10-Q 1 f72473e10-q.txt CIDCO INCORPORATED FORM 10-Q (MARCH 31, 2001) 1 =============================================================================== UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 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 MARCH 31, 2001. OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13(d) OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM _________ TO _______. COMMISSION FILE NUMBER: 0-23296 CIDCO INCORPORATED (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 13-3500734 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER) 220 COCHRANE CIRCLE MORGAN HILL, CA 95037 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES AND ZIP CODE) (408) 779-1162 (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 [_] NO [X] THE NUMBER OF SHARES OUTSTANDING OF THE REGISTRANT'S COMMON STOCK ON MARCH 23, 2001 WAS 13,985,723. =============================================================================== 2 CIDCO INCORPORATED INDEX

2 3 PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS CIDCO INCORPORATED BALANCE SHEETS (in thousands, except per share data; unaudited)

3 The accompanying notes are an integral part of these financial statements. 4 CIDCO INCORPORATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS) (in thousands, except per share data; unaudited)

4 The accompanying notes are an integral part of these financial statements. 5

5 The accompanying notes are an integral part of these financial statements. 6 CIDCO INCORPORATED NOTES TO FINANCIAL STATEMENTS NOTE 1. BASIS OF PRESENTATION The accompanying financial information is unaudited, but, in the opinion of management, reflects all adjustments (which include only normal recurring adjustments) necessary to present fairly the Company's financial position, operating results and cash flows for those periods presented. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission. The financial information should be read in conjunction with the audited financial statements and notes thereto for the year ended December 31, 2000 included in the Company's most recent Annual Report on Form 10-K/A filed with the Securities and Exchange Commission. Results for the interim period are not necessarily indicative of results for the entire year. Restatement of Financial Results On April 26, 2001, the Company announced that it was investigating an accounting issue that could result in restating current liabilities and cost of goods sold for its discontinued telephone equipment ("Telco") operations, which were sold in December 2000. The investigation found that cost of goods sold related to discontinued operations was understated by a total of $7.7 million during the previous three years due to issues relating to telephone equipment rework and scrap and to valuation of the remaining Telco inventory. The result was a $5.2 million understatement of current liabilities, $1.2 million overstatement of a vendor account receivable and a $1.3 million overstatement of Telco inventory. Cost of goods sold was understated by $2.0 million, $2.5 million and $3.2 million in 1998, 1999 and 2000, respectively. Refer to the Company's Form 10-K/A for the year ended December 31, 2000, for a further discussion of the impact of the restatement. As a result, loss from discontinued operations for the three months ended March 31, 2000 increased from $5.6 million, or $0.41 per share, to $7.8 million, or $0.56 per share. As of March 31, 2000, current liabilities increased to $39.6 million from $33.5 million and accounts receivable decreased to $15.9 million from $16.6 million compared to previously reported amounts. The investigation determined that these accounting issues resulted from system implementation issues and misunderstanding of accounting procedures. The majority of the restatement was related to recognition of costs of product refurbishment and scrapped raw material by a contract manufacturer. 6 7 NOTE 2. RECENT ACCOUNTING PRONOUNCEMENTS In June 1998, the FASB issued Statement of Financial Accounting Standard ("SFAS") No. 133, "Accounting for Derivatives and Hedging Activities." SFAS No. 133 establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. In July 1999, the FASB issued SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities - Deferral of the Effective Date of FASB Statement No. 133." SFAS No. 137 deferred the effective date of SFAS No. 133 until fiscal years beginning after June 15, 2000. The Company adopted SFAS No. 133 during its fiscal year ending December 31, 2001. The adoption of SFAS No. 133 did not have a material effect on its financial position or results of operations. NOTE 3. INVENTORIES Inventories are stated at the lower of cost or market value, cost being determined using the standard cost method (which approximates first in, first out). The Company's inventories consist of finished goods and raw materials purchased for the manufacture of finished goods. The components of inventory are as follows (in thousands):

NOTE 4. COMPREHENSIVE INCOME (LOSS) The Company's comprehensive income (loss) consists of net income (loss) and unrealized gains and losses on investments. Accumulated balances of unrealized gains and losses on investments are as follows: Balance December 31, 1999 ............. $ (92) Unrealized losses in the period, net... 235 ----- Balance March 31, 2000 ................ $ 143 ===== Balance December 31, 2000 ............. $ 1 Unrealized gain in the period, net .... 28 ----- Balance March 31, 2001 ................ $ 29 =====

7 8 NOTE 5. EARNINGS (LOSS) PER SHARE Basic Earnings Per Share ("EPS") is computed by dividing net income available to common stockholders (numerator) by the weighted average number of common shares outstanding (denominator) during the period. Basic EPS excludes the dilutive effect of stock options. Diluted EPS gives effect to all dilutive potential common shares outstanding during a period. In computing diluted EPS, the average stock price for the period is used in determining the number of shares assumed to be purchased from exercise of stock options. The following table is a reconciliation of the numerators and denominators of the basic and diluted EPS:

