no restrictions that materially limit our ability to pay stock dividends, or that we reasonably believe are likely to limit materially the future payment of stock dividends.
 
 
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Recent Sales of Unregistered Securities

We have sold or issued the following securities that were not registered under the Securities Act during the past three years.  
  
During our fiscal year ended February 28, 2010, we issued 60,990 shares of our Series A preferred stock at $5.00 per share.  These shares were issued in reliance on Rule 506 of the Securities Act.  In addition, we issued warrants to purchase up to 140,520 shares of our Series A preferred stock.  Such warrants have been issued in reliance on Regulation S of the Securities Act.  Under the terms of our certificate of incorporation with respect to our Series A preferred stock, each share of Series A preferred stock was to be automatically converted into shares of common stock on the sixtieth (60th) trading day following the commencement of trading of our common shares on a public stock exchange, including OTCBB (“Mandatory Conversion”).  The trading of our common shares commenced on OTCBB on February 10, 2010, and the 60th trading day following the commencement of trading was May 4, 2010.  The number of shares of our common stock issued upon Mandatory Conversion was determined by dividing $5.00 by the sixty (60) day per share average closing price of our common stock on such public stock exchange (the “60 Day Average”).  Based on the 60 Day Average of $4.86, and after taking into account fractional shares, on May 4, 2010, 60,990 shares of our Series A preferred stock were converted into 62,733 shares of our common stock, and warrants to purchase 140,520 shares of our Series A preferred stock were converted into warrants to purchase 144,541 shares of our common stock at $4.86 per share.
 
In March 2010, we issued an aggregate of 5,151,662 shares of our common stock at $3.00 per share in connection with a private placement.  These shares were issued in the United States in reliance of Rule 506 of Regulation D under the Securities Act and all recipients of our common stock were “accredited” as defined under the rules of the SEC.  As part of the private placement offering, we also issued warrants to purchase up to (i) 2,575,831 shares of our common stock at $5.25 per share (the “$5.25 Warrants”) and (ii) 154,550 shares of our common stock at $3.00 per share (the “$3.00 Warrants”).  The warrants have been issued in reliance on the exemptions provided by Section 4(2) of the Securities Act.  In addition, we have a commitment to issue a warrant for up to 77,275 shares of our common stock at $5.25 per share.  Each of the $5.25 Warrants and the $3.00 Warrants are immediately exercisable, will expire on March 23, 2015 and may be exercised by the holders on a cashless basis.  In addition, in March 2010 we issued 29,710 shares of common stock in connection with certain services received.

In November 2010, we issued an aggregate of 7,139,960 shares of our common stock at $3.08125 per share in connection with a private placement. These shares were issued in the United States in reliance of Rule 506 of Regulation D under the Securities Act and all recipients of our common stock were “accredited” as defined under the rules of the SEC. As part of the private placement offering, we also issued warrants to purchase up to (i) 1,784,996 shares of our common stock at $5.25 per share (the “$5.25 Warrants”) and (ii) 214,198 shares of our common stock at $3.08125 per share (the “$3.08125 Warrants”). The warrants have been issued in reliance on the exemptions provided by Section 4(2) of the Securities Act. In addition, we have a commitment to issue a warrant for up to 53,549 shares of our common stock at $5.25 per share. The $5.25 Warrants are exercisable on May 3, 2011, will expire on November 2, 2015 and may be exercised by the holders on a cashless basis. The $3.08125 Warrants are immediately exercisable, will expire on November 2, 2015 and may be exercised by the holder on a cashless basis. In addition, the $3.08125 Warrants contain certain piggyback registration rights.

In November 2010, we issued warrant instruments to various investors in connection with certain service agreements. These warrants are exercisable into an aggregate of 27,000 shares of our common stock at an exercise price of $4.02 per share and expire between November 12, 2011 and May 12, 2012. The warrants have been issued in reliance on the exemptions provided by Section 4(2) of the Securities Act.

On November 15, 2010, we issued 160,000 shares of restricted, unregistered common stock in connection with the acquisition of certain intellectual property from Solid Data Systems, Inc. The shares have been issued in reliance on the exemptions provided by Section 4(2) of the Securities Act.  Of the 160,000 shares of common stock issued, 38,000 shares of common stock are subject to various escrow provisions for a 3-year period with a potential release of 50% of the shares after 18 months.

On December 9, 2010, we issued 4,210 shares of common stock in connection with an engagement letter dated December 9, 2009 by and between OCZ Technology Group, Inc., and Merriman Capital, Inc. for various financial consulting services.

In December 2010, Ryan M. Petersen and Arthur Armagast, our Chief Executive Officer and a former founder of OCZ, respectively, both of whom have a substantial interest in OCZ, sold an aggregate of 4,640,525 shares of our common stock at $3.75 per share in a private placement. These shares were issued in the United States in reliance of the exemption from securities registration in Section 4(1) under the Securities Act and all recipients of our common stock were “accredited” as defined under the rules of the SEC.

In January 2011, we issued 150,000 shares of common stock in connection with a securities purchase agreement between OCZ Technology Group, Inc., and MICSYS Technology Co., Ltd. (“MICSYS”), a vendor of OCZ.  In addition, we issued warrant instruments to MICSYS, which are exercisable into an aggregate of 25,000 shares of our common stock at an exercise price of $5 per share and expire on January 7, 2012. The shares were offered and sold outside of the United States in reliance upon Regulation S (“Regulation S”) under the Securities Act.
 
 
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On March 14, 2011, we entered into a Share Purchase Agreement, as amended by that certain First Amendment dated March 22, 2011, (the “Agreement”) by and among OCZ, Indilinx Co., Ltd., a company organized under the laws of the Republic of Korea (“Indilinx”), the shareholders of the Indilinx and DLS Law Firm, as Seller Representative, pursuant to which OCZ agreed to acquire all of the outstanding shares of Indilinx for a total purchase price of approximately $32.0 million paid as follows: (1) $568,459 in cash payable to the holders of vested and unvested Indilinx stock options, as may be adjusted under the terms of the Agreement, and (2) 4,160,630 shares of OCZ common stock (the “Stock Consideration”).  These shares were issued in reliance of the exemption from securities registration in Section 4(2) under the Securities Act and Rule 506 promulgated thereunder, as well as Regulation S.  10% of the Stock Consideration was placed in escrow to serve as security for any post-closing working capital and other adjustments and to cover any indemnification claims that OCZ may have under the Agreement for breaches of the representations, warranties and covenants made by Indilinx and the shareholders of Indilinx.
 
