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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 2001
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: 000-26485
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PARADYNE NETWORKS, INC.
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(Exact name of registrant as specified in its charter)
Delaware 75-2658219
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
8545 126TH AVENUE NORTH, LARGO, FLORIDA 33773
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(Address, including zip code, of principal
executive offices, including zip code)
(727) 530-2000
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(Registrant's telephone number, including area code)
None
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(Former name, former address and former fiscal year,
if changed since last report)
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 [ ].
The number of shares outstanding of the Registrant's Common Stock as
of July 31, 2001 was 32,985,894.
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PARADYNE NETWORKS, INC.
FOR THE PERIOD ENDED JUNE 30, 2001
INDEX
PART I FINANCIAL INFORMATION
ITEM 1. Financial Statements:
Condensed Consolidated Balance Sheets at June 30, 2001 and
December 31, 2000 1
Condensed Consolidated Statements of Operations for the Three
and Six Months Ended June 30, 2001 and June 30, 2000 2
Condensed Consolidated Statements of Cash Flows for
the Six Months Ended June 30, 2001 and June 30, 2000 3
Notes to Condensed Consolidated Financial Statements 4
ITEM 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 7
ITEM 3. Quantitative and Qualitative Disclosures about Market
Risk 11
PART II OTHER INFORMATION
ITEM 1. Legal Proceedings 11
ITEM 2. Changes in Securities and Use of Proceeds 12
ITEM 4. Submission of Matters to a Vote of Security Holders 12
ITEM 6. Exhibits and Reports on Form 8-K 12
SIGNATURES 13
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PARADYNE NETWORKS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
JUNE 30, DECEMBER 31,
2001 2000
(UNAUDITED)
----------- ------------
ASSETS
Current assets:
Cash and cash equivalents $ 23,044 $ 19,821
Accounts receivable less allowance for doubtful accounts of $3,650 and $3,919
at June 30, 2001 and December 31, 2000, respectively 11,562 23,770
Income tax receivables 258 4,000
Inventories (See Note 3) 18,167 38,628
Prepaid expenses and other current assets 1,936 2,563
--------- ---------
Total current assets 54,967 88,782
Property, plant and equipment, less accumulated depreciation of $23,187 and
$21,704 at June 30, 2001 and December 31, 2000, respectively 15,901 20,299
Other assets 663 8,199
--------- ---------
Total assets $ 71,531 $ 117,280
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 4,750 $ 17,032
Current portion of debt 591 638
Payroll & benefit related liabilities 5,900 7,647
Other current liabilities 5,815 8,620
--------- ---------
Total current liabilities 17,056 33,937
Long term liabilities 664 684
--------- ---------
Total liabilities 17,720 34,621
Stockholders' equity:
Preferred stock, par value $.001; 5,000,000 shares authorized, none issued
or outstanding
Common stock, par value $.001; 60,000,000 shares authorized, 32,985,694 and
32,556,127 shares issued and outstanding as of June 30, 2001 and
December 31, 2000, respectively 33 33
Additional paid-in capital 104,878 104,019
Retained earnings (deficit) (49,932) (19,759)
Other equity adjustments (1,168) (1,634)
--------- ---------
Total stockholders' equity 53,811 82,659
--------- ---------
Total liabilities and stockholders' equity $ 71,531 $ 117,280
========= =========
See accompanying Notes to Condensed Consolidated Financial Statements
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PARADYNE NETWORKS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
UNAUDITED
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
----------------------- ------------------------
2001 2000 2001 2000
-------- -------- -------- ---------
Revenues:
Sales $ 26,883 $ 74,788 $ 58,990 $ 137,740
Services 1,082 809 2,082 2,088
Royalties 250 0 250 250
-------- -------- -------- ---------
Total Revenues 28,215 75,597 61,322 140,078
Total cost of sales 26,885 44,714 46,580 82,082
-------- -------- -------- ---------
Gross Margin 1,330 30,883 14,742 57,996
Operating expenses:
Research and development 6,035 10,492 14,601 20,023
Selling, general & administrative 9,143 18,803 20,716 34,041
Impairment of intangible assets 4,159 0 5,761 0
Amortization of intangible assets and
deferred stock compensation 273 376 772 452
Business restructuring charges 0 0 3,807 0
-------- -------- -------- ---------
Total operating expenses 19,610 29,671 45,657 54,516
-------- -------- -------- ---------
Operating Income (loss) (18,280) 1,212 (30,915) 3,480
Other (income) expenses:
Interest, net (183) (780) (355) (1,617)
Other, net 16 128 (387) (325)
-------- -------- -------- ---------
Income (loss) before provision for income tax (18,113) 1,864 (30,173) 5,422
Provision for income taxes 0 578 0 1,681
-------- -------- -------- ---------
Net Income (loss) $(18,113) $ 1,286 $(30,173) $ 3,741
======== ======== ======== =========
Weighted average number of common shares outstanding
Basic 32,834 31,584 32,677 31,428
Diluted 32,834 33,341 32,677 33,441
Earnings (loss) per common share
Basic $ (0.55) $ 0.04 $ (0.92) $ 0.12
Diluted $ (0.55) $ 0.04 $ (0.92) $ 0.11
Consolidated Statements of Comprehensive Income (loss)
Net Income (loss) (18,113) 1,286 (30,173) 3,741
Translation Adjustments 132 6 76 9
-------- -------- -------- ---------
Comprehensive Income (loss) $(17,981) $ 1,292 $(30,097) $ 3,750
======== ======== ======== =========
See accompanying Notes to Condensed Consolidated Financial Statements
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PARADYNE NETWORKS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
UNAUDITED
SIX MONTHS ENDED
JUNE 30,
---------------------------
2001 2000
--------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ (30,173) $ 3,741
Adjustments to reconcile net income (loss) to cash provided by
(used in) operating activities:
Inventory write-down 10,905 --
Loss on sale of assets 392 15
Increase/(decrease) in allowance for bad debts (269) 715
Depreciation and amortization 4,510 3,930
Impairment of intangible asset 5,761 --
(Increase) decrease in assets:
Accounts receivable 16,219 (10,691)
Inventories 9,556 (37,064)
Other assets 1,825 (847)
Increase (decrease) in liabilities:
Accounts payable (10,782) 20,618
Payroll related (1,747) (973)
Other current liabilities (2,661) 6,288
--------- ---------
Net cash provided by (used in) operating activities 3,536 (14,268)
--------- ---------
CASH FLOWS PROVIDED BY (USED IN) INVESTING ACTIVITIES
Cash used to acquire net assets (1,500) (3,100)
Capital expenditures (465) (5,012)
Proceeds from sale of property, plant and equipment 735 --
--------- ---------
Net cash used in investing activities (1,230) (8,112)
--------- ---------
CASH FLOWS PROVIDED BY (USED IN) FINANCING ACTIVITIES
Net proceeds from stock transactions 1,052 4,442
Repayment of bank line of credit and other short term obligations -- (18)
Borrowings under other debt obligations 231 513
Repayments under other debt obligations (442) (307)
--------- ---------
Net cash provided by (used in) financing activities 841 4,630
--------- ---------
Effect of foreign exchange rate changes on cash 76 9
--------- ---------
Net Increase (decrease) in cash and cash equivalents 3,223 (17,741)
Cash and cash equivalents at beginning of period 19,821 62,885
--------- ---------
Cash and cash equivalents at end of period $ 23,044 $ 45,144
========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
NON-CASH TRANSACTIONS
Stock issued for notes $ (192) $ (485)
========= =========
Note issued to seller to acquire business $ -- $ 4,668
========= =========
Recoverable taxes related to stock option exercises $ -- $ 6,498
========= =========
See accompanying Notes to Condensed Consolidated Financial Statements
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PARADYNE NETWORKS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. BUSINESS AND BASIS OF PRESENTATION:
Paradyne Networks, Inc. (the "Company") designs, manufactures, and
markets data communications and networking products for network service
providers and business customers. The Company's products enable business
customers to efficiently access wide area network services and allow network
service providers to provide customers with high-speed services for data, voice,
video and multimedia applications.
The accompanying condensed unaudited consolidated financial statements
include the results of the Company and its wholly-owned subsidiaries: Paradyne
Corporation; Paradyne Canada Ltd.; Paradyne International Ltd.; Paradyne
Worldwide Corp.; Ark Electronic Products Inc.; Paradyne GmbH; Paradyne Finance
Corporation; and Paradyne International Sales Ltd. Intercompany accounts and
transactions have been eliminated in consolidation.
The accompanying condensed unaudited consolidated financial statements
of the Company have been prepared in accordance with generally accepted
accounting principles for interim financial information and with the
instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do
not contain all of the information and footnotes required by generally accepted
accounting principles for complete financial statements. However, in the opinion
of management, such statements reflect all adjustments, consisting of only
normal recurring adjustments, necessary for a fair presentation of interim
period results. These financial statements should be read in conjunction with
the December 31, 2000 audited financial statements and notes thereto included in
the Company's Annual Report on Form 10-K as filed with the Securities and
Exchange Commission on April 2, 2001.
The results of operations for the interim periods are not necessarily
indicative of results to be expected for the entire year or for other future
interim periods.
2. RECENTLY ISSUED FINANCIAL ACCOUNTING STANDARDS
In June 2000, the FASB issued Statement No. 138, "Accounting for
Certain Hedging Activities", which amended Statement No. 133, "Accounting for
Derivative Instruments and Hedging Activities." Statement No. 138 must be
adopted concurrently with the adoption of Statement No. 133. The Company has
adopted these new statements effective January 1, 2001.
These Statements required the Company to recognize all derivatives on
the balance sheet at fair value. As of June 30, 2001, the Company does not have
any derivative instruments as defined in the statements or engage in hedging
activities.
In July 2001 the FASB issued SFAS 141, 142 and 143. SFAS 141, "Business
Combinations" requires that the purchase method of accounting be used for all
business combinations initiated after June 30, 2001. Use of the pooling of
interests method of accounting will be prohibited. The Company does not have any
pending acquisitions that will be impacted by this rule.
SFAS 142, "Goodwill and Other Intangible Assets" changes the accounting
for goodwill from an amortization method to an impairment-only approach.
Amortization of goodwill, including goodwill recorded in past business
combinations, will cease for fiscal years beginning after December 15, 2001. The
Company does not have any goodwill recorded on its books at June 30, 2001;
therefore this standard will have no future impact on the Company's financial
statements.
SFAS 143, "Accounting for Asset Retirement Obligations" requires the
recognition of a liability for an asset retirement obligation in the period in
which it is incurred. When the liability is initially recorded, the carrying
amount of the related long-lived asset is correspondingly increased. Over time,
the liability is accreted to its present value and the related capitalized
charge is depreciated over the useful life of the asset. SFAS 143 is effective
for fiscal years beginning after June 15, 2002. We are currently reviewing the
impact of SFAS 143 on the Company.
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3. INVENTORY:
Inventories at June 30, 2001 and December 31, 2000 are summarized as
follows (in thousands):
JUNE 30, DECEMBER 31,
2001 2000
-------- ------------
Raw Materials $ 13,224 $ 30,088
Work In Process 2,310 5,533
Finished Goods 2,633 3,007
--------- --------
$ 18,167 $ 38,628
========= ========
In June 2001, the Company recorded a provision for the write-down of
inventory in the amount of $10,905. This charge was required because of the
sustained downturn in the telecommunications equipment sector overall and the
uncertainty of the Company's ability to liquidate its inventory at or above its
current cost basis.