(1) Stock options and warrants to purchase 1,787,310 of common stock priced at $1.00 to $19.82 per share were excluded because their inclusion would be anti-dilutive for the quarter ended March 31, 2001. Stock options and warrants to purchase 1,025,433 shares of common stock priced at $1.88 to $19.82 per share were excluded because their inclusion would be anti-dilutive for the quarter ended March 31, 2000. 8 9 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following information should be read in conjunction with the interim financial statements and the notes thereto in Part 1, Item 1 of this Quarterly Report. HISTORICAL BACKGROUND The Company was incorporated in July 1988 to design, develop and market subscriber telephone equipment that would support Caller ID, Caller ID on Call Waiting, Voice Mail, Three-way Caller Conferencing and other Network Services then being introduced by Telcos. The Company began operations in 1989, initially funding its business with a capital investment made by its founders. Prior to its initial public offering, the Company financed its growth principally through internally generated funds and short-term borrowings. In March 1994, the Company completed its initial public offering of Common Stock and had two subsequent public offerings in 1994 resulting in capital infusions to the Company totaling approximately $59.4 million. Historically, the Company's telephony products and services were provided to telephone company subscribers primarily through distribution arrangements with Telcos. These sales were generally a one-time sale to the end-user. As penetration rates of Network Services increased throughout the United States, incremental customer acquisitions became more expensive. Consequently, volumes and profits declined. Despite a number of down-sizings over the last couple of years the Company had losses from operations in 1998, 1999 and 2000. In July of 1999, Cidco introduced its e-mail appliance, the Mivo 100, formerly the MailStation. Cidco's Mivo 100 is a simple, inexpensive, single-use e-mail device, which uses the Internet/telephony networks to enable consumers to handle interpersonal communications in a non-PC environment. The Mivo 100 was the first in a series of Internet appliances that the Company plans to roll out within the next couple of years. Cidco distributes its Mivo product line primarily through established retail outlets, including Best Buy, Comp USA, KMart, Office Max, Radio Shack, Staples and Target. Mivo products are sold primarily through the retail channel, with some sales coming from OEMs. Sales of e-mail appliance products sold through the retail channel are recognized based on the service contract that the end-user subscribes to upon activation of the service. Sales associated with the service provided to customers are recognized monthly as the services are utilized. In other words, if the end-user subscribes to an annual contract, the product sale, the corresponding cost of sale and the service revenue are amortized over 12 months. If the end-user subscribes to a month-to-month contract, the total product sale, the total corresponding cost of sale and the first month of service are recognized upon activation. OEM sales are one-time product only sales and are recognized upon shipment, less reserves for anticipated returns. From its inception in 1988 until December 2000, Cidco was a supplier of advanced telephony products such as Caller ID and Network Service equipment which supported Caller ID, Voice Mail, Three-way Caller Conferencing, Caller ID on Call Waiting and/or other intelligent Network Services being offered by RBOCs, as well as ISPs, both domestic and international. These telephony products and services were provided to telephone subscribers primarily through distribution arrangements with Telcos. Due to declining revenues and significant losses in the Telco Business, Cidco sold the Telco Business in December 2000. The transaction was structured as a sale of assets under which Cidco sold substantially all of the assets related to the Telco Business, including contracts, certain inventory, intellectual property, tangible assets and associated goodwill. As consideration for the Telco Business assets, Cidco received $5,000,000 cash at closing. In addition, Cidco is entitled to receive royalty and inventory payments for a period of time after closing, subject to indemnity for breaches of representations of up to $1 million during the 12 months following the closing. 9 10 This Report contains forward-looking statements that involve risks and uncertainties. In many cases, you can identify forward-looking statements by terminology such as "may," "intends," "will," "should," "expects," "plans," "anticipates," "believes," "estimates," "predicts," "potential," or "continue," or the negative of these terms and other comparable terminology. These statements are only predictions. These forward-looking statements are subject to risks and uncertainties and other factors, including those set forth below under the caption "Factors Which May Affect Future Results," which could cause actual future results to differ materially from historical results or those described in the forward-looking statements. The forward-looking statements contained in this Report should be considered in light of these factors. You are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. The Company is under no obligation (and expressly disclaims any such obligation) to update or alter its forward looking statements whether as a result of new information, future events or otherwise. RESTATEMENT OF FINANCIAL STATEMENTS On April 26, 2001, the Company announced that it was investigating an accounting issue that could result in restating current liabilities and cost of goods sold for its discontinued telephone equipment ("Telco") operations, which were sold in December 2000. The investigation found that cost of goods sold related to discontinued operations was understated by a total of $7.7 million during the previous three years due to issues relating to telephone equipment rework and scrap and to valuation of the remaining Telco inventory. The result was a $5.2 million understatement of current liabilities, $1.2 million overstatement of a vendor account receivable and a $1.3 million overstatement of Telco inventory. Cost of goods sold was understated by $2.0 million, $2.5 million and $3.2 million in 1998, 1999 and 2000, respectively. Refer to the Company's Form 10-K/A for the year ended December 31, 2000, for a further discussion of the impact of the restatement. As a result, loss from discontinued operations for the three months ended March 31, 2000 increased from $5.6 million, or $0.41 per share, to $7.8 million, or $0.56 per share. As of March 31, 2000, current liabilities increased to $39.6 million from $33.5 million and accounts receivable decreased to $15.9 million from $16.6 million compared to previously reported amounts. The investigation determined that these accounting issues resulted from system implementation issues and misunderstanding of accounting procedures. The majority of the restatement was related to recognition of costs of product refurbishment and scrapped raw material by a contract manufacturer. 10 11 RESULTS OF OPERATIONS The following table sets forth for the periods indicated the percentage of sales from continuing operations represented by certain line items in the Company's income statement:

Sales Sales increased from $0.7 million in the first quarter of 2000 to $4.8 million in the first quarter of 2001. The Company has focused on building its recurring revenue e-mail services business. It has done this through building a retail channel and through advertising to increase awareness of the product category, the Company and its products and services. As a result of this emphasis, sales from this channel have increased from $0.3 million to $4.8 million. This is made up of service revenue, which increased from $0.1 million in the first quarter of 2000 to $2.6 million in the first quarter of 2001, and hardware revenue, which increased form $0.1 million in the first quarter of 2000 to $2.2 million in the first quarter of 2001. The Company has de-emphasized the OEM channel as it has built its recurring revenue business, causing the decline in OEM sales from $0.4 million in the first quarter of 2000 to zero in the first quarter of 2001. The Company is opportunistic in the OEM channel but continues to emphasize its recurring revenue business. Gross Margin Cost of sales includes the cost of finished goods purchased from the Company's offshore contract manufacturer, all costs associated with procuring and warehousing the Company's inventory, the cost of wholesale ISP services and the cost of wholesale e-mail hosting services. Gross margin as a percentage of sales improved from a negative 101% to a negative 15%. The negative gross margin reflects the emergence of the Company's e-mail service business. Initially, the e-mail service business has negative margins as the hardware sale to the retailer is subsidized by approximately $15 per unit. Following the critical retail sale, the Company receives recurring subscription revenue with substantial service margins, which may be as high as 80%. As this business grows and the recurring revenue builds as a percentage of total revenue, margins may exceed 50% overall. 11 12 Research and Development Expenses Research and development expenses include salaries and benefits for personnel, tooling, contracted engineering services, and supplies for research and development activities. The Company's policy is to expense all research and development expenditures as incurred except for certain investments in tooling, which are amortized as research and development expenses over a period of two years. Research and development expenses increased 152% to $1.7 million in the first quarter of 2001 from $0.7 million in the first quarter of 2000, primarily due to increased spending on new product and service development projects. The research and development spending reflects usage of contracted engineering services to leverage experts in various disciplines while hiring regular employees on a selective basis. The Company expects research and development expenses will continue to increase in absolute terms, but decline as a percentage of sales as the Company builds this business. Selling and Marketing Expenses Selling and marketing expenses include customer acquisition costs, personnel costs, advertising costs, telephone and electronic data exchange expenses, promotional costs and travel expenses. Selling and marketing expenses increased from $2.5 million in the first quarter of 2000 to $8.2 million in the first quarter of 2001, reflecting continued promotional and advertising campaigns designed to increase awareness of the product category, the Company and our products and services. The increase also reflects the customer support cost related to an increased customer base and a $1.3 million charge related to the termination of an advertising and Internet content agreement with Yahoo!. Selling and marketing expenses decreased from 380% of sales in the first quarter of 2000 to 170% of sales in the first quarter of 2001. The Company anticipates that selling and marketing expenses will decline both in absolute dollars and as a percentage of sales to between 70% and 80% of sales during the remainder of 2001 as the Company's business plan calls for less advertising spending while leveraging retailer circular advertising to help drive primary demand for the Company's products and services. General and Administrative Expenses General and administrative expenses include salaries, benefits and other expenses associated with the finance and administrative functions of the Company. General and administrative expenses increased from $1.1 million in the first quarter of 2000 to $1.6 million in the first quarter of 2001 but decreased as a percentage of sales from 168% of sales in the first quarter of 2000 to 32% of sales in the first quarter of 2001. This increase in absolute dollars reflects the e-mail products and services business being a stand-alone public company for the first time as the Company sold its Telco business in the fourth quarter of 2000. The Company believes that general and administrative expenses will decrease slightly in absolute dollars in 2001, except for the second quarter, during which the Company will incur significant outside service charges related to the restatement of prior financial statements. The Company believes that general and administrative expenses will decrease significantly as a percentage of sales in future quarters. LIQUIDITY AND CAPITAL RESOURCES The Company's cash and cash equivalents decreased $7.9 million during the quarter ended March 31, 2001 primarily from cash used in operations of $8.4 million which was partially offset by proceeds from investing activities of $0.4 and from the issuance of common stock of $0.1 million. Cash used in operations of $8.4 million resulted primarily from a net loss of $11.5 million, decreased accounts payable of $7.2 million, decreased accrued liabilities of $0.5 million, decreased deferred revenue of $0.2 million and increased inventory of $0.2 million. Offsets to the above included a decrease in accounts receivable of $8.9 