Since March 1, 2008, we have issued options to purchase an aggregate of 2,156,000 shares of our common stock under our stock option plan with a weighted average exercise price of $1.22 per share including options to purchase an aggregate of 330,000 shares of our common stock issued to our newly elected directors, at an exercise price of $4.35.  These options were granted in reliance of Rule 701 of the Securities Act.  Further information regarding grants made to our executive officers and directors may be found under “Executive Compensation - Director Compensation” and “Executive Compensation - Outstanding Equity Awards at February 28, 2011” herein.
 
 
29

 

Item 6. Selected Financial Data

Information required by this section is not required by regulation S-K for smaller reporting companies.
 
 
30

 
 
Item 7.
Management’s Discussion And Analysis Of Financial Condition And Results Of Operations
 
Overview

We are a leading provider of high performance Solid State Drives (“SSDs”) and Memory Modules for computing devices and systems.  Founded in 2002, we are incorporated in Delaware and have our headquarters in San Jose, California and offices in Canada, the Netherlands, and Taiwan.  Our fiscal year ends on the last day of February.
 
Historically, we primarily focused on developing, manufacturing and selling high-performance DRAM memory modules to individual computing enthusiasts through catalog and online retail channels. As the market for SSDs began to develop over the last several years, we have shifted our focus to serve this emerging market as our primary focus. We believe that our strong R&D foundation in memory has provided a solid R&D platform and natural transition to develop our SSD capabilities, given the technological similarities between product categories. We began to implement a strategy to shift our focus towards the emerging SSD market in early 2009, which has resulted in our revenue mix shifting heavily towards SSDs, which became a majority of our business in 2010. As a result, our target customers are increasingly enterprises and original equipment manufacturers (or “OEMs”). In August 2010, we announced that we planned to deemphasize our legacy memory products by discontinuing certain low margin commodity DRAM module products. By February 28, 2011, the end of our fiscal year, we had discontinued our legacy memory products to focus on SSDs in accordance with our previously announced plans in January 2011.

In addition to our SSD and Memory Module product lines, we design, develop, manufacture and distribute other high performance components for computing devices and systems, including thermal management solutions, AC/DC switching PSUs and computer gaming solutions.  We offer our customers flexibility and customization by providing a broad array of solutions which are interoperable and can be configured alone or in combination to make computers run faster, more reliably, efficiently and cost effectively.  Through our diversified and global distribution channel, we offer approximately 250 products to more than 400 customers, including leading retailers, etailers, OEMs and computer distributors.
 
Sales to our ten largest customers in fiscal year ended February 28, 2011 accounted for approximately 49% of our net revenue.  During the fiscal year ended 2011, revenue from Newegg.com accounted for approximately 17% of our net revenue.  No other customer was responsible for 10% or more of our net revenue.

We develop flexible and customizable component solutions quickly and efficiently to meet the ever changing market needs and provide superior customer service.  We believe our high performance computer components offer the speed, density, size and reliability necessary to meet the special demands of:

 
industrial equipment and computer systems;

 
computer and computer gaming and enthusiasts;
 
 
mission critical servers and high end workstations;
 
 
personal computer (“PC”) upgrades to extend the useable life of existing PCs;
 
 
high performance computing and scientific computing;
 
 
video and music editing;
 
 
home theatre PCs and digital home convergence products; and
 
 
digital photography and digital image manipulation computers.
 
We perform the majority of our research and development efforts in-house, which increases communication and collaboration between design teams, streamlines the development process and reduces time-to-market.

We commenced operations in 2002 and shares of our common stock began trading on AIM in June 2006.  On April 28, 2006, we amended our certificate of incorporation to, among other matters, affect a 3 for 1 forward stock split.  In May 2007, we acquired PC Power and Cooling, Inc., a privately-held manufacturer of PSUs that was based in San Diego, California.  We now offer both PC Power and Cooling, Inc. and OCZ branded PSUs.  In October 2007, we acquired substantially all of the assets of Silicon Data Inc., doing business as Hypersonic PC Systems, a privately-held manufacturer of high performance gaming PCs and laptops aimed at the computer gaming community that was based in Great Neck, New York.  In March 2009, we amended our certificate of incorporation primarily to increase the number of authorized shares and eliminate a number of provisions which required us to comply with various United Kingdom laws in the case of, among other things, takeovers and tender offers.  On April 1, 2009, following appropriate stockholder approval, we voluntarily delisted our common stock from trading on AIM.  On January 14, 2010 our common stock was listed on the OTCBB, and from February 10, 2010 to April 22, 2010, our common stock was traded on the OTCBB.  Since April 23, 2010, our common stock has been traded on The NASDAQ Capital Market.
 
 
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As of our fiscal year ended February 28, 2011, we had over 400 customers, most of which are distributors or etailers in 70 countries.

For the fiscal years ended February 28, 2011 and February 28, 2010, our net sales were $190.1 million and $144.0 million, respectively and our net loss was $30.0 million and $13.5 million, respectively.

In September 2009, we sold all inventory, patents and other assets related to our Neural Impulse Actuator product line to BCInet, Inc., a Delaware corporation, in exchange for notes with principal amounts in the aggregate of $895,415 and shares of BCInet, Inc.’s Series A preferred stock, representing a 27% equity stake in BCInet, Inc.  Also in September 2009, we amended our certificate of incorporation to affect a 1 for 2.5 reverse stock split.  All share amounts in this document have been adjusted for the effect of this reverse split.

Results of Operations for Fiscal Years Ended February 28, 2011, February 28, 2010 and February 28, 2009

The following table sets forth our financial results, as a percentage of net sales for the periods indicated.
 