4. EARNINGS PER SHARE:
The following table summarizes (in thousands, except per share data)
the weighted average shares outstanding for basic and diluted earnings per share
for the periods presented.
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
2001 2000 2001 2000
-------- -------- -------- ---------
Net Income (loss) $(18,113) $ 1,286 $(30,173) $ 3,741
Weighted average number of common shares outstanding
Basic 32,834 31,584 32,677 31,428
Dilutive effect of stock options -- 1,757 -- 2,013
-------- -------- -------- ---------
Diluted 32,834 33,341 32,677 33,441
-------- -------- -------- ---------
Earnings per common share:
Basic $ (0.55) $ 0.04 $ (0.92) $ 0.12
Dilutive effect of stock options $ -- $ -- $ -- $ (0.01)
-------- -------- -------- ---------
Diluted $ (0.55) $ 0.04 $ (0.92) $ 0.11
-------- -------- -------- ---------
5. BUSINESS RESTRUCTURING CHARGES:
In the first six months of 2001, the Company recorded additional
business restructuring charges of $3,807. The charges relate to the Company's
plans to reduce expenses necessitated by the softening of the telecommunications
equipment market, which has resulted in fewer orders for the Company's
equipment. The expense reductions include severance payments for the termination
of approximately 220 employees in addition to certain costs incurred in
conjunction with the plan to consolidate facilities located in Redbank and
Fairlawn, New Jersey and Largo, Florida.
During the first six months of 2001, the Company paid $4,175 related to
business restructurings. The remaining $837 accrued as of the end of June 30,
2001, substantially all of which is expected to be paid during 2001, is related
to both U.S. and international business restructuring. The following table
summarizes the activity in the business restructurings accrual for the first six
months of 2001:
Beginning Balance at January 1, 2001 $ 1,205
Additions to accrual in the first six months of 2001 3,807
Less payments made in the first six months of 2001
(related to prior periods and current period restructuring) (4,175)
-------
Ending Balance at June 30, 2001 $ 837
-------
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6. IMPAIRMENT OF INTANGIBLE ASSETS:
As part of the restructuring that occurred in the first quarter of
2001, which included the closing of a development facility located in Fairlawn,
New Jersey, the Company recorded a $1,602 charge for the impairment of an
intangible asset. This charge represented the net book value of the "Acquired
Workforce" intangible that was originally recorded in the second quarter of 2000
as part of the purchase of substantially all of the assets of Control Resources
Corporation (CRC). Since the value of the in place work force (who were
terminated) was the basis for recording the acquired workforce intangible, this
intangible asset had no future economic value; therefore the Company was
required to record an impairment for the remaining value of the asset.
Additionally, during June 2001 the Company recorded a $4,159 charge for
the impairment of goodwill. This charge represented the unamortized goodwill
that was originally recorded as part of the CRC purchase mentioned above. During
the second quarter of 2001 revenues from the sale of the products and technology
acquired as part of the CRC acquisition were minimal. Because of the Company's
uncertainty of its ability to sell these products in the future, this intangible
asset had no future economic value. Consequently, the Company was required to
write off the unamortized balance of the asset.
7. REVOLVING CREDIT FACILITY
On July 16, 2001, the Company entered into an agreement (the
"Agreement") with Foothill Capital Corporation, a wholly-owned subsidiary of
Wells Fargo & Company, to provide a secured revolving line of credit in the
amount of $17.5 million with availability subject to a borrowing base formula.
At the Company's option, the interest rate will either be the prime rate
published by Wells Fargo plus .75% or the LIBOR (London Interbank Offered Rate)
rate plus 2.75%. In no event will the borrowing rate be lower than 7%. The
Agreement contains financial covenants limiting the maximum amount of capital
expenditures the Company can make and requiring it to meet minimum EBITDA
targets. The Company is able to borrow up to a maximum of $17.5 million based on
the amount of its accounts receivable and its inventory. There are restrictions
on the eligible amounts of both the accounts receivable and the inventory. In
order to obtain this line of credit, the Company will pay the lender a closing
fee of $150, a monthly servicing fee of $4, an unused line fee of .375% of the
balance not borrowed under the line of credit each month, and the Company will
be responsible for audit and appraisal fees. If the Company fails to pay amounts
due under the loan when due and payable, or if it fails to perform specified
terms of the Agreement, it will be in default if it has previously borrowed
under the Agreement. In the event of default the Company will no longer be able
to borrow under the Agreement and it would have to immediately repay any amounts
owed the lender. The Company may cancel the loan Agreement at any time but it
would have to pay a cancellation premium starting at 3% of the maximum borrowing
at the inception of the Agreement, reducing as the Agreement matures to 1% of
the maximum borrowing during the last year of the Agreement.
8. PENDING LITIGATION
The Company is subject to legal proceedings, claims and liabilities
that arise in the ordinary course of business. Due to inherent uncertainties of
the litigation process and the judicial system, the Company is unable to predict
the outcome of these legal proceedings. The Company has provided, however, for
all loss contingencies where it believes it is probable and reasonably estimable
(in accordance with SFAS 5) that a liability has been incurred. Following the
Company's September 28, 2000 press release regarding contemplated third quarter
results, several securities class action suits (collectively, the "Securities
Actions") against Paradyne and certain of its officers and directors; Andrew
May, Paradyne's Chief Executive Officer and President at the time; Patrick
Murphy, Paradyne's Chief Financial Officer and Senior Vice President; and Thomas
Epley, Paradyne's Chairman of the Board (collectively, the "Defendants"), were
filed in October 2000 in the United States District Court for the Middle
District of Florida, Tampa Division. Sean E. Belanger, the Company's current
President and Chief Executive Officer and a director, was added as a Defendant
in the litigation in April 2001. These actions were later consolidated into one
case and the Court appointed Frank Gruttadauria and Larry Spitcaufsky as the
lead plaintiffs and the law firms of Milberg Weiss Bershad Hynes & Lerach LLP
and Barrack Rodos & Bacine as the lead counsel. The Amended Consolidated
Complaint alleges violations by the Defendants of the securities anti-fraud
provisions of the federal securities laws, specifically Section 10(b) of the
Securities Exchange Act of 1934, as amended, and Rule 10b-5 promulgated
thereunder. It further alleges that the individual Defendants are liable under
Section 20(a) of the Securities Exchange Act as "control persons of Paradyne".