million, decreased other assets of $1.1 million, and depreciation expense of $0.4 million. The Company had a working capital balance of $16.6 million as of March 31, 2001, as compared to $28.1 million at December 31, 2000. The Company's current ratio decreased to 1.5 to 1, as of March 31, 2001, from 1.7 to 1, as of December 31, 2000. The decrease in working capital was due to a reduction in cash of $7.9 million, restricted cash of $0.5 million, short-term investments of $0.1 million, accounts receivable of $8.9 12 13 million, deferred cost of sales of $0.8 million, and other current assets of $1.3 million. Offsetting the above was a decrease in trade payables of $7.2 million, other accrued liabilities of $0.5 million, and deferred revenue of $0.2 million. The Company is not certain its current cash, cash equivalents, short-term investments, and borrowing capacity will satisfy the Company's working capital and capital expenditure requirements over the next twelve months. The Company is evaluating opportunities to improve its cash flow, including reductions in operating expenses, negotiating more favorable payment terms with suppliers and customers, reducing the level of investment in new product purchases and new product development, and obtaining a line of credit. In addition, the Company is exploring strategic alternatives to provide additional funding and enhance stockholder value. The Company has engaged TM Capital Corp., a New York-based investment banking firm, to act as financial advisor in connection with the Company's evaluation of strategic alternatives. These strategic alternatives may include investment by a strategic partner, acquisition of the Company by an interested party or other funding alternatives. To the extent funds are available, the Company plans to continue to invest in its infrastructure to gain efficiencies and meet the demands of its markets and customers. The Company believes its remaining 2001 capital expenditures will be approximately $0.8 million. Additionally, the Company plans to invest in marketing programs to increase e-mail subscriber growth related to the Mivo 100 and subsequent products. The Company may spend as much as $11 million on these marketing programs during the remainder of 2001, subject to adjustment as changing economic conditions necessitate. FACTORS THAT MAY AFFECT FUTURE RESULTS The Internet appliance business revenues are not expected in the near term to replace the revenues from the sold Telco Business, which would cause us to operate at a loss. Although experiencing significant declining revenue, our Telco Business comprised approximately 85% of our revenue for the nine-month period ending September 30, 2000, and more than 90% for each of our three prior fiscal years. Our Internet appliance business sales to subscribers has grown steadily, with a seasonal increase in the fourth quarters of 1999 and 2000. However, we do not expect these revenues to equal or exceed the revenues from our Telco Business in the near term, and we will be operating at a loss. The Internet appliance business has incurred significant losses since inception, and we expect these losses to continue into calendar year 2002. We commenced our Internet appliance business in July 1999 and it has incurred significant losses since inception. We expect these losses to continue into calendar 2002. We will need to achieve significantly higher revenues to achieve profitability. We may not be successful in increasing our Internet appliance business revenues or generating acceptable margins. In addition, the operation of the Internet appliance business as a standalone business may not be a profitable business enterprise. If we are unable to achieve significantly greater revenue and significantly greater recurring revenue from our Internet appliance business, our losses will likely continue indefinitely. If this occurs the market price of our common stock could suffer. Our limited operating history makes forecasting future results difficult. We began offering the Mivo 100 for sale in July 1999. We have a very limited operating history in the Internet appliance business, which makes it difficult to predict the future results. You must consider our prospects in light of the uncertainties that we may encounter as an early stage company in a new and rapidly evolving market. These uncertainties include: - market acceptance of Internet appliances; - consumer demand for, and acceptance of our Mivo 100 product and follow-on Mivo products; 13 14 - our ability to create user-friendly applications; - our ability to use advertising effectively to create brand awareness and drive subscriber growth; - our ability to contract with content and service providers who will furnish information and services our customers find useful; and - our unproven and evolving business model. We may not be able to sustain or accelerate subscriber growth, or sustain or accelerate recurring revenue from the Mivo 100 and the new Mivo product line. The Internet appliance market is relatively new and undeveloped and demand for products like our Mivo product line may not increase or be sustained, and our current or future products may not have market acceptance in that product category. Many of our potential customers have never purchased Internet service for personal use, used the Internet or e-mail or engaged in e-commerce transactions. We must convince these potential users to purchase our Internet appliance product offerings and continue to pay a subscription fee for services. Our acquisition costs per subscriber are currently very high due to the significant costs associated with advertising, development of the retail distribution channel and our brand marketing campaign, and our relatively low number of subscribers. If we do not achieve significant subscriber growth and our cost per subscriber is not significantly reduced, we will not generate meaningful revenue at acceptable margins or achieve profitability. In addition, we are not certain that our customers will be willing to continue to pay subscription fees over the longer term, or that the rate at which subscribers do not renew (the "churn" rate) will not increase significantly over time. To the extent that the subscription model is not successful, because market acceptance for our products declines, or other business models evolve in connection with the evolving Internet appliances market, or our "churn" rate increases, we might have future unexpected declines in revenue. In addition, if our