   
Year Ended
February 28,
 
   
2011
   
2010
   
2009
 
Revenue
                 
Sales – net
    100%       100%       100%  
Cost of revenue
    87.3       87.0       87.3  
                         
Gross Profit
    12.7       13.0       12.7  
                         
Expenses
                       
Sales and marketing
    8.0       7.1       7.3  
Research and development
    4.0       3.7       1.7  
General, administrative and operations
    9.6       10.3       10.7  
Impairment of goodwill and intangible assets
    -       0.6       -  
                         
Total operating expenses
    21.6       21.7       19.7  
                         
Operating loss
    (8.9)       (8.7)       (7.0)  
                         
Other income/(expense)
                       
Other income – net
    (0.6)       0.5       (0.1)  
Interest and financing costs
    (1.7)       (1.2)       (0.4)  
Change in fair value of derivative liability
    (4.1)       -       -  
                         
Total other income/(expense)
    (6.4)       (0.7)       (0.5)  
                         
Loss before tax
    (15.3)       (9.4)       (7.5)  
                         
Tax expense
    0.5       -       -  
                         
Net loss
    (15.8)%       (9.4)%       (7.5)%  
 
 
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Comparison of Fiscal Years Ended February 28, 2010 and February 28, 2011
 
Net sales.  Net sales increased by $46.1 million, or 32.1%, from $144.0 million in the fiscal year ended February 28, 2010 to $190.1 million in the fiscal year ended February 28, 2011.   The increase in the fiscal year ended February 28, 2011 net sales is directly related to increased worldwide customer demand of OCZ’s SSD products. SSD net sales and unit sales increased 206% and 256%, respectively, from fiscal year ended February 28, 2010 compared to the fiscal year ended February 28, 2011.  Overall, SSD products accounted for approximately $90 million in net sales increases for fiscal year ended February 28, 2011.  Memory processing sales declined in fiscal year ended February 28, 2011 compared to fiscal year ended February 28, 2010 by approximately 50% or $35.7 million, as expected, reflecting our decision to end the legacy memory products.  Power supply and other products sales declined slightly by $7.9 million from fiscal year ended February 28, 2011 compared to the fiscal year ended February 28, 2010.  
 
Cost of revenue.  Cost of revenue increased by $40.7 million, or 32.4%, from $125.3 million in fiscal year ended February 28, 2010 compared to $166.0 million in fiscal year ended February 28, 2011.  Cost of revenue as a percentage of net sales increased from 87.0% in fiscal year ended February 28, 2011 compared to 87.3% in the fiscal year ended February 28, 2011.  The increase in absolute dollars of cost of sales was primarily attributable to the increase in net sales.  
 
Cost of revenue does not include any stock-based compensation expense for fiscal year ended February 28, 2010 and fiscal year ended February 28, 2011.

Sales and marketing expenses.  Sales and marketing expenses increased by $5.0 million, or 49%, from $10.2 million in fiscal year ended February 28, 2010 to $15.3 million in fiscal year ended February 28, 2011.  Sales and marketing expenses as a percentage of net sales increased from 7.1% to 8.0% for the fiscal years ended February 28, 2010 and 2011, respectively.  The increase in both absolute dollars and the percentage of net sales were due to higher costs related to our sales and marketing programs and the related efforts focused on our SSD products as well as higher commission costs for the increased sales.

Sales and marketing expenses include stock-based compensation expense of $166,000 and $231,000 for fiscal years ended February 28, 2010 and 2011, respectively.
 
Research and development expenses.  Research and development expenses increased by $2.3 million, or 44% from $5.3 million in fiscal year ended February 28, 2010 to $7.7 million in fiscal year ended February 28, 2011.  Research and development expenses as a percentage of net sales increased from 3.7% to 4.0% in the fiscal years ended February 28, 2010 and fiscal year ended February 28, 2011, respectively.  The increase in absolute dollars was primarily due to $1.7 million, or 54%, increase in personnel costs related to the development of our SSD products.
 
Research and development expenses include stock-based compensation expense of $184,000 and $360,000 for fiscal year ended February 28, 2010 and fiscal year ended February 28, 2011, respectively.
 
General, administrative and operations expenses.  General, administrative and operations expenses increased by $3.5 million, or 23.8%, from $14.7 million in fiscal year ended February 28, 2010 to $18.2 million in fiscal year ended February 28, 2011.  General, administrative and operations expenses decreased as a percentage of net sales from 10.3% to 9.6% for the fiscal year ended February 28, 2010 and 2011, respectively.  The increase in absolute dollars was primarily due to approximately $1 million of costs associated with the acquisition of Solid Data Systems, Inc., legal proceedings related to a certain supplier of approximately $1.3 million, higher costs of credit insurance and bad debt reserves of approximately $0.7 million, increased personnel costs of approximately $0.6 million including $0.3 million of severance charges,  and increased contractor costs for product production of approximately $0.3 million which were partially offset by reduced charges of approximately $0.5 million related to a lease termination and other non-recurring costs in fiscal year ended February 28, 2010.
 
General and administrative expenses include stock-based compensation expenses of $313,000 and $437,000 for fiscal year ended February 28, 2010 and 2011, respectively.
 
Impairment of goodwill and intangible assets.  In February 2010, we discontinued the manufacturing and selling of Hypersonic PC Systems products which were purchased from Silicon Data in 2007.  Therefore, the $911,000 carrying value of goodwill and related intangibles recorded from that acquisition were determined to be fully impaired and were written off in entirety during fiscal year ended February 28, 2010.  In February 2011, an assessment was made of the goodwill related to the May 2007 acquisition of PC Power and Cooling, Inc.  Based upon our discounted cash flow model, which involves significant assumptions and estimates, We do not believe that its goodwill was impaired.  We did not recognize an impairment loss related to PC Power and Cooling, Inc. for fiscal year ended February 28, 2011.

Other income (expense)-net.  Other income (expense)-net was an expense of $1.1 million in the fiscal year ended February 28, 2011 compared to $727,000 of income in the fiscal year ended February 28, 2010. This net change of $1.8 million during fiscal year 2011 was primarily due to the write-off of BCInet related notes receivable and investment of approximately $1,043,000 in fiscal year ended February 28, 2011 compared to income of approximately $668,000 recognized in fiscal year ended February 28, 2010, and to a lesser degree foreign exchange transaction losses.
 
 
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Interest and financing costs. Interest and financing costs increased by $1.5 million from $1.7 million in the fiscal year ended February 28, 2010 to $3.2 million in fiscal year ended February 28, 2011. The increase in interest expense in the fiscal year ended 2011 was primarily due to increased borrowings of $9.7 million, higher borrowing expenses relating to factoring of accounts receivable and termination penalties and fees associated with cancellation of factoring loan agreements.

