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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark one)
( X ) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JANUARY 31, 1998
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: 0-21969
CIENA CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 23-2725311
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
920 ELKRIDGE LANDING ROAD, LINTHICUM, MD 21090
(Address of Principal Executive Offices) (Zip Code)
(410) 865-8500
(Registrant's telephone number, including area code)
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 the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date:
CLASS OUTSTANDING AT FEBRUARY 19, 1998
Common stock. $.01 par value 100,100,080
Page 1 of 22 pages
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CIENA CORPORATION
INDEX
FORM 10-Q
PAGE NUMBER
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Operations
Quarters ended January 31, 1997
and January 31, 1998 3
Consolidated Balance Sheets
October 31, 1997 and January 31, 1998 4
Consolidated Statements of Cash Flows
Quarters ended January 31, 1997 and
January 31, 1998 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of
Operations 9
Item 3. Quantitative and Qualitative Disclosure About
Market Risk - Not applicable
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 19
Item 2. Changes in Securities 21
Item 6. Exhibits and Reports on Form 8-K 21
Signatures 22
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ITEM 1. FINANCIAL STATEMENTS
CIENA CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
Quarter Ended January 31,
--------------------------------------------------
1997 1998
------------------ ------------------
Revenue $ 53,933 $ 134,267
Cost of goods sold 20,832 50,575
------------------ ------------------
Gross profit 33,101 83,692
------------------ ------------------
Operating expenses:
Research and development 3,050 10,203
Selling and marketing 2,598 9,350
General and administrative 6,295 3,186
------------------ ------------------
Total operating expenses 11,943 22,739
------------------ ------------------
Income from operations 21,158 60,953
Interest and other income (expense), net 392 3,786
Interest expense (102) (76)
------------------ ------------------
Income before income taxes 21,448 64,663
Provision for income taxes 8,365 24,895
------------------ ------------------
Net income $ 13,083 $ 39,768
================== ==================
Basic net income per common share $ 0.99 $ 0.40
================== ==================
Diluted net income per common share and dilutive
potential common share $ 0.13 $ 0.37
================== ==================
Weighted average basic common shares outstanding 13,216 99,641
================== ==================
Weighted average basic common and dilutive potential
common shares outstanding 99,128 106,552
================== ==================
The accompanying notes are an integral part of these consolidated financial
statements.
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CIENA CORPORATION
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
October 31, January 31,
1997 1998
---------------- -----------------
(Audited) (Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 263,085 $ 251,919
Marketable debt securities - 31,089
Accounts receivable, net 63,227 79,258
Inventories, net 41,109 61,388
Deferred income taxes 9,006 9,556
Prepaid expenses and other 2,220 3,734
---------------- -----------------
Total current assets 378,647 436,944
Equipment, furniture and fixtures, net 67,412 83,356
Goodwill and other intangible assets, net - 10,978
Other assets 1,169 2,227
---------------- -----------------
Total assets $ 447,228 $ 533,505
================ =================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 20,373 $ 28,687
Accrued liabilities 31,463 34,754
Income taxes payable - 16,322
Deferred revenue 776 -
Other current obligations 985 988
---------------- -----------------
Total current liabilities 53,597 80,751
Deferred income taxes 28,167 29,146
Other long-term obligations 1,880 1,942
---------------- -----------------
Total liabilities 83,644 111,839
Commitments and contingencies - -
Stockholders' equity:
Preferred stock - par value $.01; 20,000,000 shares authorized;
zero shares issued and outstanding - -
Common stock - par value $.01; 180,000,000 shares authorized;
99,287,653 and 100,093,109 shares issued and outstanding 993 1,001
Additional paid-in capital 245,151 263,509
Notes receivable from stockholders (64) (116)
Retained earnings 117,504 157,272
---------------- -----------------
Total stockholders' equity 363,584 421,666
---------------- -----------------
Total liabilities and stockholders' equity $ 447,228 $ 533,505
================ =================
The accompanying notes are an integral part of these consolidated financial
statements.
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CIENA CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
Quarter Ended January 31,
------------------------------------------------
1997 1998
----------------- -----------------
Cash flows from operating activities:
Net income $ 13,083 $ 39,768
Adjustments to reconcile net income to net cash provided
by operating activities:
Non-cash charges from equity transactions 10 10
Amortization of premiums on marketable debt securities 77
Depreciation and amortization 1,071 6,027
Provision for inventory excess and obsolescence 750 1,383
Provision for warranty and other contractual obligations 1,131 1,721
Changes in assets and liabilities:
Increase in accounts receivable (9,372) (16,031)
Increase in prepaid expenses and other (903) (1,225)
Increase in inventories (3,667) (21,662)
Increase in deferred income tax asset (1,934) (550)
Increase in other assets (337) (1,223)
Increase in accounts payable and accruals 10,605 9,546
Increase in income taxes payable 7,453 16,322
Increase in deferred income tax liability - 979
Increase (decrease) in deferred revenue and other
obligations 238 (465)
----------------- -----------------
Net cash provided by operating activities 18,128 34,677
----------------- -----------------
Cash flows from investing activities:
Additions to equipment, furniture and fixtures (8,535) (21,312)
Purchase of marketable debt securities - (31,166)
Net cash paid for business combination - (1,005)
----------------- -----------------
Net cash used in investing activities (8,535) (53,483)
----------------- -----------------
Cash flows from financing activities:
Proceeds from issuance of common stock and warrants 20 1,059
Tax benefit related to exercise of stock options and warrants - 6,827
Repayment of other obligations (230) (246)
----------------- -----------------
Net cash provided by (used in) financing activities (210) 7,640
----------------- -----------------
Net increase (decrease) in cash and cash equivalents 9,383 (11,166)
Cash and cash equivalents at beginning of period 22,557 263,085
----------------- -----------------
Cash and cash equivalents at end of period $ 31,940 $ 251,919
================= =================
The accompanying notes are an integral part of these consolidated financial
statements.
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CIENA CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1) SIGNIFICANT ACCOUNTING POLICIES
Interim Financial Statements
The interim financial statements included herein for CIENA
Corporation (the "Company") have been prepared by the Company, without audit,
pursuant to the rules and regulations of the Securities and Exchange Commission.
In the opinion of management, financial statements included in this report
reflect all normal recurring adjustments which the Company considers necessary
for the fair presentation of the results of operations for the interim periods
covered and of the financial position of the Company at the date of the interim
balance sheet. Certain information and footnote disclosures normally included in
the annual financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to such rules and
regulations. However, the Company believes that the disclosures are adequate to
understand the information presented. The operating results for interim periods
are not necessarily indicative of the operating results for the entire year.
These financial statements should be read in conjunction with the Company's
October 31, 1997 audited consolidated financial statements and notes thereto
included in the Company's Form 10-K annual report for the fiscal year ended
October 31, 1997.
Revenue Recognition
The Company recognizes product revenue in accordance with the
shipping terms specified. For transactions where the Company has yet to obtain
customer acceptance, revenue is deferred until the terms of acceptance are
satisfied. Revenue for installation services is recognized as the services are
performed unless the terms of the supply contract combine product acceptance
with installation, in which case revenues for installation services are
recognized when the terms of acceptance are satisfied and installation is
completed. Amounts received in excess of revenue recognized are included as
deferred revenue in the accompanying balance sheets. For distributor sales where
risks of ownership have not transferred, the Company recognizes revenue when the
product is shipped through to the end user.
Marketable debt securities
The Company has classified its investments in marketable debt
securities as held-to-maturity securities as defined by Statement of Financial
Accounting Standards No. 115, "Accounting for Certain Investments in Debt and
Equity Securities". Such investments are recorded at their amortized cost in the
accompanying consolidated balance sheets. As of January 31, 1998 all of the
marketable debt securities are corporate debt securities with contractual
maturities of six months or less.
Goodwill and other intangibles
The Company's goodwill and other intangibles are the result of
external purchases of technology and goodwill and are recorded at either their
cost or the fair market value disbursed in conjunction with the purchase. The
goodwill and other intangibles are amortized over the useful life of the asset,
determined by management to be five years, on a straight-line basis. For the
period ended January 31, 1998, the Company recorded goodwill amortization of
approximately $379,000, resulting in accumulated amortization of the same amount
as of January 31, 1998.