recurring revenue from subscriptions does not increase significantly, we will not generate improvement in our gross margins. We derive our revenue primarily from a single product line. If we do not design and effectively introduce new products, our products will become obsolete and our business will suffer. Currently our business consists of an e-mail subscription service. Competitors may erode our existing market for e-mail service. We may not be able to correctly anticipate or timely develop and introduce products or services which meet the requirements of a changing marketplace or which will achieve market acceptance. If we do not timely develop and introduce new products in our e-mail appliance product line as expected in 2001, we may not be able to sustain our existing relationships with retailers. If we are not able to develop and sustain successful relationships with content providers, e-mail hosting providers, internet service providers and other third parties important to the internet appliance business, we may not be able to attract and retain customers. Our products include content from third parties. All of our products will require the services from Internet service providers and e-mail hosting providers. Our relationships with content or service providers may not continue and we may not develop relationships with additional or replacement content or service providers. Without such relationships, we may not sustain or increase market acceptance on demand for our Internet appliance products with existing and new customers. Our inability to obtain and provide content or services could result in delays in the development or delivery of new products and the loss of existing or potential customers. Moreover, if the content is not appealing to customers, inferior in quality or less desirable than content available otherwise, we could face decreased demand for our products and services. We may not be able to successfully compete in the highly competitive and rapidly evolving Internet appliance industry. The markets for Internet appliances and Internet access service are intensely competitive, evolving and subject to rapid technological change. We compete for customers directly with V-Tech, and indirectly 14 15 with companies such as Intel and Microsoft. Virtually all of our current and potential competitors have longer operating histories, significantly greater financial, technical, marketing and other resources, significantly greater name recognition and a substantially larger installed base of customers than we do. In addition, many of our competitors have nationally known brands and have extensive knowledge of our industry. Moreover, our current and potential competitors have established or may establish cooperative relationships among themselves or with third parties to increase the ability of their products to address consumer needs or to combine hardware product and service offerings. We expect the intensity of competition in this market to increase in the future. Increased competition is likely to result in price reductions, reduced or negative margins and difficulty in gaining market share. Any of these effects could seriously harm our business. We are highly dependent on a sole source component supplier and because of such dependence, we may experience product delivery delays. Many of the key components used in our products are available either only from single sources or, even if potentially available from multiple sources, involve relatively long lead times to manufacture, such that we cannot quickly obtain additional supply without incurring significant incremental costs. In general, we do not have supply contracts with our suppliers and order parts on a purchase order basis. Our inability to obtain sufficient quantities of components required, or to develop alternative manufacturing capability if and as required in the future, could result in delays or reductions in product shipments that could materially and adversely affect our business, results of operations and financial condition. Because we do not have direct quality control over our product manufacturing, we may be susceptible to excessive product warranty returns, which could adversely impact our results of operations. Our products are manufactured for us by a third party, Inventec, which is headquartered in Taiwan with manufacturing facilities in China. Although our manufacturer has been certified pursuant to ISO 9002 and performs comprehensive inspection, testing and statistical process control testing, we cannot assure you that our manufacturer may not from time to time produce products that result in excessive returns. If we were to experience an excessive amount of product warranty returns, this could have a materially adverse affect on our business, results of operations and financial condition. Our manufacturer also has the right to sell or license the hardware technology used in our products to third parties that may compete with us. Inventec owns substantially all of the intellectual property employed in the hardware for our Internet appliance products. So long as we meet certain volume thresholds, Inventec may not sell similar products in the United States, Mexico and Canada. Inventec is not restricted from selling or licensing its intellectual property, selling the hardware to third parties, or manufacturing for third parties products containing such hardware. Third parties could use Inventec intellectual property to compete against us. Our primary manufacturer may be subject to political turmoil, upheaval or natural disaster. If our primary manufacturer is unable to manufacture our products due to natural disasters, political turmoil or other reasons, or if Inventec refuses to provide its manufacturing services on a timely basis and on commercially acceptable price terms and alternative providers of these services are not available on acceptable terms, our revenues may decline dramatically and our operating expenses could increase significantly. Moreover, reliance on contract manufacturers in foreign countries subjects us to risks of: - political instability, - financial instability, - expropriation, - currency controls and exchange fluctuations, and - changes in tax laws, tariffs and rules. If our brand does not achieve the broad recognition necessary to expand and maintain our user base, our revenues may not grow and our financial performance may suffer. 