Adjustment to the fair value of common stock warrants. The adjustment to the fair value of common stock warrants increased by $7.9 million in the fiscal year ended February 28, 2011 due to the revaluation of the long-term warrant liability issued in fiscal year ended February 28, 2011.  The change in fair value was primarily influenced by the change in the trading price of the common stock underlying the warrant instrument.

Provision for income taxes.  The income tax provision/(benefit) amounted to ($1,000) in fiscal year ended February 28, 2010 and $861,000 in fiscal year ended February 28, 2011 due primarily to an $836,000 increase in the valuation allowance on the deferred tax assets. We did not record a tax benefit in fiscal year ended February 28, 2010 or fiscal year ended February 28, 2011 at the statutory combined federal and state income tax rates of approximately 40% due to the uncertainty surrounding the future realization of the potential tax benefit associated with net operating loss carryforwards.
 
Comparison of Fiscal Years Ended February 29, 2009 and February 28, 2010

Net sales.  Net sales decreased by $12.0 million, or 7.7%, from $156.0 million in fiscal year ended February 28, 2009 to $144.0 million in fiscal year ended February 28, 2010.  This decrease was due primarily to several factors.  Overall, there was a 25% decrease, in the aggregate, of unit sales across all product lines from 3.4 million units in fiscal year ended February 2009 to 2.6 million units in fiscal year ended February 28, 2010.  Memory processing unit sales decreased from fiscal year ended February 2009 to fiscal year ended February 28, 2010 by 34%. This was partially offset by a 3.4% increase in the average selling price per units of these products. 

Cost of revenue.  Cost of revenue decreased by $10.9 million, or 8.0%, from $136.2 million in fiscal year ended February 28, 2009 to $125.3 million in fiscal year ended February 28, 2010.  Cost of revenue as a percentage of net sales was 87.3% in fiscal year ended February 28, 2009 compared to 87.0% in fiscal year ended February 28, 2010.  The decrease in absolute dollars of cost of sales was attributable to the decrease in net sales.  The lower cost of revenues as a percentage of net sales in fiscal year ended February 28, 2010 was driven by slightly higher average selling prices.
 
Sales and marketing expenses.  Sales and marketing expenses decreased by $1.2 million, or 10.1%, from $11.4 million in fiscal year ended February 28, 2009 to $10.2 million in fiscal year ended February 28, 2010.  Sales and marketing expenses were 7.3% and 7.1% of net sales in fiscal year ended February 28, 2009 and 2010, respectively.  The decrease in absolute dollars was primarily due to a decrease in the sales and marketing programs necessary to support the lower sales volume.
 
Sales and marketing expenses include stock-based compensation expense of $287,000 and $166,000 for fiscal year ended February 28, 2009 and fiscal year ended February 28, 2010, respectively.
 
Research and development expenses.  Research and development expenses increased by $2.7 million, or 107.0% from $2.6 million in fiscal year ended February 28, 2009 to $5.3 million in fiscal year ended February 28, 2010.  Research and development expenses were 1.7% and 3.7% of net sales in fiscal year ended February 28, 2009 and 2010, respectively.  The increase in absolute dollars was primarily due to additional resources being used in the development of our SSD products.
 
Research and development expenses include stock-based compensation expense of $130,000 and $184,000 for fiscal year ended February 28, 2009 and fiscal year ended February 28, 2010, respectively.
 
General, administrative and operations expenses.  General, administrative and operations expenses decreased by $1.9 million, or 11.9%, from $16.7 million in fiscal year ended February 28, 2009 to $14.7 million in fiscal year ended February 28, 2010.  General, administrative and operations expenses remained relatively flat as a percentage of net sales at 10.7% and 10.3%, respectively.  The decrease in absolute dollars was primarily due to $1.3 million of lower shipping costs because of lower sales volume and $991,000 of lower bad debt expenses, partially offset by a $264,000 increase in contractor costs.
 
General and administrative expenses include stock-based compensation expenses of $461,000 and $313,000 for fiscal year ended February 28, 2009 and February 28, 2010, respectively.
 
Impairment of goodwill and intangible assets.  In February 2010, we stopped manufacturing and selling the Hypersonic PC Systems products which we purchased from Silicon Data in 2007.  Therefore, the $911,000 carrying value of goodwill and related intangibles recorded from that acquisition were determined to be fully impaired and were written off in their entirety.
 
 
34

 
 
Other income (expense)-net.  Other income (expense)-net was an income of $727,000 in the fiscal year ended February 28, 2010 compared to $169,000 of expense in the fiscal year ended February 28, 2009. This net change of approximately $900,000 during fiscal year 2010 was primarily due to a $668,000 gain on the sale of the NIA product line to BCInet in fiscal year 2010 and, to a lesser degree, increased foreign exchange transaction losses.

Interest and financing costs. Interest and financing costs increased by $1.1 million from $0.6 million in the fiscal year ended February 28, 2009 to $1.7 million in fiscal year ended February 28, 2010. The increase in interest expense in the fiscal 2010 was primarily due to higher borrowing expenses relating to factoring of accounts receivable which began in mid fiscal 2010 compared with the conventional asset based financing which was in place during fiscal 2009 and, to a lesser degree, an increase of approximately $1.7 million in the average loan balance in fiscal 2010 compared to fiscal 2009.
 
Provision for income taxes.  The income tax provision/(benefit) amounted to $61,000 in fiscal year ended February 28, 2009 and ($1,000) in fiscal year ended February 28, 2010 We did not record a tax benefit at the statutory combined federal and state income tax rates of approximately 40% due to the uncertainty surrounding the future realization of the potential tax benefit associated with net operating loss carry forwards.
 
Liquidity and Capital Resources
  
Since our inception, we have historically not generated sufficient cash from operations and have relied upon funds from equity offerings and debt financings. 
 