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Computation of Basic Net Income per Common Share and Diluted Net Income per
Common and Dilutive Potential Common Share
The following is a reconciliation of the numerators and denominators of
the basic net income per common share ("basic EPS") and diluted net income per
common share and dilutive potential common share ("diluted EPS"). Basic EPS is
computed using the weighted average number of common shares outstanding.
Diluted EPS is computed using the weighted average number of common shares
outstanding, stock options and warrants using the treasury stock method and
shares issued upon conversion of all outstanding shares of Mandatorily
Redeemable Preferred Stock.
(in thousands except per share amounts)
For the Quarter Ended January 31, 1998
----------------------------------------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
-------------------- -------------------- ---------------------
BASIC EPS
Income availabe to
common stockholders $ 39,768 99,641 $ 0.40
=====================
EFFECT OF DILUTIVE SECURITIES
Stock options - 6,911
-------------------- --------------------
DILUTED EPS
Income available to common
stockholders + assumed conversions $ 39,768 106,552 $ 0.37
==================== ==================== =====================
For the Quarter Ended January 31, 1997
----------------------------------------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
-------------------- -------------------- ---------------------
BASIC EPS
Income availabe to
common stockholders $ 13,083 13,216 $ 0.99
=====================
EFFECT OF DILUTIVE SECURITIES
Stock options and warrants - 12,596
Conversion of Preferred Stock - 73,316
-------------------- --------------------
DILUTED EPS
Income available to common
stockholders + assumed conversions $ 13,083 99,128 $ 0.13
==================== ==================== =====================
Stock options to purchase 188,950 shares of common stock were outstanding
during the quarter ended January 31, 1998 but were not included in the
computation of diluted EPS because the options' exercise price was greater than
the average market price of the common shares.
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(2) INVENTORIES
Inventories are comprised of the following (in thousands):
October 31, January 31,
1997 1998
(audited) (unaudited)
----------------- ----------------
Raw materials $ 27,716 $ 34,789
Work-in-process 5,679 17,097
Finished goods 15,180 17,794
----------------- ----------------
48,575 69,680
Less reserve for excess and obsolescence (7,466) (8,292)
----------------- ----------------
$ 41,109 $ 61,388
================= ================
(3) EQUIPMENT, FURNITURE AND FIXTURES
Equipment, furniture and fixtures are comprised of the following (in thousands):
October 31, January 31,
1997 1998
(audited) (unaudited)
------------------ -------------------
Equipment, furniture and fixtures $ 64,502 $ 82,717
Leasehold improvements 13,953 13,953
------------------ -------------------
78,455 96,670
Accumulated depreciation and amortization (11,543) (17,026)
Construction-in-progress 500 3,712
------------------ -------------------
$ 67,412 $ 83,356
================== ===================
(4) ACCRUED LIABILITIES - COMMITMENTS AND CONTINGENCIES
Legal and related costs
During the fiscal year ended October 31, 1997 the Company accrued
approximately $7.5 million for legal and related costs associated with its
involvement in certain litigation; $2.6 million of that accrual is remaining at
January 31, 1998. While the Company believes its estimate of legal and related
costs is adequate based on its current understanding of the overall facts and
circumstances, the estimate may be increased in future periods depending on the
course of the legal proceedings. See Part II, Item 1, "Legal Proceedings".
Accrued Liabilities
Accrued liabilities are comprised of the following (in thousands):
October 31, January 31,
1997 1998
(audited) (unaudited)
----------------- -------------------
Warranty and other contractual obligations $ 12,205 $ 14,839
Accrued compensation 7,725 7,045
Legal and related costs 4,577 2,740
Consulting and outside services 3,219 3,698
Unbilled construction-in-process and leasehold improvements 1,427 2,108
Other 2,310 4,324
----------------- -------------------
$ 31,463 $ 34,754
================= ===================
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(5) ACQUISITION
Astracom
During December 1997 the Company completed an Agreement and Plan of
Merger with Astracom, Inc. ("Astracom"), an early stage telecommunications
company located in Atlanta, Georgia. The purchase price was approximately $13.1
million and consisted of the issuance of 169,754 shares of CIENA common stock,
the payment of $2.4 million in cash, and the assumption of certain stock
options. The transaction was recorded using the purchase accounting method with
the purchase price representing approximately $11.4 million in goodwill and
other intangibles, and approximately $1.7 million in net assets assumed. The
amortization period for the intangibles, based on management's estimate of the
useful life of the acquired technology, is five years. The operations of
Astracom are not material to the consolidated financial statements of the
Company, and accordingly, separate pro forma financial information has not been
presented.
(6) SUBSEQUENT EVENTS
ATI Telecom
During January 1998 the Company signed a definitive agreement to
acquire ATI Telecom International Ltd., ("Alta"), a Canadian corporation
headquartered in Norcross, Georgia, in a transaction valued at approximately
$52.5 million. Alta provides a range of engineering, furnishing and
installation services for telecommunications service providers in the areas of
transport, switching and wireless communications. Under the terms of the
agreement, as amended in February 1998, the Company acquired all of the
outstanding shares of Alta in exchange for approximately 1,000,000 shares of
CIENA common stock. The transaction closed in the Company's second quarter of
fiscal 1998 and is to be recorded using the pooling of interests accounting
method and accordingly no effect has been given to the transaction in the
consolidated financial statements presented in this Form 10-Q for the period
ended January 31, 1998. All future historical and current period consolidated
financial statements will be restated or presented, whichever the case maybe,
to reflect the combined companies as if they had always been combined. The
operations of Alta are not material to the consolidated financial statements of
the Company, and accordingly, separate pro forma financial information has not
been presented.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Management's Discussion and Analysis of Financial Condition and
Results of Operations contains certain forward-looking statements that involve
risks and uncertainties. The Company has set forth in Form 10-K Item 7
"Management's Discussion and Analysis of Financial Condition and Results of
Operations-Risk Factors," as filed with the Securities and Exchange Commission
on December 10, 1997, and in a Form 8-K filed on December 29, 1997, a detailed
statement of risks and uncertainties relating to the Company's business. In
addition, set forth below under the heading "Risk Factors" is a further
discussion of certain of those risks as they relate to the period covered by
this report, the Company's near term outlook with respect thereto, and the
forward-looking statements set forth herein; however, the absence in this
quarterly report of a complete recitation of or update to all risk factors
identified in the Form 8-K or Form 10-K should not be interpreted as modifying
or superseding any such risk factor, except to the extent set forth below.
Investors should review this quarterly report in combination with the Form 8-K
and Form 10-K in order to have a more complete understanding of the principal
risks associated with an investment in the Company's Common Stock.
OVERVIEW
CIENA Corporation is a leading supplier of dense wavelength division
multiplexing ("DWDM") systems for fiberoptic communications networks. CIENA's
DWDM systems alleviate capacity constraints and enable flexible provisioning of
additional bandwidth on high-traffic routes in carriers' networks.
First quarter 1998 revenues of $134.3 million were largely the
result of MultiWave(R) 1600 and MultiWave Sentry(TM) systems sales to Sprint
Corporation ("Sprint") and to LDDS WorldCom ("WorldCom"). During the first
quarter of 1998, the Company also recognized initial product acceptance and
revenue recognition from MultiWave Sentry systems supplied to Mercury
Communications Limited, a U.K. based subsidiary of Cable and Wireless
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Communications Group ("Cable and Wireless"), and through the Company's
distributor, NISSHO Electronics Corporation ("NISSHO"), to Teleway Japan
Corporation ("Teleway") and to Japan Telecom Co., Ltd ("Japan Telecom") networks
in Japan. Revenue recognition for the Cable and Wireless, Teleway and Japan
Telecom shipments had been previously deferred until completion of initial field
testing and product acceptance.
During the first quarter of 1998 the Company continued its effort
to expand its manufacturing capabilities by leasing an additional facility of
approximately 35,000 square feet located in the Linthicum, Maryland area. This
facility is expected to be used for manufacturing and customer service
activities. With the addition of this new facility the Company has a total of
three facilities with approximately 142,500 square feet that can be used for
manufacturing operations. By the end of April 1998 the Company intends to
complete the transfer of its principal executive, sales, and marketing
functions located in Linthicum in a portion of its a 96,000 square foot facility
to an approximately 60,000 square foot facility also located in Linthicum.