The plaintiffs purport to represent a class of investors during a purported
class period of September 28, 1999 through September 28, 2000 and allege, in
effect, that the Defendants during that time, through material
misrepresentations and omissions, fraudulently or recklessly inflated the market
price of the Company's stock by allegedly erroneously reporting that the Company
was performing well, that its inventories were properly stated, and that its
customer base and product demand were solid. The Securities Actions seek damages
in an unspecified amount for the purported class for the alleged inflated amount
of the stock price during the class period. The Defendants believe the claims
are without merit and intend to vigorously defend them, although they cannot
predict the outcome. The Defendants filed a motion on May 25, 2001, asking the
court to dismiss the
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complaint, with prejudice, after which the Plaintiffs filed a memorandum of law
in opposition to Defendant's dismissal motion on July 2, 2001. The Defendant's
dismissal motion is pending with the court and we are unable to predict how long
the court will take to rule on the motion. The Company has engaged the law firm
of Holland & Knight, LLP as its legal counsel in this litigation.
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The following discussion and other sections of this Form 10-Q contain
forward-looking statements that involve risks and uncertainties. These
forward-looking statements are made pursuant to the "safe-harbor" provisions of
the Private Securities Litigation Reform Act of 1995 and are made based on
management's current expectations or beliefs as well as assumptions made by, and
information currently available to, management. All statements regarding future
events, our future financial performance and operating results, our business
strategy and our financing plans are forward-looking statements. In many cases,
you can identify forward-looking statements by terminology, such as "may,"
"will," "should," "expects," "intends," "plans," "anticipates," "believes,"
"estimates," "predicts," "potential," or "continue," or the negative of such
terms and other comparable terminology. These statements are only predictions.
Known and unknown risks, uncertainties and other factors could cause our actual
results to differ materially from those projected in the forward-looking
statements.
The information contained in this Form 10-Q is not a complete
description of our business or the risks associated with an investment in us.
Readers are referred to documents filed by Paradyne with the Securities and
Exchange Commission, specifically our most recent Form 10-K and other filings,
which identify important risk factors that could cause actual results to differ
from those contained in the forward-looking statements, including: the timing
and amount of expense reduction; the uncertainty of litigation, including
putative stockholder class actions; a reliance on international sales; rapid
technological change could render Paradyne's products obsolete; the uncertain
acceptance of new telecommunications services based on DSL; substantial
dependence on network service providers who may reduce or discontinue their
purchase of products or services at any time; the timing and amount of, or
cancellation or rescheduling of, orders of Paradyne's products to existing and
new customers; possible inability to sustain revenue growth or profitability;
dependence on only a few customers for a substantial portion of Paradyne's
revenue; highly competitive markets; dependence on sales of access products to
Lucent Technologies and Avaya Inc.; dependence on sole and single-source
suppliers; and a long and unpredictable sales cycle.
OVERVIEW
We are a leading developer, manufacturer and distributor of broadband
and narrowband network access products for network service providers ("NSPs")
and business customers. We offer solutions that enable business class, service
level managed, high-speed connectivity over the existing telephone network
infrastructure and provide for cost-effective access speeds of up to 45 Megabits
per second. We market and sell our products worldwide to NSPs and business
customers through a multi-tier distribution system that includes direct sales,
strategic partner sales, NSP sales and traditional distributor or value added
reseller sales. Lucent Technologies was our only 10% or greater customer during
the first six months of 2001. A majority of our sales to Lucent represented
sales as a reseller of our products. Direct and indirect sales and services
provided to Lucent during the first six months of 2001 were $6.3 million. Since
Avaya Inc. was spun off from Lucent during the fourth quarter of 2000, for
comparison purposes with the prior year, revenues from both Lucent and Avaya are
combined. Collectively, we estimate that direct and indirect sales to, and
service performed for Lucent and Avaya accounted for approximately 19% of our
total revenues in the first six months of 2001 versus 23% in the same period of
2000. This percentage reduction principally results from lower Lucent and Avaya
equipment sales of some of our older products in 2001. A loss or a significant
reduction or delay in sales to a major customer could materially and adversely
affect our business, financial condition and results of operations.
Revenue from equipment sales is recognized when the following has
occurred: evidence of a sales arrangement exists; delivery has occurred or
services have been rendered; our price to the buyer is fixed or determinable;
and collectibility is reasonably assured. Revenue from services, which consists
mainly of repair of out-of-warranty products, is recognized when the services
are performed and all substantial contractual obligations have been satisfied.
Amounts billed to customers in sales transactions related to shipping and
handling are classified as product revenue. Provision is made currently for
estimated product returns. Royalty revenue is recognized when we have completed
delivery of technical specifications and performed substantially all required
services under the related agreement.
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QUARTER AND SIX MONTHS ENDED JUNE 30, 2001 COMPARED TO QUARTER AND SIX MONTHS
ENDED JUNE 30, 2000
REVENUES. Total revenues decreased $47.4 million, or 63%, to $28.2 million for
the quarter ended June 30, 2001 from $75.6 million for the same period in 2000.