Operating Activities.  Net cash provided by (used in) operating activities was $640,000 and $(26.6) million for fiscal year ended February 28, 2010 and fiscal year ended February 28, 2011, respectively. The net cash used in operating activities in 2011 resulted from a net loss of $30 million, adjusted for $16.3 million in non-cash charges and ($12.9) million for use of cash associated with the net change in assets and liabilities.  Non-cash charges in fiscal year ended February 28, 2011 included depreciation, fair value adjustments for warrants, stock based compensation and increases to inventory and bad debt reserves.  The net change in assets and liabilities included increases in accounts payable and accrued expenses of $16.1 million offset by increases in accounts receivable, inventory and prepaid expenses of $29.0 million.  Net cash provided by (used in) operating activities during the fiscal year ended February 28, 2010 was due primarily to an increase in accounts payable and accrued expenses of $1.6 million, a decrease in inventories of $6.6 million, a decrease in accounts receivable of $3.0 million and a decrease in prepaid expenses of $301,000, partially offset by a non-cash gain on disposition of the NIA product line of $668,000 and a net loss of $13.5 million.  The decreases in accounts receivable and inventory in fiscal year ended February 28, 2010 was primarily due to lower sales levels while the increase in accounts payable and accrued expenses was due to us paying vendors later because of working capital constraints. 
 
Investing activities.  Net cash used in our investing activities was $1.3 million and $1.6 million for fiscal year ended February 28, 2010 and fiscal year ended February 28, 2011, respectively.  Of these amounts, $887,000 and $1.5 million, respectively, were related to the purchase of fixed assets including those needed to support our growth and establishment of a warehouse and manufacturing facility in Taiwan.  We continue to invest in our surface mount technology (“SMT”) production line to move manufacturing, assembly and test capabilities in-house.  We will also invest in our infrastructure in order to improve our controls and procedures as part of growing our business and meeting regulatory requirements associated with being a public company.
 
Financing activities.  Net cash provided by our financing activities was $1.5 million and $44.6 million for fiscal year ended February 28, 2010 and fiscal year ended February 28, 2011, respectively.  Cash provided by financing activities in fiscal year ended February 28, 2011 primarily reflects our common stock issuance of $34.7 million.  We also increased our short term bank borrowings by $9.7 million as of fiscal year ended February 28, 2011 as compared to fiscal year ended February 28, 2010.  Cash provided by financing activities in fiscal year ended February 28, 2010 was primarily due to common stock and preferred stock issuances of $7,000 and $281,000, respectively, as well as increases in bank loans of $919,000 and $500,000 borrowings from Ryan M. Petersen, our Chief Executive Officer, made to us in fiscal year ended February 28, 2010.  
 
 
35

 

Other factors affecting liquidity and capital resources.

We have historically not generated sufficient cash from operations and have relied upon equity offerings and debt financing such as receivable factoring, increased trade terms from vendors, and bank lines of credit as we have grown.  In July 2009, we entered into a Sale of Accounts and Security Agreement with Faunus Group International, Inc, pursuant to which we were able to factor our foreign receivables up to $10 million in the aggregate (as amended, the “FGI Agreement”).  Additionally, in July 2009, we entered into a Loan and Security Agreement with Silicon Valley Bank (as amended, the “SVB Agreement” and collectively with the FGI Agreement, the “Factoring Loan Agreements”) to factor all our domestic receivables up to $10 million in the aggregate.  The SVB Loan Agreement capped the aggregate debt under both Factoring Loan Agreements to $17.5 million.  Under the Factoring Loan Agreements we had guaranteed our obligations thereunder and had pledged substantially all of our assets as security.  As of February 28, 2010, the outstanding loan balances under the Factoring Loan Agreements were $10.4 million in the aggregate.  In order to provide some bridge financing as these new financing arrangements were established, in August 2009 we borrowed $500,000 from our Chief Executive Officer, Ryan M. Petersen, at 7.5% interest per annum.  The loan was repaid in full in September 2010. 

In February 2011 we signed an agreement with Silicon Valley Bank for asset-based financing of up to $25 million (the “New SVB Agreement”). This new agreement, which expires in February 2012, expands the $17.5 million debt capability available under the prior joint factoring arrangements with Silicon Valley Bank and Faunus Group International, Inc. The new agreement contains financial covenants for quarterly EBITDA as defined in the agreement and a monthly quick ratio computation (our cash and accounts receivable divided by current liabilities). Interest rates range between prime +1.5% to prime +2.5%. There are also provisions for letter of credit sub-limits and various operational, reporting, negative and affirmative covenants with which we must comply.

We expect to experience growth in our working capital requirements as we continue to expand our business.  We cannot assure that we will find additional debt or equity financing allowing us to grow.  We intend to fund this continued expansion through the combination of cash generated by operations, increased debt facilities, and potential future equity offerings.  We anticipate that working capital will constitute a material use of our cash resources.

In April 2011, we consummated a follow-on offering pursuant to which we issued 11,730,000 shares of common stock at $8.50 per share.  We received approximately $94 million in net proceeds from the offering, which includes the over-allotment option being exercised in full, after deducting underwriting discounts and commissions and estimated offering expenses. We intend to use the net proceeds from the offering for general corporate purposes.

We believe that our current cash and cash equivalents, combined with the April 2011 follow-on offering proceeds, will be sufficient to meet our anticipated cash needs for working capital and capital expenditures for at least 12 months. Our long-term future capital requirements and financing needs will depend on many factors, including our level of revenues, the timing and extent of spending to support our product development efforts, the expansion of sales and marketing activities, the timing of our introductions of new products, the costs to ensure access to adequate manufacturing capacity and associated infrastructure and the continuing market acceptance of our products.  If the sources of cash and cash equivalents are insufficient to satisfy our liquidity requirements, we could be required, or could elect, to seek additional funding through public or private equity or debt financing and additional funds may not be available on terms acceptable to us or at all.

There is no assurance that we will maintain compliance with all covenants of our Factoring Loan Agreements in the future.  If we are in violation of covenants in the Factoring Loan Agreements and do not receive a waiver, the lender could choose to accelerate payment effectively causing all loan balances to become due.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements.
 
Inflation

Inflation was not a material factor in either revenue or operating expenses during our fiscal years ended February 28, 2010 and 2011.

Critical Accounting Policies and Estimates

Our 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 of America (“GAAP”).  The preparation of these financial statements requires us to make estimates and judgments that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses for each period.  Information with respect to our critical accounting policies which we believe could have the most significant effect on our reported results and require subjective or complex judgments is contained in the notes to the consolidated financial statements in this report for the fiscal year ended February 28, 2011.

We believe the following are our most critical accounting policies as they require our more significant judgments in the preparation of our financial statements.
 