During the first quarter of 1998, the Company began the process of renovating
the vacated portions of the 96,000 square foot facility for the purpose of
accommodating expanding research and development functions. These renovations
are expected to be completed by the end of April 1998. The Company also expects
to lease an additional manufacturing facility in the Linthicum area of
approximately 50,000 square feet during the second half of 1998.
As of January 31, 1998 the Company employed 993 persons, which was
an increase of 152 persons over the 841 persons employed on October 31, 1997.
RESULTS OF OPERATIONS
THREE MONTHS ENDED JANUARY 31, 1997 COMPARED TO THREE MONTHS ENDED
JANUARY 31, 1998
REVENUE. The Company recognized $53.9 million in MultiWave 1600
system revenue and $134.3 million in combined MultiWave 1600 and MultiWave
Sentry system revenue for the first quarters ended January 31, 1997 and 1998,
respectively. The approximate $80.4 million or 149% increase in revenues in the
first quarter 1998 compared to the first quarter 1997 was largely the result of
increased sales to Sprint and WorldCom. The increase was also attributable to
first quarter 1998 sales to Cable and Wireless, Teleway, and Japan Telecom
compared to no sales for these customers in the first quarter 1997. A portion
of the revenues from each of the Company's first quarter 1998 customers was
attributed to sales of the Company's MultiWave Sentry system, which was not
available for sale in the first quarter of 1997. The Company expects
revenues, in the near term to be largely dependent upon sales to Sprint,
several new customers and depending on the results of ongoing testing and
evaluation, AT&T Corporation ("AT&T") and to be largely derived from sales of
the MultiWave Sentry and new product sales of the MultiWave 4000, the Company's
40 channel version of the MultiWave Sentry, and the MultiWave Firefly(TM), the
Company's short distance 24 channel product. There are material risks
associated with the Company's dependence on these customers, as well as its
transition to multiple product lines. See "Risk Factors".
GROSS PROFIT. Gross profits were $33.1 million and $83.7 million for
the first quarters ended January 31, 1997 and 1998, respectively. The
approximate $50.6 million or 153% increase in gross profit in the first quarter
1998 compared to the first quarter 1997 was the result of increased revenues in
the first quarter 1998 compared to first quarter 1997. Gross margin as a
percentage of revenues was 61.4% and 62.3% for the first quarters 1997 and 1998,
respectively. The increase in gross margin percentage for the first quarter 1998
compared to the first quarter 1997 was the result of reductions in component
costs and increased manufacturing volumes and efficiencies offset by a reduction
in selling price. The Company expects that gross margins in the future will
decrease primarily due to competitive market pricing, although the Company's
manufacturing efficiencies and improvements in component costs should moderate
the rate and magnitude of any decrease. The Company's future gross margins may
also decrease because of the mix of product features and configurations sold in
a period as well as the extent of services provided. See "Risk Factors."
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
were $3.1 million and $10.2 million for the first quarters ended January 31,
1997 and 1998, respectively. During the first quarters 1997 and 1998, research
and development expenses were 5.7% and 7.6% of revenue, respectively. The
approximate $7.2 million or 235% increase in research and development expenses
in the first quarter 1998 compared to the first quarter 1997 was the result of
increases in staffing levels and usage of prototype materials. The Company
expects that its research and development expenditures will continue to increase
during the remainder of fiscal year 1998 to support the continued development of
the MultiWave system, the exploration of new or complementary
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technologies, and the pursuit of various cost reduction strategies. The Company
expenses research and development costs as incurred.
SELLING AND MARKETING EXPENSES. Selling and marketing expenses were
$2.6 million and $9.4 million for the first quarters ended January 31, 1997 and
1998, respectively. During the first quarters 1997 and 1998, selling and
marketing expenses were 4.8% and 7.0% of revenue, respectively. The approximate
$6.8 million or 260% increase in selling and marketing expenses in the first
quarter 1998 compared to the first quarter 1997 was primarily the result of
increased staffing levels in the areas of sales, technical assistance and field
support, and increases in commissions earned, trade show participation,
promotional costs, travel expenditures and rent expense. The Company
anticipates that its selling and marketing expenses will increase during the
remainder of fiscal year 1998 as additional personnel are hired and offices
opened, particularly in support of international market development, to allow
the Company to pursue new market opportunities.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative
expenses were $6.3 million and $3.2 million for the first quarters ended
January 31, 1997 and 1998, respectively. During the first quarters 1997 and
1998, general and administrative expenses were 11.7% and 2.4% of revenue,
respectively. The approximate $3.1 million or 49.4% decrease in general and
administrative expenses from the first quarter 1997 compared to the first
quarter 1998 was primarily due to the recording of a $5.0 million accrual for
estimated legal and related costs associated with certain patent litigation
during the first quarter 1997. See Part II, Item 1 "Legal Proceedings".
Comparative general and administrative expenses for the first quarters 1997 and
1998 outside of the $5.0 million legal and related cost accrual in first
quarter 1997, resulted in an increase of approximately $1.9 million or 146%
from first quarter 1998 compared to first quarter 1997. This increase was
primarily the result of increased staffing levels and outside consulting
services. The Company believes that its general and administrative expenses for
the remainder of fiscal 1998 will increase due to the expansion of the
Company's administrative staff required to support its expanding operations.
OPERATING MARGINS. The Company's operating margins were $21.2
million and $61.0 million for the first quarters ended January 31, 1997 and
1998, respectively. During the first quarters 1997 and 1998, operating margins
were 39.2% and 45.4% of revenue, respectively, or 48.5% of revenue for first
quarter 1997 exclusive of the approximate $5.0 million accrual for estimated
legal and related costs. The Company expects that its operating margins will
decrease as it continues to hire additional personnel and increase operating
expenses to support its business. The results of operations for the first
quarter 1998 are not necessarily indicative of results to be expected in future
periods. See "Risk Factors."
INTEREST AND OTHER INCOME (EXPENSE), NET. Interest income and other
income (expense), net were $0.4 million and $3.8 million for the first quarters
ended January 31, 1997 and 1998, respectively. The approximate $3.4 million or
866% increase in interest income and other income (expense), net was
attributable to higher invested cash balances.
PROVISION FOR INCOME TAXES. The Company's provision for income
taxes were $8.4 million and $24.9 million for the first quarters ended January
31, 1997 and 1998, respectively. During the first quarters 1997 and 1998, the
provision for income taxes were 39.0% and 38.5% of income before income taxes,
respectively. The decline in the income tax rate in first quarter 1998 compared
to first quarter 1997 was the result of a lower combined effective state income
tax expenses and an increase in expected tax credits derived from research and
development activities.
LIQUIDITY AND CAPITAL RESOURCES
At January 31, 1998, the Company's principal source of liquidity was
its cash and cash equivalents of $251.9 million and its marketable debt
securities of $31.1 million, which when combined represent an increase of
approximately $19.9 million from the October 31, 1997 cash and cash equivalent
balance. The Company's marketable debt securities have maturities no longer than
six months.
Cash generated from operations was $34.7 million for the first
quarter ended January 31, 1998. This amount was principally attributable to net
income, the non-cash charges of depreciation, amortization, provisions for
inventory obsolescence and warranty, increases in accounts payable, accrued
expenses and income tax
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payable; offset by increases in accounts receivable and inventory due to
increased revenue and to the general increase in business activity.
Investment activities in the first quarter ended January 31, 1998
included the purchase of $31.2 million worth of corporate marketable debt
securities, $21.3 million invested in capital expenditures and $1.0 million used
in the acquisition of Astracom. Of the amount invested in capital expenditures,
$18.1 million was used for additions to capital equipment and furniture and the
remaining $3.2 million was invested in leasehold improvements. The Company
expects to use an additional $11.0 million to $12.0 million of capital during
the remainder of fiscal 1998 to complete the construction of leasehold
improvements for its new facilities and the conversion to full research and
development activities of its current 96,000 square foot facility.