As a percentage of total revenues, equipment sales were 95% of total revenues
for the quarter ended June 30, 2001 and 99% for the quarter ended June 30, 2000.
This decrease in percentage is mostly attributable to the decrease in equipment
sales in addition to an increase in service and royalty revenues. Total revenues
for the six months ended June 30, 2001 decreased $78.8 million, or 56%, to $61.3
million from $140.1 million for the first six months of 2000. These decreases
were mostly attributable to significant decreases in the volume of sales of our
broadband access products as a result of the continued deterioration in the
overall competitive local exchange carrier (CLEC) market to new and existing
customers. Equipment sales were 96% of total revenues for the six months ended
June 30, 2001 compared to 98% for the same period in 2000. This percentage
decrease was mostly due to a reduction in equipment sales during the first six
months of 2001 versus 2000.
GROSS MARGIN. Gross margin decreased $29.6 million, or 96%, to $1.3 million for
the three months ended June 30, 2001 from $30.9 million for the three months
ended June 30, 2000 and decreased $43.3 million, or 75%, to $14.7 million for
the six months ended June 30, 2001 from $58.0 million for the six months ended
June 30, 2000. This decrease in gross margin is primarily due to two factors.
First, the volume of sales of our broadband access products decreased as a
result of reduced demand from our existing customers brought on by the continued
deterioration in the CLEC market. Secondly, in the month of June 2001, we
recorded a $10.9 million provision for the write-down of excess and obsolete
inventory because of the sustained downturn in the telecommunications sector and
uncertainty surrounding our ability to liquidate certain of our inventory at its
current cost basis. Gross margin as a percentage of total revenues decreased to
5% for the three months ended June 30, 2001 from 41% in the same period of 2000.
This decrease in gross margin percentage is mostly attributable to our recording
a $10.9 million provision for the write-down of excess and obsolete inventory,
partially offset by an increase in service and royalty revenues and by a
decrease in manufacturing costs. For the six months ended June 30, 2001, gross
margin as a percentage of total revenues decreased to 24% from 41% in the same
period of 2000 primarily due to the recording of a $10.9 million inventory
provision. During the first quarter of 2001, we incurred business restructuring
expenses that resulted from the termination of approximately 20 manufacturing
related employees and the closing of certain facilities (See "Note 5 - Business
Restructuring Charges" in the Notes to Condensed Consolidated Financial
Statements in this Form 10-Q for further information).
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses decreased
$4.5 million, or 42%, to $6.0 million for the three months ended June 30, 2001
from $10.5 million for the same period in 2000. For the six months ended June
30, 2000, research and development expenses decreased $5.4 million, or 27%, to
$14.6 million compared to $20.0 million for the same period in 2000. These
decreases for the three months and six months ended June 30, 2001 resulted
primarily from reductions in personnel related costs, expenditures for
engineering prototype supplies and professional fees for contracted labor. Most
of the reduced expenditures are the result of our first quarter business
restructure that included the termination of approximately 120 research and
development employees and the closing of facilities in Redbank and Fairlawn,
New Jersey. (See "Note 5 - Business Restructuring Charges" in the Notes to
Condensed Consolidated Financial Statements in this Form 10-Q for further
information.) As a result of these actions, we expect to realize reductions in
research and development costs on an annual basis of approximately $10.0
million. For the three months ended June 30, 2001, research and development
expense as a percentage of total revenues, increased to 21% from 14% in the same
period of 2000 and for the six months ended June 30, 2001, the percentage
increased to 24% from 14% for the same period of 2000. These increases are
primarily attributable to the 63% and 56% decreases in revenue during the three
and six month periods of 2001, respectively.
SELLING, GENERAL AND ADMINISTRATIVE ("SG&A") EXPENSES. SG&A expenses decreased
$9.7 million, or 51%, to $9.1 million for the three months ended June 30, 2001
from $18.8 million for the three months ended June 30, 2000 and decreased $13.3
million, or 39%, to $20.7 million for the six months ended June 30, 2001 from
$34.0 million for the six months ended June 30, 2000. Most of the decreases for
the three and six months ended June 30, 2001 were due to decreased advertising
expenses (primarily joint advertising with a major customer associated with the
sales of new products in the prior year not repeated in 2001) and decreases in
expenses related to personnel and travel. With the exception of advertising,
most of the reduced expenditures are the result of our first quarter business
restructuring that included the termination of approximately 80 SG&A employees
and the closing of facilities in Redbank and Fairlawn, New Jersey. (See "Note 5
- Business Restructuring Charges" in the Notes to Condensed Consolidated
Financial Statements in this Form 10-Q for further information.) As a result of
these actions, we expect to realize reductions in SG&A expenses on an annual
basis of approximately $6.0 million. Offsetting the decreases in expenses for
the six months ended June 30, 2001 were increases to expenses related to
professional fees for mostly legal and accounting services. SG&A expense as a
percentage of revenue increased from 24.9% for the three months ended June 30,
2000 to 32% for the three months ended June 30, 2001 and from 24% for the six
months ended June 30, 2000 to 34% for the six months ended June 30, 2001. These
increases were primarily attributable to the decreases in revenue during the
three and six month periods, respectively.
IMPAIRMENT OF INTANGIBLE ASSETS. Impairment of intangible assets includes a $4.2
million charge that occurred in the second quarter of 2001 and a $1.6 million
charge that occurred in the first three months of 2001 resulting in a total of
$5.8 million for the first six
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months of 2001. The $4.2 million charge results from the write off of the
unamortized balance of goodwill that was originally recorded as part of the
Control Resources Corporation (CRC) purchase in April 2000. Revenues from the
sale of the products and technology acquired as part of the CRC acquisition have
been minimal. Because of uncertainty related to our ability to sell the products
from the product line acquired from CRC, we determined that this intangible
asset had no future economic value, and consequently, we were required to write
off the unamortized balance of the asset. The $1.6 million charge for impairment
of intangible assets results from the write-off of the net book value of an
"Acquired Workforce" intangible that was originally recorded in the second
quarter of 2000 as part of the purchase of substantially all of the assets of
CRC. As part of the restructuring that occurred in the first quarter of 2001, we
announced that we were closing the Fairlawn, New Jersey facility and that
substantially all of the employees at that facility would be terminated in 2001.