15 16 We believe that brand recognition and a favorable consumer perception of our products and services is essential to our future success. Our success in promoting and maintaining our brand, or any other brand that we may use in the future, will depend largely on: - the success of our brand-enhancement strategy, including mass marketing and multi-media advertising, promotional programs and public relations activities; and - the quality and ease-of-use of our services and applications. If we are unsuccessful in establishing or maintaining a favorable image of our products and services, we may not be able to expand our user base. In addition, in order to attract and retain users and to promote and maintain our brand or future brands, we expect to continue our significant marketing expenditures. If we incur the expected very significant expenses in promoting and maintaining our brand without a corresponding increase in revenue and income, our financial results could be seriously harmed and we could require capital sooner than expected. We may not be successful in maintaining a strong retail distribution channel for our Internet appliance business and we may lose significant sales and our revenues may decline. The success of the Internet appliance business depends on successfully developing and marketing to a strong retail distribution channel. Although we have developed good relationships with established retail outlets, we may not be able to sustain our existing retail relationships or expand our retail presence if we do not maintain strong sales or if we do not release new products to broaden our product line during 2001. If we are not successful in sustaining a strong national retail distribution channel, we may lose significant sales and our revenues may decline. We may not be able to reduce the cost of support per subscriber to acceptable levels, which could harm our business and operating results. Internet appliances are a new product category and our customers often have little or no experience with computers or the Internet. Accordingly, the cost of support per subscriber is high due to the need for significant telephone support to users. Although we are developing documentation, functions and features to promote ease of use, we may not be successful in reducing the need for significant telephone support. If our cost of support per subscriber does not decline significantly, we will not be able to deliver acceptable margins or profitability in the future. Rapid technological change could render our products and services obsolete, which would cause a decrease in our revenue. The Internet and the e-commerce industries are characterized by rapid technological innovation, sudden changes in user and customer requirements and preferences, frequent new product and service introductions and the emergence of new industry standards and practices. Each of these characteristics could render our services, products, intellectual property and systems obsolete. The rapid evolution of our market requires that we improve continually the performance, features and reliability of our products and services, particularly in response to competitive offerings. Our success also will depend, in part, on our ability: - To develop or license new products, services and technology that address the varied needs of our customers and prospective customers, and - To respond to technological advances and emerging industry standards and practices on a cost-effective and timely basis. If we are unable, for technical, financial, legal or other reasons, to adapt in a timely manner to changing market conditions or user preferences, we could lose customers, which would cause a decrease in our revenue. Any technological problems with our products will adversely affect market acceptance of those products and 16 17 could cause us to lose customers. Significant undetected errors or delays in new products or releases may affect market acceptance of our products and could have a material adverse effect on our business, results of operations or financial condition. We cannot assure you that, despite our testing, errors will not be found in new products or releases after commencement of commercial shipments, resulting in loss of market share or failure to achieve market acceptance. Any such occurrences could have a material adverse effect on our business, results of operations or financial condition. - If we were to experience delays in the commercialization and introduction of new or enhanced products, - If customers were to experience significant problems with products, or - If customers were dissatisfied with product functionality or performance, we could lose customers and market acceptance of our products would be adversely impacted. We may be unable to obtain additional capital needed to grow our business, which would adversely impact our business. We believe that our cash on hand and cash from operations may not be sufficient to satisfy our working capital and capital expenditure needs over the next 12 months and we may seek third party investment in calendar 2001 to provide additional working capital. We cannot be certain that financing from third parties will be available on acceptable terms to us or at all. In the event we obtain equity financing, existing stockholders will be diluted. - Our future capital requirements will depend upon several factors, including the rate of market acceptance of our products and services, our ability to expand our installed base and our level of expenditures for sales and marketing. If our capital requirements vary materially from those currently planned, we may require additional financing sooner than anticipated. - If we cannot raise funds on acceptable terms, we may not be able to develop our products and services, take advantage of future opportunities or respond to competitive pressures or unanticipated requirements, any of which could have a material adverse effect on our ability to grow our business. Our quarterly financial results fluctuate significantly and may fall short of anticipated results which could cause our stock price to decline and lead to securities litigation. We have experienced in the past, and may experience in the future, significant fluctuations in sales and operating results from quarter to quarter as a result of a variety of factors, including: - the timing of orders for our products; - the addition or loss of distribution channels or outlets; - the timing and market acceptance of new product introductions by us or our competitors; - changes in our product mix that may