The Company believes that its existing cash balance and cash flows
from future operations will be sufficient to meet the Company's capital
requirement for at least the next 18 to 24 months.
YEAR 2000 READINESS
The Company has taken actions to understand the nature and extent of
the work required to make its systems, products and infrastructure Year 2000
compliant. The Company began work this year to change its main financial,
manufacturing and information system to a company-wide Year 2000 compliant
enterprise resource planning ("ERP") computer-based system and expects to have
the ERP system fully installed by the second half of 1998. The Company believes,
based on available information, that it will be able to manage its Year 2000
transition without any material adverse effect on the Company's business,
financial condition and results of operations.
RISK FACTORS
CONCENTRATION OF POTENTIAL CUSTOMERS; DEPENDENCE ON MAJOR CUSTOMERS.
The Company is currently dependent on two customers, Sprint and WorldCom, and
has relatively few potential customers, consisting almost exclusively of long
distance and other telecommunications carriers using fiberoptic networks. The
number of potential customers may also decrease if and as customers merge with
or acquire one another. In November 1997, WorldCom and MCI announced an
agreement to merge. The distraction and/or reorganization sometimes attendant to
such mergers could delay, limit or otherwise adversely affect the capital
equipment purchasing patterns of the parties to them, with a corresponding
adverse effect on the Company's sales, even if the customer is otherwise
satisfied with the Company's products and intends to purchase more.
The Company believes WorldCom is very satisfied with the Company's
products, and intends to continue significant purchases; however, WorldCom
informed the Company in February 1998 that its DWDM system requirements for
1998 will be substantially reduced, based on a change in WorldCom's capital
equipment acquisition policies. According to information shared with the
Company in February 1998, WorldCom purchased equipment during 1997, based on a
policy designed to meet an estimated two years worth of anticipated network
capacity requirements. The new policy calls for purchasing activity and
bandwidth deployment to more closely coincide with just in time inventory
management, which according to WorldCom, means significant purchasing from
CIENA may resume in the latter part of calendar 1998. Because this news was
received early in the quarter, the impact is difficult to assess, but it
appears likely that revenue in the second quarter of fiscal 1998 will be
sequentially flat or possibly lower than in the first quarter.
Although the Company has previously announced a trial evaluation
agreement and a five year agreement to supply 16-channel MultiWave Sentry
systems to AT&T, before AT&T would become a purchasing customer, the Company
will have to be successful in rigorous testing and evaluation which are ongoing
over the next several months. The Company believes it is making important
progress and that it ultimately will be successful in such testing and
evaluation, but there is no assurance of that outcome, nor is there assurance as
to when the period of testing will be completed. Testing is an interactive and
dynamic process which is unpredictable, frequently subject to unanticipated
delay, and not often accelerated. Even if testing is successfully completed, the
Company does not expect shipments to begin until late in the first half or early
in the second half of 1998 (with acceptance and revenue recognition to follow),
and in any event the Company is unable to predict the volume, duration or timing
of any purchases which might ensue from AT&T. Additionally, AT&T recently
announced plans to test and deploy a proposed 80-channel DWDM system being
developed by Lucent Technologies, Inc. ("Lucent"). Lucent has announced that
this proposed product is expected to be commercially available worldwide in the
fourth quarter. If such a product is in fact developed, performs as advertised,
and is manufacturable by Lucent in volume quantities
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by the fourth quarter of this year, and if core demand for bandwidth is
sufficient to prompt interest in such a product, the likelihood of significant
orders from AT&T for the Company's MultiWave Sentry system may diminish. See
"Competition". The Company currently believes the impact of Lucent's
announcement on AT&T's likely orders for the Company's systems will not be
material; however, timing of shipments and revenue recognition from AT&T, if
delayed by reason of extended testing of MultiWave Sentry, or for any other
reason, could and likely would cause substantial swings, and potentially
material and adverse effects, on the Company's quarterly financial condition
and results of operations.
The reduction, delay or cancellation of orders for, or a delay in
shipment of the Company's products to, Sprint or WorldCom, or the inability to
develop AT&T as a significant customer, as well as additional customers in the
telecommunications market, likely would have a material adverse affect on the
Company's business, financial condition and results of operations.
Additionally, the size and complexity of the Company's potential
customers, and the typically long and unpredictable sales cycles associated
with them, require the Company to make considerable early investments in
account management personnel, product customization efforts in both engineering
and manufacturing, and in some cases, facilities in proximity to the customer's
locations, without assurance of future revenues. Due to the size and complexity
of the AT&T network, the Company has invested and expects over fiscal 1998 to
continue to invest considerable financial, engineering, manufacturing and
logistics support resources in positioning the commercial relationship to be
successful. The Company's recently announced acquisition of Alta, an
installation services company, is an example of this risk. This acquisition
brings approximately 150 installation personnel to the Company, and was
undertaken in large part to position the Company to be able to service the
installation requirements associated with any AT&T deployment, even though the
Company has no assurance as to the volume, duration or timing of any purchases
which might ensue from AT&T. The Company also intends to invest in developing
customer relationships with the RBOCs and CLECs, as well as internationally.
Over the near term, this investment of resources will be evident in increased
operating expenses and in a rise in the Company's general overhead structure,
with the result that even without the impact of the WorldCom change in
purchasing policy, the Company's near term earnings may moderate or decline,
even if revenues increase. If revenues are flat or decline as a result of the
WorldCom change, or for any other reason, the adverse effect on earnings would
be increased. In any case, if the Company is unable to convert these
investments into significant revenue generating relationships by the second
half of fiscal 1998, the Company's business, financial condition and results of
operations for the year could be materially and adversely affected.
DEPENDENCE ON EFFECTIVE TRANSITION TO MULTIPLE PRODUCT LINES. The
Company believes the largest portion of its production capacity for the balance
of fiscal 1998 will be shifted to the MultiWave Sentry, the MultiWave 4000 and,
to a lesser extent, the MultiWave Firefly systems. While much of the
manufacturing process for these systems is identical to that involved in the
manufacture of the MultiWave 1600, there are important differences in raw
materials and components, as well as even more precise performance
specifications. Manufacturing yields in the first several months of production
may be adversely impacted as the transition is made to full production of these
new systems. Additionally, not all of the component suppliers for these new
systems have demonstrated the ability to ramp up their production to keep pace
with the Company's needs, and certain of the new components are critical to
system operation, such as the apparatus for multiplexing and demultiplexing of
signals in the 24-channel Firefly system. One of the Company's planned vendors
for this apparatus has notified the Company that it is having difficulty in
achieving overall yield and process stability, and is declining to accept new
orders pending resolution of the problems. See "Dependence on Suppliers";
"Competitors as Suppliers". The Company is comfortable that its immediate needs
for this component can be met by another vendor, but neither vendor has yet
demonstrated the ability to ramp up as may be necessary to meet the Company's
future needs. The Company must effectively manage the transition in
manufacturing with a minimum of delay or disruption in product deliveries. The
failure to do so would likely have an adverse effect on the Company's customer
relationships, with attendant risk of adverse effects on the level and timing of
ongoing customer orders, as well as on the development of new customers. The
Company believes that its experience in accomplishing the ramp up of
manufacturing capacity for the MultiWave 1600 will facilitate an effective
manufacturing transition to the MultiWave Sentry, MultiWave 4000, and MultiWave
Firefly, but there can be no assurance that the Company will be successful in
doing so. Even if effectively managed, new products like the MultiWave Sentry,
MultiWave 4000 and MultiWave Firefly are typically subjected by the customers to
lengthier initial acceptance testing periods than will occur with later
shipments. The timing of these lengthier acceptance periods would affect the
timing of revenue recognition for these products, which may cause substantial
differences in quarter to quarter operating results. These differences could
lead to increased volatility in the Company's stock price, irrespective of the
Company's overall performance or actual longer term prospects. See "Fluctuation
in Quarterly and Annual Results".
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MANAGEMENT OF EXPANSION. The Company is experiencing rapid expansion
in all areas of its operations, particularly in manufacturing, and the Company
anticipates that this expansion will continue in the near future. Total
personnel grew from 841 at October 31, 1997, to 993 at January 31, 1998. The
Company's Atlanta, Georgia research and development support organization grew
from 12 personnel at October 31, 1997 to 32 at January 31, 1998.