Since the value of the in place work force (who were terminated) was the basis
of recording the acquired workforce intangible, we recorded an impairment charge
for the remaining value of the asset.
AMORTIZATION OF INTANGIBLE ASSETS AND DEFERRED STOCK COMPENSATION. The
amortization of intangible assets and deferred stock compensation decreased by
$.1 million to $.3 million for the three months ended June 30, 2001 from $.4
million for the same period in 2000 and increased by $.3 million to $.8 million
for the six month period ended June 30, 2001 from $.5 million for the same
period in 2000. The amortization of intangible assets is attributable to
goodwill and acquired work force that resulted from the purchase of
substantially all of the assets of CRC in the second quarter of 2000 (see above
discussion of "Impairment of Intangible Asset"). Since all ($5.8 million)
intangible assets were written off in the first six months of 2001 as a result
of the impairment of intangible assets, amortization of these intangible assets
amounting to approximately $1.5 million on an annual basis will no longer be
recorded. The amortization of deferred stock compensation is related to the
granting of stock options to key employees at prices deemed to be below fair
market value for financial reporting purposes.
BUSINESS RESTRUCTURING CHARGES. During the first quarter of 2001 we incurred
expenses of $3.8 million related to our plans to reduce expenses. This was
necessitated by the softening of the telecommunications equipment market, which
has resulted in reduced demand for our equipment. These expenses include
severance payments for the termination of approximately 220 employees in
addition to costs incurred in conjunction with the consolidation of our
facilities by closing two facilities development centers located in New Jersey
and one office building in Florida. No additional restructuring expenses have
been incurred during the second quarter of 2001.
INTEREST AND OTHER (INCOME) EXPENSE, NET. Interest and other (income) expense,
net, decreased by $.5 million to $.2 million of income for the three months
ended June 30, 2001, from $.7 million of income for the same period in 2000 and
decreased $1.2 million to $.7 million of income for the six months ended June
30, 2000, from $1.9 million of income for the same period in 2000. Interest and
other (income) expense, net, is related to interest income on short term
investments, technology sales, income from fees, interest on notes payable and
borrowings under lines of credit and foreign exchange gains and losses. This
decrease in income for the three months ended June 30, 2001 was primarily
attributable to a reduction in interest income due to our significantly lower
cash position from the second quarter of 2000 resulting in lower earnings on
short-term investments. The decrease in income for the six months ended June 30,
2001 includes the items previously mentioned in addition to a reduction in the
amount of income from the sale of patents, offset in part by the recognition of
commitment fee income net of expenses, received in connection with the
termination of a credit facility with a customer.
PROVISION FOR INCOME TAXES. Provision for income taxes decreased by $.6 million
to $0 for the three months ended June 30, 2001, from $.6 million of provision
for the same period in 2000 and decreased by $1.7 million to $0 for the first
six months of 2001, from $1.7 million for the same period in 2000. Since we
incurred a pretax loss for both the first and second quarters of 2001, had a
loss carryover from the prior year and are not expected to generate pretax
income for the remainder of the year, no tax provision is required.
LIQUIDITY AND CAPITAL RESOURCES
Net cash provided by operations for the six months ended June 30, 2001
totaled $3.5 million. The net loss of $30.2 million, adjusted for non-cash
impacting items such as depreciation, amortization, impairment of intangible
assets, reserve for inventory write-off and allowance for bad debts results in
a negative cash flow of $9.3 million for the period. Further decreases to cash
from operating activities were principally driven by a $10.8 million reduction
in accounts payable, as previously incurred purchase commitments were executed
and paid off. Also contributing to cash outflows were $4.2 million of payments
related to business restructuring initiatives made during the first six months
of 2001. Contributing to cash provided from operations resulting in a net
positive cash flow from operations of $3.5 million were decreases in
receivables of $16.2 million due to lower revenues and strong collections and a
decrease in inventories (excluding the $10.9 million write-down in the second
quarter of 2001) of $9.6 million, and the collection of a $3.5 million tax
refund. As a result of employee terminations, the closing of facilities related
to restructurings recorded in the first quarter of 2001 and other expense
reduction measures initiated in the second quarter, we estimate that our annual
cash flow needs for salary and facilities related payments will be $15.0 million
lower than beginning of the year levels.
The primary use of funds in investing activities was due to $1.5
million of contingent consideration made during the first quarter of 2001 to the
sellers of the CRC business. This payment resulted because product sales
generated by the CRC business in
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2000 exceeded the 2000 target set as part of the acquisition. There were minimal
other investing activities during the year as proceeds from the sale of
property, plant and equipment was actually larger than net capital expenditures,
resulting in a slightly positive cash impact of $.3 million. The low level of
capital expenditures reflects the very tight controls placed on cash
expenditures as a result of a slowdown in business activity. Because these tight
controls are being continued and with reduced need for research and development
capital (due to reduced research and development personnel), it is expected that
cash outflows to meet capital requirements for the remainder of the year will be
approximately $1.0 million per quarter.
Net cash provided by financing activities during the first six months
was approximately $.8 million, almost all of which was proceeds from the
Employee Stock Purchase Plan (ESPP).