 
36

 

Revenue recognition.  We record all of our product sales net of allowances for returns, product rebates, sales credits, and market development funds.  We recognize revenue when there is persuasive evidence of an arrangement, product shipment by a common carrier has occurred, risk of loss has passed, the terms are fixed and collection is probable.  We generally use customer purchase orders and/or contracts as evidence of an arrangement and the underlying payment terms to determine if the sales price is fixed.  We also purchase credit insurance for the majority of our accounts.

We offer certain customers limited product return rights.  To estimate reserves for future sales returns, we regularly review our history of actual returns and monitor the inventory levels of our customers.  Reserves for future returns are adjusted as necessary, based on returns experience, future expectations and communication with our customers.

Probability of collection is assessed for each customer as it is subjected to a credit review process that evaluates its financial position, ability to pay, and the potential coverage by our credit insurer.  If it is determined from the outset of an arrangement that collection is not probable, the customer is required to pay cash in advance of shipment.  We provide for price protection credits on a case-by-case basis after assessing the market competition and product technology obsolescence.  These credits are recorded as a reduction to revenue at the time we reduce the product prices.

Marketing cooperative arrangements.  We have arrangements with resellers of our products to reimburse the resellers for cooperative marketing costs meeting specified criteria.  In certain arrangements, we record advertising costs meeting specified criteria within sales and marketing expenses in the accompanying consolidated statements of operations.  For those reimbursements that do not meet the criteria for advertising costs, the amounts are recorded as a reduction to sales in the accompanying consolidated statements of operations.

Product warranties.  We offer our customers warranties on certain products sold to them.  These warranties typically provide for the replacement of its products if they are found to be faulty within a specified period.  Concurrent with the sale of products, a provision for estimated warranty expenses is recorded with a corresponding increase in cost of goods sold.  The provision is adjusted periodically based on historical and anticipated experience.  Actual expense of replacing faulty products under warranty, including parts and labor, are charged to this provision when incurred.

Inventory.  Inventory is valued at the lower of cost or market value with cost being valued using the average cost method.  Inventory consists of raw materials, work in progress and finished goods.  We write down inventory for slow moving and obsolete inventory based on assessments of future demands and market conditions.

Income taxes.  We account for income taxes using an asset and liability approach, which requires us to recognize deferred tax assets and liabilities for the expected future tax consequences of events that have been recognized in a company’s financial statements or tax returns.  Under this method, deferred tax assets and liabilities are determined based on the difference between the financial information’s carrying amounts and tax basis of assets and liabilities using the enacted tax rates.  In addition, a valuation allowance is established to reduce any deferred tax asset for which it is determined that it is more likely than not that some portion of the deferred tax asset will not be realized.  Our Canadian subsidiary pays taxes in Canada.  We do not file consolidated tax returns.

Goodwill and Other Intangibles.  We review goodwill for impairment annually or more frequently whenever events or changes in circumstances indicate its carrying value may not be recoverable.

There are two steps in assessing whether impairment of goodwill and other indefinite lived intangible assets has occurred  The first step compares the carrying amount of the net assets (including goodwill), to the reporting unit’s fair value.  If  fair value exceeds the carrying amount of the reporting unit’s net assets, goodwill is not considered to be impaired and the second step of the impairment test is not required.  If the carrying amount of net assets exceeds  fair value, the second step of the impairment test is undertaken to measure the amount of impairment loss, if any.  In determining  fair value we apply an income approach of the reporting unit which is associated with goodwill or other indefinite lived asset.  The second step, if necessary, is used the measure the amount of impairment loss by comparing the implied fair value of goodwill with the carrying amount of that goodwill.  An impairment loss is recognized to the extent the carrying amount of goodwill exceeds the implied fair value of that goodwill.  The implied fair value of goodwill is determined by allocating fair value in a manner similar to a purchase price allocation in a business combination.  The residual fair value after this allocation is  implied fair value of goodwill.

Once a goodwill impairment loss is recognized, the adjusted carrying amount of goodwill shall be the new accounting basis and there is no subsequent reversal of previously recognized goodwill impairment loss in future years.

Determining the fair value of a reporting unit involves the use of significant estimates and assumptions.  These estimates and assumptions include revenue growth rates and operating margins used to calculate projected future cash flows, risk-adjusted discount rates, future economic and market conditions and determination of appropriate market comparables.  We base our fair value estimates on assumptions we believe to be reasonable but that are unpredictable and inherently uncertain.  Actual future results may differ from those estimates.

Our most recent annual goodwill impairment analysis, which was performed during the fourth quarter of fiscal year ended February 28, 2011, did not result in an impairment charge with respect to our acquisition of the assets of PC Power & Cooling in 2007 since the fair value exceeded the carrying value by amounts of 11% to 125% which are based on various assumptions.  We stopped manufacturing and selling of certain Hypersonic PC products which were purchased in 2007.  Therefore, all goodwill related to that acquisition was deemed fully impaired and written off in fiscal year ended February 28, 2010.  No impairment loss was incurred in fiscal year ended February 28, 2011.
 
 
37

 

Stock-based compensation.

Stock-based compensation is measured based on the grant-date fair value. Fair value is estimated using the Black-Scholes model. Compensation expense for stock options is recognized on the straight-line basis over the period earned and vested.  Restricted stock grants are measured based on the fair market value of the underlying stock on the date of grant and compensation expense for restricted stock grants is recognized on the straight-line basis over the requisite service period.  Non-vested stock options and restricted stock grants are included in the diluted shares outstanding calculation when their effect is dilutive.

The amount of compensation expense recognized using the Black-Scholes model requires us to exercise judgment and make assumptions relating to the factors that determine the fair value of stock option grants.  The fair value calculated by this model is a function of several factors, including the grant price, the expected future volatility and the expected term of the option and the risk-free interest rate of the option.  The expected term and expected future volatility of the options require judgment.  In addition, we are required to estimate the expected forfeiture rate and only recognize expense for those stock options expected to vest.  We estimate the forfeiture rate based on historical experience and to the extent the actual forfeiture rate is different from the estimate, share-based compensation expense is adjusted accordingly.