Approximately 150 more employees are joining the Company as a result of the
Company's acquisition of Alta, an installation services provider.
This expansion, which now includes the assimilation of a large
number of new employees through the acquisition of Alta, and the attendant
separation and relocation of various functions to different facilities, has
placed strains on the material, financial and personnel resources of the
Company and will continue to do so. The pace of the Company's expansion, in
combination with the complexity of the technology involved in the manufacture
of the Company's systems, demands an unusually high level of managerial
effectiveness in anticipating, planning, coordinating and meeting the
operational needs of the Company and the needs of the Company's customers, who
are among the most demanding customers in the world in terms of requirements
for quality, reliability, timely delivery and post-installation field support.
The rapid pace and volume of new hiring, the timely build out of new
facilities, and the accelerated ramp up in manufacturing capacity, if not
effectively managed, could adversely affect the quality or efficiency of the
Company's manufacturing process. The conversion to full scale production in
fiscal 1998 of the Company's new MultiWave Sentry, MultiWave 4000 and MultiWave
Firefly product lines will also present substantial management and
manufacturing challenges, as the scope of material planning and labor
involvement are different and more expansive than was the case with the
Company's original MultiWave 1600 product line. The assimilation of Alta and
the effective utilization of its installation services personnel, will also be
critical to the Company's efforts to satisfy its larger customers and,
ultimately, to further ramp up its production and sales volume to those
customers.
The Company also continues to increase its flow of materials,
optical assembly, final assembly and final component module and system test
functions, as well as the size of its sales and marketing organization for all
product lines, in anticipation of a level of customer orders that may not be
achieved. Many of the highest cost components in the Company's new products are
also those with the longest lead ordering times. As a result, the importance of
effective coordination between component ordering relative to anticipated
customer orders is increased, and the inability to manage this effectively may
result in increased inventory levels, and potentially, inventory obsolescence,
particularly if there are slips in delivery and final acceptance of the
Company's newest products. Increased inventory levels could also result from
any significant deferral of material purchases from any of the Company's major
customers. This may occur as a result of the recent communication from WorldCom
regarding its plans for substantially reduced DWDM system purchases. See
"Concentration of Potential Customers; Dependence on Major Customers."
Given the small number of existing and potential customers for the
Company's systems, as well as the widely varying volume requirements they may
have once a purchasing decision has been made, the adverse effect on the Company
resulting from a lack of effective management in any of these areas will be
substantially magnified, and the potential exists for additional stock price
volatility if investor expectations do not account for this risk. See "Stock
Price Volatility". Prolonged inability to manage the expansion of the Company's
business would also have a material adverse effect on the Company's longer term
business prospects, financial condition and results of operations.
ANTICIPATING DEMAND FOR BANDWIDTH. The Company's systems enable high
capacity transmission over long distance, and with the introduction of MultiWave
Firefly, certain short-haul portions of, optical communications networks;
however, the Company's customers and target customers determine how much
capacity is required, when it will be deployed, and what equipment
configurations will be used, if any. The Company has encountered a wide variety
of customer views of how much capacity will be needed over what periods of time
and, more importantly, how to convert such capacity into revenue. Those views
reflect the carriers' differing competitive strategies and financial and
marketing resources, and result in widely varying patterns and timing of
evaluation, purchase and deployment of the Company's systems, other DWDM systems
or other capacity solutions. Certain carriers have believed the deployment of
maximum capacity quickly will be a competitive advantage--i.e., they have
assumed the accelerating demand for bandwidth will continue and the capacity
will be utilized quickly. This viewpoint leads to prompt and widespread
deployment of high-channel count DWDM systems. Other carriers have adopted more
of a wait-and-see approach, which dictates a more gradual channel by channel
deployment of
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higher capacity systems. These views are also subject to abrupt change, as
competition and the evolving marketplace may demand. As an example, WorldCom
informed the Company in February 1998 that its DWDM system requirements for
1998 will be substantially below last year's purchases, due to a change in its
purchasing policies. See "Concentration of Potential Customers; Dependence
on Major Customers". WorldCom's information in February indicates there can be
surprises as network operators and their purchasing groups grapple with
unprecedented changes and challenges to network planning.
Under these circumstances, for so long as the Company remains
dependent on two or even three customers, the Company will be vulnerable to
significant quarterly fluctuations, and to difficulty in predicting the
direction or magnitude of future demand for the Company's systems. While the
Company remains very optimistic about the year to year outlook for growth in
demand for DWDM systems, and also is confident that its products are well
targeted toward the most visible emerging points of congestion in the networks,
the Company is less certain whether it will be able to accurately anticipate
changes in direction or magnitude of near term demand. Unanticipated reductions
in demand would adversely affect the Company's profitability and, depending on
the size of the gap between actual, reduced demand, and investor expectation of
such demand, could result in further stock price volatility irrespective of the
Company's overall competitive position and long term prospects. "See
"Concentration of Potential Customers; Dependence on Major Customers".
RECENT PRODUCT INTRODUCTION. The Company first began commercial
shipments of its MultiWave systems in May 1996 and its first operational systems
began carrying live traffic in October 1996. Accordingly, the Company's systems
do not have a history of live traffic operation over an extended period of time.
The Company's history of installation activity indicates that the newness and
high precision nature of DWDM equipment may require enhanced customer training
and installation support from the Company. The Company is aware of instances
domestically and internationally in which installation and activation of certain
MultiWave systems have been delayed due to faulty components found in certain
portions of these systems. The Company is aware of few performance issues once
the systems are installed and operational. However, if recurring or material
reliability, quality or network monitoring problems should develop, a number of
material and adverse effects could result, including manufacturing rework costs,
high service and warranty expense, high levels of product returns, delays in
collecting accounts receivable, reduced orders from existing customers and
declining level of interest from potential customers. Although the Company
maintains accruals for product warranties, there can be no assurance that actual
costs will not exceed these amounts. There is a considerable number of the
Company's systems scheduled to be turned up for live traffic operation over the
next several months, and many already activated systems may be scheduled to add
new operating channels. The Company expects there will be interruptions or
delays from time to time in the activation of the systems and the addition of
channels, particularly because the Company does not control all aspects of the
installation and activation activities. The Company believes its record to date
of problem identification, diagnosis and resolution has been good, but if
significant interruptions or delays occur, or if their cause is not promptly
identified, diagnosed and resolved, confidence in the MultiWave systems could be
undermined. An undermining of confidence in the MultiWave systems would have a
material adverse effect on the Company's customer relationships, business,
financial condition and results of operations.
NEW PRODUCT DEVELOPMENT DELAYS. The Company's ability to anticipate
changes in technology, industry standards, customer requirements and product
offerings and to develop and introduce new and enhanced products in a timely
fashion relative customer expectations of increasingly short product development
cycles, will be significant factors in the Company's ability to remain a market
leader in the deployment of DWDM systems. The complexity of the technology
involved in product development efforts in the DWDM field, including product
customization efforts for individual customers, can result in unanticipated
delays. The qualification and ramping up of new suppliers for new or customized
products requires extensive planning and can result in unanticipated delays
which affect the Company's ability to deliver such products in a timely fashion.
The failure to deliver new and improved products, or appropriately customized
products, in a timely fashion relative to customer expectations (which
expectations are shaped in part by competitors' announcements of competing
products), would have a material adverse effect on the Company's competitive
position and financial condition. See "Competition". The Company is currently
facing its first major test in this area, with its general commitment to the
delivery of MultiWave Sentry, MultiWave 4000 and MultiWave Firefly in the first
half of calendar 1998. The Company's performance on
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this commitment relative to customer expectations will likely have a material
impact on the Company's ability to further solidify its position in the telecom
industry as a credible, long-term supplier of multiple products and successive
next-generation solutions. The Company believes it will be successful in this
effort, but there is no assurance of that, and there will likely be few
objective "leading indicators" of the Company's success or failure, other than
continued purchasing by its customers.