We had $23.0 million of cash and cash equivalents at June 30, 2001
representing an increase of $3.2 million from $19.8 million at December 31,
2000. Working capital decreased $16.9 million from $54.8 million at December 31,
2000 to $37.9 million at June 30, 2001.
In July 2001 we entered into an agreement with Foothill Capital
Corporation, a wholly-owned subsidiary of Wells Fargo & Company, for a $17.5
million, three-year secured revolving line of credit. At our option the interest
rate will either be the prime rate published by Wells Fargo plus .75% or the
LIBOR (London Interbank Offered Rate) rate plus 2.75%. In no event will the
borrowing rate be lower than 7%. The loan agreement contains financial covenants
limiting the maximum amount of capital expenditures we can make and requiring us
to meet minimum EBITDA targets. We are able to borrow up to a maximum of $17.5
million based on the amount of our accounts receivable and on our inventory.
There are restrictions on the eligible amounts of both the accounts receivable
and the inventory. In order to obtain this line of credit we will pay the lender
a closing fee of $150,000, a monthly servicing fee of $4,000, an unused line fee
of .375% of the balance not borrowed, and we will be responsible for audit and
appraisal fees. If we fail to pay amounts due under the loan when due and
payable, or if we fail to perform specified terms of the loan agreement, we
will be in default if we have previously borrowed under the agreement. In the
event of default we will no longer be able to borrow under the agreement and we
would have to immediately repay any amounts owed the lender. We may cancel the
loan agreement at any time but we would have to pay a cancellation premium
starting at 3% of the maximum borrowing at the inception of the agreement,
reducing as the agreement matures to 1% of the maximum borrowing during the
last year of the agreement. The foregoing summary description of our new credit
facility does not purport to be complete and is qualified in its entirety by
reference to the Loan and Security Agreement filed as Exhibit 10.1 to this
Form 10Q.
In late July 2001, we entered into a contract with an Asian service
provider for our Hotwire (R) Reach DSL product. Under the terms of the contract,
as orders are placed by the customer they will be secured by letters of credit
payable approximately 30 days after shipment of the product. It is estimated
that implementing this new contract will consume between $5.0 to $15 million of
cash in the fourth quarter of 2001 due to the higher inventory levels required
to meet the customer's demand and the increased accounts receivable generated
until the letters of credit are collected. This impact is expected to reverse
and result in positive cash flow in 2002 after all products under the contract
are delivered.
We believe that our current cash position, together with cash flows
from operations, our ability to monitor and control expenditures and our new
line of credit facility with Foothill Capital, will be sufficient to meet our
working capital needs for at least the next twelve months.
RECENT TRENDS AND DEVELOPMENTS
There have been reductions in spending on networking equipment among
smaller communications companies, including CLECs. Companies are continuing to
change their build-out strategies amid increased competition, and some companies
are experiencing decreases in funds available from the capital investment
markets.
In May 2001, we announced a temporary compensation reduction plan
impacting North American employees. Most manufacturing employees had their
workweek reduced from 40 hours to 34 hours per week resulting in a 15% reduction
to their total compensation. In August 2001, the workweek for the manufacturing
employees was restored to 40 hours as a result of a significant contract
recently signed with the Asian customer referenced above. All other North
American employees had their compensation rate reduced from 3% to 15% depending
on the amount of their base pay and such reductions remain in effect. Although
we do not know how long this temporary compensation reduction will be in effect,
we estimate that the annualized reduction to compensation will be approximately
$3.0 million.
As noted above, in late July 2001, we were awarded and signed a
contract with an Asian service provider for our Hotwire(R) Reach DSL product.
The service provider has agreed to deploy over 200,000 lines of our ReachDSL
solution. The contract requires that the customer make payments to us in U.S.
dollars.
We expect to begin to ship the product late in the third quarter of
2001, but we do not expect that shipments to this customer will have a material
impact on our financial results for the third quarter. Orders for the fourth
quarter of 2001 could be in the $12.0 to
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$25.0 million range and we expect that 2002 orders (depending in part upon the
amount of orders placed in 2001) could be in the $18.0 to $34.0 million range.
We are still reviewing the estimated impact on net income as a result
of this new contract. While we will have to expend additional funds in order to
manufacture the large volume of products required on a timely basis, we expect
the transaction to be profitable(See the "Liquidity and Capital Resources"
section of this Form 10-Q for the potential cash flow impact of this contract).
The foregoing discussion regarding the new customer contract contains
forward-looking statements. These forward-looking statements are made pursuant
to the "safe-harbor" provisions of the Private Securities Litigation Reform Act
of 1995 and are made based on management's current expectations or beliefs as
well as assumptions made by, and information currently available to, management.
The following factors, among others, could cause our actual results to differ
materially from those described in the forward-looking statements made above:
our ability to manufacture adequate quantities of products at forecasted costs
under the customer contract; the uncertain acceptance of new telecommunications
services based on DSL; the timing and amount of or rescheduling of the
customer's orders of our products; our dependence on sole and single-source
suppliers and the reliability of the raw materials supplied by them to
manufacture products under the customer contract; and our ability to manufacture
products in accordance with our published specifications.
INFLATION
Because of the relatively low levels of inflation experienced in 2000
and 2001 to date, inflation did not have a significant effect on our results in
such periods.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We do not engage in investing in or trading market risk sensitive
instruments. We also do not purchase, for investing, hedging, or for purposes
"other than trading", instruments that are likely to expose us to market risk,
whether interest rate, foreign currency exchange, commodity price or equity
price risk, except as noted in the following paragraph. We have not entered into
any forward or futures contracts, purchased any options or entered into any
interest rate swaps. Additionally, we do not currently engage in foreign
currency hedging transactions to manage exposure for transactions denominated in
currencies other than U.S. dollars
If we were to borrow from our new revolving line of credit facility
with Foothill Capital Corporation, we would be exposed to changes in interest
rates. We are also exposed to changes in interest rates from investments in some
held-to maturity securities. Under our current policies, we do not use interest
rate derivative instruments to manage exposure to interest rate changes.