affect sales prices, margins or both; technological difficulties and resource constraints encountered in developing, testing and introducing new products; - disruption in sources of supply, manufacturing and product delivery; - changes in material costs; - regulatory changes; - general economic conditions; - competitive pressures, including reductions in average selling prices and resulting erosions of margins; - and other factors. Accordingly, our quarterly results are difficult to predict until the end of each particular quarter, and delays in product delivery or closing of expected sales near the end of a quarter can cause quarterly revenues and net income to fall significantly short of anticipated levels. Because of these factors, we believe that period-to-period comparisons of our results of operations are not necessarily meaningful and that you cannot rely on such comparisons as indications of future performance. Our future operating results will likely be 17 18 below the expectations of public market analysts and investors. In such event, the price of our common stock would likely be materially adversely affected and we could be subject to securities litigation. We are highly dependent on our key personnel to manage our business and because of competition for qualified personnel we may not be able to recruit or retain necessary personnel. Our continued growth and success depend to a significant extent on the continued services of our senior management and other key employees and our ability to attract and retain highly skilled technical, managerial, sales and marketing personnel experienced in the retail consumer channel and the Internet appliance business. Competition for such personnel is intense. We cannot assure you that we will be successful in continuously recruiting new personnel or in retaining existing personnel. None of our employees is subject to a long-term employment agreement. The loss of one or more key employees or our inability to attract additional qualified employees or retain other employees harm our business, results of operations and financial condition. In addition, we may experience increased compensation costs in order to attract and retain skilled employees. We may be required to pay up to $1 million to the purchaser of our Telco Business for breaches of our representations made in connection with the sale of that business. We have an obligation to indemnify the purchaser of our Telco Business for any losses from breaches of our representations or warranties that occur within one year after the closing date. Our indemnification obligations are limited by a $250,000 deductible and an overall cap of $1 million on the amount of the indemnification. Although we know of no breaches of our representations or warranties, if such indemnification obligations arise, the payment of the obligation will adversely impact our liquidity and working capital. If the purchaser of our Telco Business fails to make timely inventory and royalty payments our working capital and liquidity may be adversely affected. Under the terms of our agreement with the purchaser of our Telco Business, after the purchaser has sold inventory with a cost on our books at closing of $3.5 million, the purchaser is required monthly to pay us a cash payment equal to our cost of additional inventory sold by the purchaser (net of product returns). We will also be entitled to receive quarterly royalty payments for 48 months after closing based on revenues from sales of telephony products post-closing (including sales of future products derived from intellectual property transferred to the purchaser of our Telco Business). The royalty payments are based on a declining scale: 4% in year 1; 3% in year 2; 2% in year 3; and 1% in year 4. Sales by the purchaser of our Telco Business have been slower than expected due to the purchaser's inability to obtain financing on acceptable terms. If the purchaser of our Telco Business fails to make timely payment of inventory or royalty payments or if its sales do not achieve expected levels, then our liquidity and working capital may be adversely affected. We may not be able to protect intellectual property of our Internet appliance business against third-party claims of infringement. We have filed a patent application regarding our Mivo product line. We also rely on trade secret protection, copyrights, trademarks and contractual provisions to protect our proprietary rights. These protective measures will be adequate to protect our proprietary rights. We cannot assure you that others have not or will not independently develop or otherwise acquire equivalent or superior technology, or that we will not be required to obtain royalty-bearing licenses to use other intellectual property in order to utilize the inventions embodied in our patent. Our pending patent application may not be approved or, if approved, may not be issued with the scope of the claims we seek. Patents issued pursuant to such applications may be invalidated, circumvented or challenged. Moreover, the rights granted under any such patents may not provide competitive advantages to us or be adequate to safeguard and maintain our proprietary rights. If we are not able to procure for the Internet appliance business necessary third party intellectual property, 18 19 our operating results and financial condition may suffer. The Internet industry, like many technology-based industries, is characterized by frequent claims and litigation involving patent and other intellectual property rights. We may from time to time be notified by third parties that we may be infringing patents owned by or proprietary rights of third parties. We have in the past and may in the future have to seek a license under such patent or proprietary rights, or redesign or modify our products and processes in order to avoid infringement of such rights. We cannot assure you that such a license would be available on acceptable terms, if at all, or that we could avoid infringement of such patent or proprietary rights, in which case our business, financial condition and results of operations could be harmed. Additionally, litigation may be necessary to protect our proprietary rights. Any claims or litigation involving our intellectual property rights may be time consuming and costly, or cause product shipment delays, either of which could harm our business, financial condition and results of operations. If we are not able to manage and improve our information system and other