COMPETITION. The Company believes the rapid pace at which the need
for higher and more cost-effective bandwidth has developed was not widely
anticipated in the global telecommunications industry. The Company further
believes its MultiWave 1600 is the only commercially deployed and operational
full 16-channel open architecture DWDM system anywhere in the world, and
further believes the commercial manufacturability of its MultiWave 4000 system
gives the Company's high-capacity product offerings a level of credibility not
possessed by its competitors. However, competition in the global
telecommunications industry historically has been dominated by a small number
of very large companies, each of which have greater financial, technical and
marketing resources, greater manufacturing capacity and more extensive and
established customer relationships with network operators than the Company.
Each of Lucent, Alcatel, Nortel, NEC, Pirelli, Siemens and Ericsson are moving
very aggressively to capture market share in the DWDM market. The Company
expects aggressive competitive moves from industry participants, which have to
date included early announcement of competing or alternative products, and
substantial price discounting. Such early announcements of competing products
can cause confusion and delay in customer purchasing decisions, particularly if
the announcements are viewed as credible in terms of both the performance of
the announced product, and the time within which it will be available. For
example, Lucent recently announced a proposed high-capacity DWDM system which
it claims will handle 400 Gb/s of capacity per fiber, and which it further
claims will be commercially available worldwide in the fourth quarter of 1998.
There can be no assurance that announcements like those of Lucent or others
in the industry will not cause confusion and delay in customer purchasing
decisions. Further, if new products announced by competitors are in fact
developed, perform as advertised, and are manufacturable in volume quantities
by the fourth quarter of this year, the likelihood of significant orders from
AT&T and other customers for the Company's 16-channel MultiWave Sentry and
40-channel MultiWave 4000 systems may diminish. The timing of shipments by the
Company and corresponding revenue, if delayed by reason of deferred deployment
of MultiWave Sentry or MultiWave 4000 systems pending evaluation of a
competitor's product, could and likely would cause substantial swings, and
potentially material and adverse effects, on the Company's quarterly financial
condition and results of operations.
In addition, Lucent, Alcatel, Nortel, NEC and Siemens are already
providers of a full complement of switches, fiberoptic transmission terminals
and fiberoptic signal regenerators and thereby can position themselves as
vertically integrated, "one-stop shopping" solution providers to potential
customers.
While competition in general is broadly based on varying
combinations of price, manufacturing capacity, timely delivery, system
reliability, service commitment and installed customer base, as well as on the
comprehensiveness of the system solution in meeting immediate network needs and
foreseeable scaleability requirements, the Company's customers are themselves
under increasing competitive pressure to deliver their services at the lowest
possible cost. This pressure may result in pricing for DWDM systems becoming a
more important factor in customer decisions, which may favor larger competitors
which can spread the effect of price discounts in their DWDM product lines
across an array of products and services, and a customer base, which are larger
than the Company's.
Intellectual property disputes may also be asserted as part of a
competitive effort to reduce the Company's leadership position and limit its
ability to achieve greater market share, even if the merits of specific
disputes are doubtful. Some of the Company's competitors are also key suppliers
of components for the Company's systems. See "Competitors as Suppliers".
There can be no assurance that the Company will be able to compete
successfully with its competitors or that aggressive competitive moves faced by
the Company will not result in lower prices for the Company's products,
decreased gross profit margins, and otherwise have a material adverse effect on
its business, financial condition and results of operations.
LEGAL PROCEEDINGS. See Part II, "Legal Proceedings" for disclosure
concerning recent developments in certain litigation proceedings to which the
Company is a party.
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FLUCTUATION IN QUARTERLY AND ANNUAL RESULTS. The Company's revenue
and operating results are likely to vary significantly from quarter to quarter
and from year to year as a result of a number of factors, including the size
and timing of orders, product mix and shipments of systems. The timing of order
placement, size of orders, satisfaction of contractual customer acceptance
criteria, as well as order delays or deferrals and shipment delays and
deferrals, may cause material fluctuations in revenue. Delays or deferrals in
purchasing decisions may increase as competitors introduce new competing
products, and as the Company develops or introduces other DWDM products, such
as the MultiWave Sentry, MultiWave 4000, MultiWave Firefly and the MultiWave
Metro. Consolidation among the Company's customers and target customers, such
as that involved in the WorldCom/MCI merger, and the distraction and/or
reorganization attendant to such consolidation, may also lead to delay or
deferral of purchasing decisions. Changes in customers' approaches to bandwidth
deployment can also materially impact purchasing decisions. See "Anticipating
Demand for Bandwidth." The Company's dependence on a small number of existing
and potential customers increases the revenue impact of each customer's actions
relative to these factors. The Company's expense levels in the future will be
partially based on its expectations of long term future revenue and as a result
net income for any quarterly period in which material orders are shipped or
delayed or not forthcoming could vary significantly. The Company's expense
levels for the next two quarters are expected to reflect substantially
increased investment in financial, engineering, manufacturing and logistics
support resources in positioning the AT&T, RBOC, international and other
potential commercial relationships to be successful, even though there is no
assurance as to the volume, duration or timing of any purchases which might
ensue from AT&T or others. Over the near term, this investment of resources
will be evident in increased inventory levels and operating expenses, and in a
rise in the Company's general overhead and expense structure, with the result
that even without the impact of the WorldCom change in purchasing policy, the
Company's near term earnings may moderate or decline, even if revenues
increase. If revenues are flat or decline as a result of the WorldCom change,
or for any other reason, the adverse effect on earnings would be increased. See
"Concentration of Potential Customers; Dependence on Major Customers." In
general, quarter-to-quarter sequential revenue in the first two or three years
of operations are likely to vary widely and therefore may not be reliable
indicators of annual performance.
DEPENDENCE ON SUPPLIERS. Suppliers in the specialized, high
technology sector of the optical communications industry are generally not as
plentiful or, in some case, as reliable, as suppliers in more mature industries.
The Company is dependent on a limited number of suppliers for components of the
MultiWave systems as well as equipment used to manufacture the MultiWave
systems. The MultiWave 1600 system has over 600 components, and the commencement
of full production of the MultiWave Sentry, MultiWave Firefly and MultiWave 4000
systems will increase the number and variety of components significantly. Not
all of the component suppliers for these new systems have demonstrated the
ability to ramp up their production to keep pace with the Company's needs, and
certain of the new components are critical to system operation, such as the
apparatus for multiplexing and demultiplexing of signals in the 24-channel
Firefly system. One of the Company's planned vendors for this apparatus has
notified the Company that it is having difficulty in achieving overall yield and
process stability, and is declining to accept new orders pending resolution of
the problems. The Company believes that its immediate needs for this component
can be met by another vendor, but neither vendor has yet demonstrated the
ability to ramp up as may be necessary to meet the Company's future needs.
Certain key optical and electronic components are currently available only from
a sole source, where the Company has identified no other suppliers for the
component. While alternative suppliers have been identified for certain other
key optical and electronic components, those alternative sources have not been
qualified by the Company. The Company has to date conducted the majority of its
business with suppliers through the issuance of conventional purchase orders
against the Company's forecasted requirements. The Company is seeking to
negotiate long term supply agreements with key suppliers, but currently has only
a few such agreements. The Company has from time to time experienced minor
delays in the receipt of key components, and has noticed a lengthening of lead
times in the ordering of certain components. Any future difficulty in obtaining
sufficient and timely delivery of components could and likely would result in
delays or reductions in product shipments which, in turn, could have a material
adverse effect on the company's business, financial condition and results of
operations.
COMPETITORS AS SUPPLIERS. Certain of the Company's component
suppliers are both primary sources for such components and major competitors in
the market for system equipment. For example, the Company buys certain key
components from Lucent, Alcatel, Nortel, NEC and Siemens, each of which offers
optical communications systems and equipment which are competitive with the
Company's DWDM systems. Lucent is the sole source of two integrated circuits and
is one of two suppliers of Erbium-doped fiber. Alcatel and Nortel are suppliers
of lasers used in the MultiWave systems. NEC is a supplier of certain testing
equipment. The Company's business, financial condition and results of operations
could be materially and adversely affected if
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these supply relationships were to decline in reliability or otherwise change in
any manner adverse to the Company. Although the Company has been notified by one
of these vendors of certain manufacturability problems in certain high
performance components used in the Company's MultiWave Firefly system, the
Company has not experienced to date any general decline in reliability among
these vendors. See "Dependence on Suppliers" for a further discussion of the
issues relating to the component used in the Firefly system. However, this risk
factor increases in importance given the Company's expansion efforts, new
products, and the increasingly competitive environment in which the Company
operates.