New Accounting Pronouncements
 
In January 2010, the FASB issued a new accounting standards update for fair value measurements and disclosures. A reporting entity should disclose separately the amounts of significant transfers in and out of Level 1 and Level 2 and describe the reasons for the transfers. The new disclosures and clarifications of existing disclosures are effective for financial statements issued interim or annual financial periods ending after December 15, 2009, with the exception for the reconciliation disclosures for Level 3, which are effective for financial statements issued in interim or annual financial periods ending after December 15, 2010. The adoption of the new accounting standards update in fiscal 2011 did not have a material impact on our consolidated results of operations, financial condition or financial disclosures.

In December 2010, the FASB issued ASC No. 2010-28, Intangibles—Goodwill and Other (Topic 350): When to Perform Step 2 of the Goodwill
Impairment Test for Reporting Units with Zero or Negative Carrying Amounts (a consensus of the FASB Emerging Issues Task Force). ASU No. 2010-28 addresses questions about entities that have reporting units with zero or negative carrying amounts. The amendments modify Step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts. For those reporting units, an entity is required to perform Step 2 of the goodwill impairment test if it is more likely than not that a goodwill impairment exists. In determining whether it is more likely than not that goodwill impairment exists, an entity should consider whether there are any adverse qualitative factors indicating that impairment may exist. The qualitative factors are consistent with the existing guidance and examples in paragraph 350-20-35-30, which requires that goodwill of a reporting unit be tested for impairment between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. In addition, current GAAP will be improved by eliminating an entity’s ability to assert that a reporting unit is not required to perform Step 2 because the carrying amount of the reporting unit is zero or negative despite the existence of qualitative factors that indicate the goodwill is more likely than not impaired. As a result, goodwill impairments may be reported sooner than under current practice. The provisions of ASC No. 2010-28 are effective for fiscal years, and interim periods within those years, beginning after Dec. 15, 2010. Early adoption is not permitted. The Company does not expect the adoption of this ASU to have a material impact on its consolidated financial statements.

In December 2010, the FASB issued ASU No. 2010-29, Business Combinations (Topic 805) — Disclosure of Supplementary Pro Forma Information for Business Combinations. ASU No. 2010-29 clarifies that, when presenting comparative financial statements, SEC registrants should disclose revenue and earnings of the combined entity as though the current period business combinations had occurred as of the beginning of the comparable prior annual reporting period only. The amendments expand the supplemental pro forma disclosures to include a description of the nature and amount of material, nonrecurring pro forma adjustments directly attributable to the business combination included in the reported pro forma revenue and earnings. ASU 2010-29 is effective prospectively for material (either on an individual or aggregate basis) business combinations entered into in fiscal years beginning on or after December 15, 2010 with early adoption permitted. The Company is currently in the process of determining the impact, if any, of the adoption of the ASU on its consolidated financial statements.
 
 
38

 
 
Item 7a. Quantitative And Qualitative Disclosures About Market Risk
 
Information required by this section is not required by regulation S-K for smaller reporting companies.
 
 
39

 
 

Item 8.
Financial Statements And Supplementary Data
 
Index To Consolidated Financial Statements Of OCZ Technology Group, Inc.
 
   
Page
 
Reports Of Independent Registered Public Accountants
    41  
Consolidated Statements Of Operations
    43  
Consolidated Balance Sheets
    44  
Consolidated Statements Of Stockholders’ Equity And Comprehensive Loss
    45  
Consolidated Statements Of Cash Flows
    46  
Notes To Consolidated Financial Statements
    47  

 
40

 
 
Report Of Independent Registered Public Accounting Firm
 
To the Board of Directors and Stockholders
OCZ Technology Group, Inc.
 
We have audited the accompanying consolidated balance sheets of OCZ Technology Group, Inc. and Subsidiaries (the “Company”) as of February 28, 2011 and 2010, and the related consolidated statements of operations, stockholders’ equity and comprehensive income (loss), and cash flows for the years then ended.  These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
  
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Company as of February 28, 2011 and 2010, and the consolidated results of their operations and their cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.
 
Crowe Horwath LLP
 
Sherman Oaks, California
May 13, 2011
 
 
41

 
 
Report Of Independent Registered Public Accounting Firm

To the Board of Directors and Stockholders
OCZ Technology Group, Inc.

We have audited the accompanying consolidated statements of operations, stockholders’ equity and comprehensive income (loss), and cash flows of OCZ Technology Group, Inc. and subsidiaries (the “Company”) for the 12 months ended February 28, 2009.  These financial statements are the responsibility of the Company's management.  Our responsibility is to express an opinion on these financial statements based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.  We are not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting.  Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of our internal control over financial reporting.  Accordingly, we express no such opinion.  An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated results of operations and cash flows of the Company for the 12 months ended February 28, 2009, in conformity with U.S. generally accepted accounting principles.

Horwath Clark Whitehill LLP
London, United Kingdom
May 1, 2009
 
 
42

 
 
OCZ Technology Group, Inc.
Consolidated Statements of Operations
(in thousands, except per share amount)
 
   
Year Ended February 28,
 
   
2011
   
2010
   
2009
 
                   
Net revenues
  $ 190,116     $ 143,959     $ 155,982  
Cost of revenues
    165,962       125,303       136,191  
Gross profit
    24,154       18,656       19,791  
                         
Sales and marketing
    15,270       10,249       11,401  
Research and development
    7,677       5,331       2,575  
General, administrative and operations
    18,207       14,711       16,709  
Impairment of goodwill and intangible assets
    -       911       -  
Total operating expenses
    41,154       31,202       30,685  
Operating loss
    (17,000 )     (12,546 )     (10,894 )
Other income (expense) - net
    (1,068 )     727       (169 )
Interest and financing costs
    (3,174 )     (1,716 )     (600 )
Adjustment to the fair value of common stock warrants
    (7,924 )     -       -  
Loss before income taxes
    (29,166 )     (13,535 )     (11,663 )
Income tax expense (benefit)
    861       (1 )     61  
Net loss
  $ (30,027 )   $ (13,534 )   $ (11,724 )
Net loss per share:
                       
Basic
  $ (1.05 )   $ (0.64 )   $ (0.56 )
Diluted
  $ (1.05 )   $ (0.64 )   $ (0.56 )
Shares used in net loss per share computation:
                       
Basic
    28,700       21,300       21,000  
Diluted
    28,700       21,300       21,000  
                         
See accompanying notes to the Consolidated Financial Statements
 

 
43

 
 
OCZ Technology Group, Inc.
Consolidated Balance Sheets
($ in thousands)
 