components of our infrastructure, our results of operations and financial condition could suffer. Our future success will require, among other things, that we continue to improve our operating Internet services and information systems. In particular, we must seek to refine and improve our Internet service provider and mail hosting capabilities and systems in support of our Internet appliance services and products. Our failure to successfully manage and improve our operating, Internet services, and information systems could harm our ability to obtain and/or retain Internet appliance services subscribers and could cause our business, results of operations or financial condition to suffer. The price of our common stock may be volatile, which could lead to costly litigation and divert management's time and attention. The market price of our common stock has and may continue to fluctuate significantly. The market price of our common stock may fluctuate significantly in response to a number of factors, some of which are outside of our control, including: - announcements by us or our competitors of new products or product enhancements, - technological innovations by us or our competitors, - quarterly variations in our or our competitors' products and services, - changes in our revenue and revenue growth rates as a whole or for specific geographic areas, business units, products or product categories, - changes in earnings estimates by market analysts, - speculation in the press or analyst community and general market conditions or market conditions specific to the technology industry or the Internet appliance industry in particular. The stock prices for many companies in the technology sector have experienced wide fluctuations that often have been unrelated to their operating performance. Such fluctuations may adversely affect the market price of our common stock and could lead to securities litigation. Such litigation could result in substantial costs and divert management's time and attention, which could harm our results of operations or financial condition. Our stock may be delisted from the NASDAQ National Market. In connection with our listing on The NASDAQ National Market (NASDAQ) we must maintain compliance with several requirements related to the trading price of our stock, our financial condition and our periodic reporting with the Securities and Exchange Commission (SEC) among other issues. In the event that we are not able to comply with the NASDAQ requirements we may be delisted from the NASDAQ. On May 23, 2001, we received a notice from NASDAQ that our common stock would be delisted in connection with our failure to file our Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2001. Although we have subsequently become current in our SEC reporting obligations and therefore we do not expect to be delisted from NASDAQ for this issue, there is a possibility that NASDAQ will seek to delist our stock for other compliance issues including the failure of our stock to trade in excess of $1.00. A delisting may negatively impact the value of our stock as stocks trading on the over-the-counter market, which will most likely be where our stock will be traded, are typically less liquid and trade with larger variations between the 19 20 bid and ask price. The loss of our NASDAQ listing would most likely harm our business and its financial condition. 20 21 ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK The Company maintains an investment portfolio consisting mainly of fixed income securities with an average maturity of less than one year. These securities are subject to interest rate risk and will fall in value if market interest rates increase. The Company has the ability to hold its fixed income investment until maturity, and therefore it does not expect its operating results or cash flows to be affected to any significant degree by the effect of a sudden change in market interest rates. The Company also holds some equity investments which are protected from the impact of market risk. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS In the ordinary course of business, the Company may be involved in legal proceedings. As of the date hereof, the Company is not a party to any pending legal proceedings that it believes will materially affect its financial condition or results of operations. ITEM 2. CHANGES IN SECURITIES None. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. ITEM 5. OTHER INFORMATION None. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits See Index to Exhibits at page 19 below. (b) Reports on Form 8-K. On February 13, 2001, a report on Form 8-K was filed to comply with the requirements of regulation FD. On February 20, 2001, an amended Form 8-K was filed to incorporate by reference financial statements filed in the Registrant's definitive proxy statement filed on November 9, 2000. On March 8, 2001, an amended Form 8-K was filed to replace an exhibit of the Form 8-K filed on February 13, 2001. On March 21, 2001, a report on Form 8-K was filed to disclose Mr. Eiler's resignation from the Registrant's board of directors. 21 22 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. CIDCO INCORPORATED June 11, 2000 By: ------------- --------------------------- Date Paul G. Locklin President and Chief Executive Officer Chairman of the Board of Directors June 11, 2000 ------------- --------------------------- Date Richard D. Kent Chief Financial Officer, Chief Operations Officer, Chief Accounting Officer and Corporate Secretary 22 23 CIDCO INCORPORATED INDEX TO EXHIBITS

---------- (1) Incorporated herein by reference to the Company's registration statement on Form S-1, File No. 33-74114. (2) Incorporated herein by reference to the Company's Form 10-Q for the quarter ended March 31, 1997. (3) Incorporated herein by reference to the Company's Form 10-Q for the quarter ended June 30, 1997. (4) Incorporated herein by reference to the Company's Form 10-Q for the quarter ended September 30, 1998. (5) Incorporated herein by reference to the Company's Form 10-K for the year ended December 31, 1998. (6) Incorporated herein by reference to the Company's Form 10-Q for the quarter ended March 31, 1999. (7) Incorporated herein by reference to the Company's Form 10-K for the year ended December 31, 1999. 23 24 (8) Incorporated herein by reference to the Company's Form 8-K filed on December 14, 2000. (9) Incorporated herein by reference to the Company's Form 10-K for the year ended December 31, 2000. 24

CIDCO INC 10-Q