STOCK PRICE VOLATILITY. The Company's Common Stock price has
experienced substantial price volatility, and is likely to continue to do so.
Such volatility can arise as a result of any divergence between the Company's
actual or anticipated financial results and published expectations of analysts
and as a result of announcements by the Company and its competitors. The Company
attempts to address this possible divergence through its public announcements
and reports; however, the degree of specificity the Company can offer in such
announcements, and the likelihood that any forward-looking statements made by
the Company will prove correct in actual results, can and will vary, due
primarily to the uncertainties associated with the Company's dependence on a
small number of existing and potential customers, long and unpredictable sales
cycles and customer purchasing programs, the absence of unconditional minimum
purchase commitments from any customer, a declining level of visibility into its
customers' deployment plans over the course of the capital equipment procurement
year, and the lack of reliable data on which to anticipate core demand for high
bandwidth transmission capacity. An example of this uncertainty is evidenced in
the recent communication from WorldCom that its DWDM system requirements for
1998 will be substantially reduced relative to last year's purchases, due to a
change in its purchasing policies. See "Concentration of Potential Customers;
Dependence on Major Customers."
The WorldCom example indicates that divergence between the Company's
actual or anticipated financial results and published expectations of stock
analysts can occur notwithstanding the Company's efforts to address those
expectations through public announcements and reports. Such divergence will
likely occur from time to time in the future, with resulting stock price
volatility, irrespective of the Company's overall year to year performance or
long term prospects. For so long as the Company remains highly dependent on two
or three customers, and particularly in years, like the current fiscal year,
when substantial majority of purchases by these customers are likely to be
focused on products, such as MultiWave Sentry, MultiWave 4000, and MultiWave
Firefly, being introduced for the first time, there is substantial risk of
widely varying quarterly results, including the so-called "missed quarter"
relative to investor expectations which do not account for these issues, with
attendant risk of higher volatility in the Company's stock price. See
"Concentration of Potential Customers; Dependence on Major Customers";
"Dependence on Effective Transition to Multiple Product Lines"; and
"Anticipating Demand for Bandwidth".
LONG AND UNPREDICTABLE SALES CYCLES. The purchase of network
equipment such as DWDM equipment is typically carried out by network operators
pursuant to multiyear purchasing programs which may increase or decrease
annually as the operators adjust their capital equipment budgets and purchasing
priorities. The Company's customers do not typically share detailed information
on the duration or magnitude of planned purchasing programs, nor do they
consistently provide to the Company advance notice of contemplated changes in
their capital equipment budgets and purchasing priorities. See "Concentration
of Potential Customers; Dependence on Major Customers" for discussion of a
major change in WorldCom's purchasing policies. Additionally, a typical year
end wind-down of customers' annual capital equipment procurement cycles, or a
seasonal slow down in purchasing at year end, neither of which was experienced
by the Company in its first year of product shipments, may be experienced in
this and future years. These uncertainties substantially complicate the
Company's manufacturing planning, and may lead to substantial and unanticipated
fluctuations in the timing of orders and revenue. The Company has in fact
experienced such unanticipated fluctuations in prior quarters, but any
unanticipated reduction in orders from one customer has previously been offset
in part or in whole by unanticipated increases in orders for other routes with
the same customer or in orders from another customer. There can be no assurance
that this historical ability to offset reductions will continue. For example,
the Company may be unable to mitigate the anticipated effect of the recently
announced reduction in order levels from WorldCom.
Any curtailment or termination of customer purchasing programs,
decreases in customer capital budgets or reduction in the purchasing priority
assigned to equipment such as DWDM equipment, particularly if significant and
unanticipated by the Company and not offset by increased purchasing from other
customers, could
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have a material adverse effect on the Company's business, financial condition
and results of operations. Further, as is the case with most manufacturing
companies, the Company has manufactured, and from time to time in the future
likely will manufacture finished products on the basis of non-binding customer
forecasts rather than actual purchase orders. However, in contrast to most
manufacturing companies, given the Company's dependence on very few customers,
and the relatively high cost of the Company's DWDM systems, the potentially
adverse financial consequences of mismatches between what is built and what is
actually ordered can be magnified. Long distance carriers may also encounter
delays in their build out of new routes or in their installation of new
equipment in existing routes, with the result that orders for the MultiWave
systems may be delayed or deferred. Any such delay with any major customer, as
well as any other delay or deferral of orders for MultiWave systems, and any
material mismatch between what is built and what is later ordered could result
in material fluctuations in the timing of orders and revenue, and could have
material adverse effect on the Company's business, financial condition and
results of operations.
DEPENDENCE ON KEY PERSONNEL. The Company's success will also depend
in large part upon its ability to attract and retain highly-skilled technical,
managerial, sales and marketing personnel, particularly those skilled and
experienced with optical communications equipment. Competition for such
personnel is intense and there can be no assurance that the Company will be
successful in retaining its existing key personnel and in attracting and
retaining the personnel it requires. There are also some indications that the
Company is beginning to exhaust the local market for skilled engineers, and will
have to expand this portion of its workforce through the establishment of
regional facilities, such as the research and development support center in
Atlanta, Georgia. This geographical broadening of the Company's product
development efforts will place strains on the management, coordination and
control of such efforts. Failure to attract and retain key personnel, and the
failure to coordinate their activities efficiently despite large geographic
distances between facilities, will have a material adverse effect on the
Company's business, financial condition and results of operations.
PART II. - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
PIRELLI LITIGATION - CHRONOLOGICAL SEQUENCE OF LITIGATION. On
December 20, 1996, a U.S. affiliate of Pirelli SpA ("Pirelli") filed suit in
U.S. District Court in Delaware, alleging willful infringement by the Company of
five U.S. patents held by Pirelli. The lawsuit (the "First Pirelli Lawsuit")
seeks treble damages, attorneys' fees and costs, as well as preliminary and
permanent injunctive relief against the alleged infringement. On February 10,
1997, the Company filed its answer denying infringement, alleging inequitable
conduct on the part of Pirelli in the prosecution of certain of its patents, and
stating a counterclaim against the relevant Pirelli parties for a declaratory
judgment finding the Pirelli patents invalid and/or not infringed. Following the
filing of the Company's answer, Pirelli dedicated to the public and withdrew
from the lawsuit all infringement claims relating to one of the five patents. In
September 1997, Pirelli withdrew another patent from the suit, leaving three
patents at issue in the First Pirelli Lawsuit.
In February 1997, the Company filed a complaint against Pirelli with
the International Trade Commission ("ITC"), based on the Company's belief that a
32 channel DWDM system announced by Pirelli infringed at least two of the
Company's patents. The Company's complaint sought a ban on the importation by
Pirelli into the U.S. of any infringing 32 channel system. A formal
investigative proceeding was instituted by the ITC on April 3, 1997. On November
24, 1997, the parties settled the matter by entry of a Consent Order. Under the
Consent Order, Pirelli has agreed not to import into the United States WDM
components and or systems which infringe the Company's patented in fiber Bragg
gratings-based WDM systems.
On March 14, 1997, the Company filed suit against Pirelli in U.S.
District Court in the Eastern District of Virginia, alleging willful
infringement by Pirelli of three U.S. patents held or co-owned by the Company.
In September 1997, the Company withdrew one of the three patents from the suit.
The two patents which remained at issue related to certain of Pirelli's cable
television equipment, and to certain Pirelli fiberoptic communications equipment
announced by Pirelli in January 1997 as being deployed in a field trial in the
MCI network. As to the second of the two patents, on December 5, 1997, the court
issued an order granting partial summary judgment for Pirelli on the issue of
non-infringement, and denying Pirelli's motion for summary judgment of
invalidity of this patent. The court later amended its ruling to specifically
affirm the validity of this patent. The Company has elected to appeal the
partial summary judgment of non-infringement, and has agreed to dismiss its
other claims,
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with the right to reassert certain of them, pending the outcome of the appeal.
The appellate decision is not expected until late 1998 at the earliest.