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Following Paradyne's September 28, 2000 press release regarding
contemplated third quarter results, several securities class action suits
(collectively, the "Securities Actions") against Paradyne and certain of its
officers and directors; Andrew May, Paradyne's Chief Executive Officer and
President at the time; Patrick Murphy, Paradyne's Chief Financial Officer and
Senior Vice President; and Thomas Epley, Paradyne's Chairman of the Board
(collectively, the "Defendants"), were filed in October 2000 in the United
States District Court for the Middle District of Florida, Tampa Division. Sean
E. Belanger, our current President and Chief Executive Officer and a director
was added as a Defendant in the litigation in April 2001. These actions were
later consolidated into one case and the Court appointed Frank Gruttadauria and
Larry Spitcaufsky as the lead plaintiffs and the law firms of Milberg Weiss
Bershad Hynes & Lerach LLP and Barrack Rodos & Bacine as the lead counsel. The
Amended Consolidated Complaint alleges violations by the Defendants of the
securities anti-fraud provisions of the federal securities laws, specifically
Section 10(b) of the Securities Exchange Act of 1934, as amended, and Rule 10b-5
promulgated thereunder. It further alleges that the individual Defendants are
liable under Section 20(a) of the Securities Exchange Act as "control persons of
Paradyne". The plaintiffs purport to represent a class of investors during a
purported class period of September 28, 1999 through September 28, 2000 and
allege, in effect, that the Defendants during that time, through material
misrepresentations and omissions, fraudulently or recklessly inflated the market
price of Paradyne's stock by allegedly erroneously reporting that Paradyne was
performing well, that its inventories were properly stated, and that its
customer base and product demand were solid. The Securities Actions
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seek damages in an unspecified amount for the purported class for the alleged
inflated amount of the stock price during the class period. The Defendants
believe the claims are without merit and intend to vigorously defend them,
although they cannot predict the outcome. The Defendants filed a motion on May
25, 2001, asking the court to dismiss the complaint, with prejudice, after which
the Plaintiffs filed a memorandum of law in opposition to Defendant's dismissal
motion on July 2, 2001. The Defendant's dismissal motion is pending with the
court and we are unable to predict how long the court will take to rule on the
motion Paradyne has engaged the law firm of Holland & Knight, LLP as its legal
counsel in this litigation.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Our Registration Statement on Form S-1 (Registration No. 333-76385) was
declared effective on July 15, 1999 and our initial public offering commenced on
July 16, 1999. We received net proceeds of approximately $62.2 million after
deducting estimated underwriting discounts, commissions, and offering expenses.
As of June 30, 2001, we had used approximately $52.5 million of the net proceeds
to repay all the outstanding indebtedness from our now expired revolving line of
credit facility with Bank of America, to pay for certain capital expenditures,
for working capital, and to fund the acquisition of CRC. We intend to use the
remainder of the net proceeds for general corporate purposes, including working
capital and additional capital expenditures. We continue to assess the specific
uses and allocations for these remaining funds.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the annual meeting of stockholders held on June 13, 2001, the
following matters were brought before, voted upon and approved by the
stockholders with the number of votes (each share of Common Stock having one
vote) as indicated below:
1. A proposal to re-elect three directors to serve as Class II directors
until the 2004 annual meeting of stockholders:
For Withheld Authority
--- ------------------
Sean E. Belanger 25,531,123 3,013,875
Keith B. Geeslin 26,996,929 1,548,069
Peter F. Van Camp 28,304,721 240,277
The terms of the two Class I directors, Thomas E. Epley and David
Bonderman, and of the three Class III directors, Andrew S. May, David
M. Stanton and William R. Stensrud, did not expire at the 2001 annual
meeting and each of them continues to serve as directors of Paradyne
Networks, Inc.
2. A proposal to approve an amendment to our 1999 Employee Stock Purchase
Plan (ESPP) to increase the annual replenishment of shares reserved
under the ESPP from the lesser of 2% of the shares then outstanding or
1,000,000 shares to the lesser of 3% of the shares then outstanding or
1,000,000 shares: there were 15,836,588 votes cast for approval of the
amendment, 1,674,466 votes cast against approval of the amendment,
443,555 abstentions and 10,590,389 broker non-votes.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(A) EXHIBITS
ITEM DESCRIPTION
---- -----------
3.1* Amended and Restated Bylaws of Paradyne Networks, Inc.
3.2 Amendments to Amended and Restated Bylaws of Paradyne
Networks, Inc.
10.1 Loan and Security Agreement by and among Paradyne Networks,
Inc., as Parent, and Paradyne Corporation, as Borrower, and
Foothill Capital Corporation, as Lender dated as of July 16,
2001
10.2** Paradyne Networks, Inc. 1999 Employee Stock Purchase Plan, as
amended and restated, and related offering documents
* Incorporated by reference to Exhibit 3.2 of Paradyne's
Registration Statement on Form S-1, as amended (File No.
333-76385), filed with the Securities and Exchange Commission
on June 9, 1999.
** Incorporated by reference to Exhibit 99.1 of Paradyne's
Registration Statement on Form S-8 (File No. 333-59588), filed
with the Securities and Exchange Commission on April 26, 2001.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Paradyne Networks, Inc.
Date: August 14, 2001 /s/ Sean E. Belanger
------------------------------------
Sean E. Belanger
President, Chief Executive
Officer and Director
Date: August 14, 2001
/s/ Patrick M. Murphy
------------------------------------
Patrick M. Murphy
Senior Vice President,
Chief Financial Officer,
Corporate Secretary and Treasurer
(Principal Financial and Accounting
Officer)
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