   
February 28,
 2011
   
February 28,
2010
 
Assets
           
Current Assets:
           
Cash and cash equivalents
  $ 17,514     $ 1,224  
Restricted cash
    1,300       -  
Accounts receivable, net of allowances of $2,881 and $2,853 as of February 28, 2011 and 2010
    31,687       20,380  
Inventory, net
    22,798       9,846  
Note receivable
    -       375  
Deferred tax asset, net
    -       836  
Prepaid expenses and other current assets
    2,875       1,811  
Total current assets
    76,174       34,472  
Property and equipment, net
    3,046       2,629  
Intangible assets
    18       88  
Goodwill
    9,989       9,954  
Investments
    -       668  
Other assets
    42       38  
Total assets
  $ 89,269     $ 47,849  
Liabilities And Stockholders' Equity
               
Current liabilities:
               
Loans payable
  $ 20,011     $ 10,354  
Note payable to related party
    -       500  
Accounts payable
    40,645       26,318  
Accrued and other liabilities
    6,137       4,389  
Total current liabilities
    66,793       41,561  
Common stock warrant liability
    9,417       -  
Total liabilities
    76,210       41,561  
Commitments and contingencies (Note 9)
    -       -  
Stockholders' equity:
               
Preferred stock, $0.0025 par value; 20,000,000 shares authorized; 0  and 60,990 shares issued and outstanding as of February 28, 2011 and 2010
    -       -  
Common stock, $0.0025 par value; 120,000,000 shares authorized; 35,401,908 and 21,278,643 shares issued and outstanding as of February 28, 2011 and 2010
    88       53  
Additional paid-in capital
    68,749       31,862  
Accumulated translation adjustment
    (288 )     (164 )
Accumulated deficit
    (55,490 )     (25,463 )
Total stockholders' equity
    13,059       6,288  
Total liabilities and stockholders' equity
  $ 89,269     $ 47,849  
See accompanying notes to the Consolidated Financial Statements
 

 
44

 
 
OCZ Technology Group, Inc.
Consolidated Statements of Stockholders' Equity and Comprehensive Income (Loss)
(in thousands)
 
   
Preferred Stock
   
Common Stock
   
Additional
   
Accumulated Other
             
   
Shares Number
   
Shares Amount
   
Shares Number
   
Shares Amount
   
Paid-in Capital
   
Comprehensive Income (Loss)
   
Accumulated Deficit
   
Total
 
                                                 
As at March 1, 2008
    -     $ -       20,865     $ 52     $ 29,796     $ 155     $ (205 )   $ 29,798  
Components of comprehensive loss:
                                                               
Net Loss
    -       -       -       -       -       -       (11,724 )     (11,724 )
Foreign currency translation adjustment
    -       -       -       -       -       (267 )     -       (267 )
Total comprehensive loss
                                                            (11,991 )
Exercise of stock options
    -       -       74       -       35       -       -       35  
Capitalization of promissory note
    -       -       339       1       199       -       -       200  
Stock based compensation
    -       -       -       -       877       -       -       877  
Tax effect of stock based compensation
    -       -       -       -       4       -       -       4  
As at February 28, 2009
    -       -       21,278       53       30,911       (112 )     (11,929 )     18,923  
Components of comprehensive loss:
                                                               
Net Loss
    -       -       -       -       -       -       (13,534 )     (13,534 )
Foreign currency translation adjustment
    -       -       -       -       -       (52 )             (52 )
Total comprehensive loss
                                                            (13,586 )
Adjustment of exercise of stock options
    -       -       -       -       7       -       -       7  
Issuance of preferred stock
    61       -       -       -       281       -       -       281  
Stock based compensation
    -       -       -       -       663       -       -       663  
As at February 28, 2010
    61       -       21,278       53       31,862       (164 )     (25,463 )     6,288  
Components of comprehensive income (loss):
                                                               
Net Loss
    -       -       -       -       -       -       (30,027 )     (30,027 )
Foreign currency translation adjustment
    -       -       -       -       -       (124 )     -       (124 )
Total comprehensive loss
                                                            (30,151 )
Fair value of derivative warrants issued in connection with stock offering
    -       -       -       -       (2,081 )     -       -       (2,081 )
Issuance of common stock
    -       -       12,539       31       34,718       -       -       34,749  
Issuance of common stock for acquisition
    -       -       160               644       -       -       644  
Exercise of stock options
    -       -       928       2       1,011       -       -       1,013  
Issuance of common stock for warrants
    -       -       497       2       1,567       -       -       1,569  
Conversion of preferred stock into common stock
    (61 )     -       -       -       -       -       -       -  
Stock based compensation
    -       -       -       -       1,028       -       -       1,028  
As at February 28, 2011
    -     $ -       35,402     $ 88     $ 68,749     $ (288 )   $ (55,490 )   $ 13,059  
 
See accompanying notes to the Consolidated Financial Statements
 

 
45

 
 
Consolidated Statements of Cash Flow
(in thousands)
 
   
Year Ended February 28,
 
   
2011
   
2010
   
2009
 
Cash flows from operating activities:
                 
Net loss
  $ (30,027 )   $ (13,534 )   $ (11,724 )
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
                       
Depreciation of property and equipment
    1,116       1,009       744  
Amortization of intangibles
    70       111       112  
Impairment of goodwill and intangible assets
    -       911       -  
Bad debt expense
    1,260       644       1,410  
Stock-based compensation
    1,028       663       877  
Fair value adjustment of common stock warrants
    7,924       -       -  
Deferred income taxes
    836       -       -  
Non-cash write off of leasehold improvements and other assets
    644       104       -  
Loss (gain) on disposition of product line
    1,043       (668 )     -  
Non-cash inventory reserve
    2,381       -       -  
Changes in operating assets and liabilities:
                       
Accounts receivable
    (12,567 )     2,971       (4,925 )
Inventory
    (15,333 )     6,566       (1,960 )
Prepaid expenses and other assets
    (1,064 )     301       974  
Accounts payable
    14,327       924       12,361  
Accrued and other liabilities
    1,748       638       1,110  
Net cash  provided by (used in) operating activities
    (26,614 )     640       (1,021 )
Cash flows from investing activities:
                       
Purchases of property and equipment
    (1,533 )     (887 )     (1,659 )
(Increase) decrease in deposits
    (4 )     50       (23