RECENT DEVELOPMENTS IN LITIGATION. In the First Pirelli Lawsuit,
the so-called "Markman" hearing was conducted in September 1997. Markman
hearings are pre-trial proceedings typically required in patent infringement
litigation, and result in rulings by the trial judge on certain issues of
patent claim construction. These rulings then become the basis for later jury
determination of the infringement claims, and can be very influential in
determining the outcome of the litigation. The Delaware court's Markman ruling
in the First Pirelli Lawsuit was issued in November. The Company believes the
Markman ruling is generally favorable to the Company's position, and nothing in
the ruling, including the ruling as recently amended in response to Pirelli's
motion for reargument, has changed the Company's view that its MultiWave
systems do not infringe any valid claim of the three remaining Pirelli patents
and that certain of the Pirelli patents and/or claims are invalid.
The Company anticipated, and continues to anticipate, that as the
First Pirelli Lawsuit approaches trial, either or both parties might take
actions to amend or add to the patent infringement claims already pending.
On December 26, 1997, the Company received word that Pirelli filed
on December 23, 1997, a new complaint in U.S. District Court in Delaware,
alleging willful infringement by the Company of two additional U.S. patents held
by Pirelli (the "Second Pirelli Lawsuit"). Further, after the Court ruled in
early January 1998, that Pirelli's attempts to allege infringement against
products other than the MultiWave 1600 were not timely in the First Pirelli
Lawsuit, on January 14, 1998, Pirelli filed a third complaint in Delaware (the
"Third Pirelli Lawsuit"), alleging willful infringement of the same three
patents still at issue in the First Pirelli Lawsuit, but alleging the
infringement against unspecified other products of the Company. The Second
Pirelli Lawsuit and the Third Pirelli Lawsuit seek treble damages, attorneys'
fees and costs, as well as preliminary and permanent injunctive relief against
the alleged infringement.
On February 4, 1998, the Company filed its answer to the Third
Pirelli Lawsuit, denying infringement, and stating a counterclaim against the
relevant Pirelli parties for a declaratory judgment finding the Pirelli patents
invalid and/or not infringed.
On February 13, 1998, and based upon the Court's Markman ruling in
the First Pirelli Lawsuit, the Company filed a motion for summary judgment of
non-infringement on two of the three remaining patents in the First Pirelli
Lawsuit, and of invalidity on portions of the third. Pirelli filed a motion for
summary judgment of literal infringement of a single claim of the patent as to
which the Company has filed for summary judgment of invalidity. There is no
assurance that Pirelli's motion will not be granted, or that the Company's
motions will result in complete disposition of the First Pirelli Lawsuit. The
Company continues to plan on going to trial in all litigation.
On February 17, 1998, the Company filed its answer to the Second
Pirelli Lawsuit, denying infringement, alleging inequitable conduct on the part
of Pirelli in the prosecution of the two patents, and stating a counterclaim
against the relevant Pirelli parties for a declaratory judgment finding the
Pirelli patents invalid and/or not infringed.
Concurrent with the filing of its answer to the Second Pirelli
Lawsuit, the Company filed a motion to consolidate the First, Second and Third
Lawsuits for purposes of trial. If the motion is not granted, trial in First
Lawsuit, or perhaps a consolidation of the First and Third Lawsuits, will likely
commence in or around fall of 1998. If the motion to consolidate all three
lawsuits is granted, the start of trial may be delayed, although it is not
presently clear as to how long the delay might be.
The patent claims cited in the Second Pirelli Lawsuit had been
evaluated by the Company prior to the lawsuit, as had the patent claims cited in
the Third Pirelli Lawsuit. The Company continues to believe that its MultiWave
systems do not infringe any valid claims of any patents held by Pirelli. The
Company further believes certain of the Pirelli patents and/or claims are
invalid, and that certain of the patents were obtained through inequitable
conduct. The Company is defending itself vigorously, and is planning on the
litigation proceeding through trial. In light of the complexity and likely
time-consuming nature of the litigation, including the ITC proceeding, and the
Company's patent infringement lawsuit against Pirelli in the Eastern District of
Virginia, the Company recorded a charge of approximately $7.5 million in
estimated legal and related costs associated with these proceedings during
fiscal 1997. While the Company believes its estimate of legal and related costs
is
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21
adequate based on its current understanding of the overall facts and
circumstances, the estimate may be increased in future periods depending on the
course of the legal proceedings.
The Pirelli proceedings have been and will continue to be costly and
involve a substantial diversion of the time and attention of some members of
management. Further, the Company believes Pirelli and other competitors have
used the existence of the Delaware litigation to raise questions in customers'
and potential customers' minds as to the Company's ability to manufacture and
deliver MultiWave systems. There can be no assurance that such efforts by
Pirelli and others will not disrupt the Company's existing and prospective
customer relationships.
There can be no assurance that the Company will be successful in the
Pirelli litigation, and an adverse determination in the Delaware court, either
on a motion for summary judgment or in trial, could result from a finding of
infringement of only one claim of a single patent. The Company may settle the
litigation due to the costs and uncertainties associated with litigation in
general and patent infringement litigation in particular and due to the fact
that an adverse determination in the litigation could preclude the Company from
producing MultiWave systems until it were able to implement a non-infringing
alternative design to any portion of any system to which such a determination
applied. However, there can be no assurance that any settlement will be reached
by the parties. The Company is planning on all litigation proceeding through
trial. An adverse determination in, or settlement of, the Pirelli litigation
could involve the payment of significant amounts, or could include terms in
addition to such payments, which could have a material adverse effect on the
Company's business, financial condition and results of operations.
ITEM 2. CHANGE IN SECURITIES
On December 23, 1997 the Board of Directors of the Company adopted a
Stockholder Rights Plan. The Stockholders Rights Plan is designed to protect all
stockholders of the Company against hostile acquirers who may seek to take
advantage of the Company and its stockholders through coercive or unfair tactics
aimed at gaining control of the Company without paying all stockholders of the
Company a full and fair price. As part of this Plan, a special type of dividend
was declared on the Common Stock of the Company in the form of a distribution
rights to all stockholders of record on January 8, 1998.
The rights are not intended to prevent a fair and equitable takeover
of the Company and will not do so. However, the rights should discourage any
effort to acquire the Company in a manner or on terms not approved by the Board
of Directors. The distribution of the rights will not alter the financial
strength of the Company or interfere with its business plans. The distribution
will not change the way in which stockholders can currently trade the Company's
shares and will not be dilutive of affect reported per share results. While the
distribution of the rights was not taxable either to stockholders or to the
Company, stockholders may, depending on their individual circumstances,
recognize taxable income should the rights become exercisable. See Form 8-K
filed with the Securities and Exchange Commission on December 29, 1997 for
further information.
Also during the quarter ended January 31, 1998, the Company issued
an aggregate of 169,754 shares of Common Stock to the shareholders of Astracom
for the purchase of the Astracom business. These shares were not registered in
reliance on the exemption provided under Section 4(2) of the Securities Act of
1933, as amended, and Registration D promulgated thereunder.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibit Description
11.0 Statement of Computation of Per Share Earnings - see Note 1
of Notes to Consolidated Financial Statements
27.0 Financial Data Schedule (filed only electronically with
the SEC)
(b) Reports on Form 8-K:
Form 8-K filed December 29, 1997, reporting on the adoption of a
Shareholders Rights Plan under Item 5.
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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.
CIENA CORPORATION
Date: February 19, 1998 By: /s/ Patrick H. Nettles
----------------- -----------------------
Patrick H. Nettles
President, Chief Executive Officer
and Director
(Duly Authorized Officer)
Date: February 19, 1998 By: /s/ Joseph R. Chinnici
----------------- -----------------------
Joseph R. Chinnici
Vice President, Finance and
Chief Financial Officer
(Principal Financial Officer)
22
5
1,000
3-MOS
OCT-31-1998
NOV-01-1997
JAN-31-1998
251,919
31,089
79,458
200
61,388
436,944
100,382
17,026
533,505
80,751
0
0
0
1,001
420,665
533,505
134,267
134,267
50,575
50,575
22,739
0
76
64,663
24,895
39,768
0
0
0
36,768
0.40
0.37
