Item 1. Business.
Sequent Computer Systems, Inc. ("Sequent" or "the Company") is a provider of scalable data center ready open systems solutions for large organizations spanning diverse industries. Sequent designs, manufactures and markets high- performance symmetric multiprocessing (SMP) and CC-NUMA (Cache Coherent Non- Uniform Memory Access) computer systems and operating environment software. The Company's systems are widely used for large-scale on-line transaction processing (OLTP), applications in decision support systems (DSS) and data warehouses, for custom applications built upon relational database management systems (RDBMS), and as the central server in client-server architectures. Sequent's project-oriented offerings include a comprehensive portfolio of customer, professional and education services to solve complex Information Technology (IT) problems. The Company has an established set of partnerships with other software, hardware and services providers to deliver complete solutions to its customers.
The Company was incorporated in Delaware in January 1983 and was reincorporated in Oregon in December 1988. Unless the context otherwise requires, references in this Report on Form 10-K to the "Company" or "Sequent" refer to the prior Delaware corporation, the current Oregon corporation and its subsidiaries. The Company's principal executive offices are located at 15450 S.W. Koll Parkway, Beaverton, Oregon 97006, and its telephone number at that location is (503) 626-5700.
Market Overview
In the past decade, Sequent has developed the experience to guide large organizations through complex changes faced in moving to open systems. These changes include the renovation of business processes aligned with new information systems, maximizing benefits of SMP architectures and open systems, widespread use of relational database management system (RDBMS) applications and the substitution of OLTP for traditional batch processing. Since the launch of its SMP family of systems in 1984, Sequent has installed more than 8,000 SMP open systems worldwide.
Information Systems Renovation. Global economies and intense competitive pressures today prompt many companies to provide employees with access to data in order to increase responsiveness to customer needs. This need for access to data requires companies to re-engineer or redesign their business processes to take advantage of innovative open client/server architectures, systems and products. Sequent offers a focused collection of IT infrastructure consulting, education and implementation services. These services are geared to assess an organization's current systems, work with the customer's IT staff or their chosen systems integrator to design new systems that support business objectives, and to deliver and implement systems with a complete IT solution.
SMP Architectures. With dramatic improvement in the power and price/performance characteristics of processors and the proven ability of SMP architectures to incorporate multiple processors into a single large-scale system or group of systems, customers are increasingly employing SMP systems to meet their commercial computing needs. Sequent has thirteen years of success with SMP systems. The adoption of SMP architectures by other major computer systems providers ensures continued acceptance of SMP in the commercial marketplace.
NUMA-Q Architectures. For nearly a decade, SMP systems have been able to meet the demands for large-scale OLTP, DSS and business communications implementations. However, the architecture of these systems can limit performance beyond a certain number of processors. All of the processors in an SMP system are connected to each other and to memory and I/O by a single bus. The bandwidth of the bus imposes limits on processing scalability, a significant penalty with the dramatically rising level of processor performance. This limitation has prevented SMP nodes from increasing much beyond 32 processors. As a result, Sequent realized that a new SMP architecture was required: NUMA-Q. NUMA-Q is the first CC-NUMA architecture for large-scale systems available to the commercial marketplace. Sequent began shipment of NUMA-Q during the fourth quarter of 1996.
Open Systems. Historically, large organizations have relied upon computing equipment based upon a single vendor's proprietary technology that was generally incompatible with that of other vendors. In recent years, proprietary systems have become increasingly unacceptable to companies that want the flexibility to purchase computing equipment and software best suited for a specific need without being constrained by the technology employed by a specific vendor. Proprietary systems also make it difficult for the PC user to access information and applications from the central computer. An open system, by contrast, incorporates industry standard technology and permits users to integrate computer equipment and software offered by different vendors. An open systems environment also facilitates offloading applications from the central computer to a less expensive department, desktop or special- purpose computer. Many companies are replacing some or all of their proprietary central computing systems, moving to a more open, distributed system when they upgrade or expand their systems.
RDBMS and OLTP. RDBMS is the primary vehicle for managing information in large organizations. RDBMS systems are also used to support OLTP, which is increasingly replacing traditional batch processing of historical data in businesses with centralized information needs and distributed operations. The OLTP market includes any systems that support the day-to-day operational processes of a corporation. The market demand for OLTP computing systems, particularly those using RDBMS technology, spans a wide variety of industries and applications and has increased dramatically as more businesses require instantaneous processing of information.
Rapid Growth in Desktop and Network Computing. In recent years, companies have increasingly sought to improve the efficiency of their computing systems by integrating PCs with centralized computing resources to enable enterprise-wide communication, distributed processing and instantaneous access to enterprise information (database) and computing services (applications software). Recently market introductions include "Thin Clients" or "Network Clients" which are lightweight desktop devices with little innate computing capability and no magnetic storage. The use of such devices as an alternative for PCs or ASCII terminals is expected to increase demand for larger back-end servers similar to those offered by Sequent.
Sequent's Strategy
Sequent's strategy is to integrate the best technologies from across the industry in order to deliver scalable data center ready open systems solutions, including a comprehensive portfolio of migration services and offerings. With the Company's new NUMA-Q architecture and an established set of partnerships with industry-leading technology vendors, Sequent's systems enable implementation of complex business applications that support customers' critical needs.
Migration to Open Systems. Sequent concentrates on understanding the business objectives and IT needs of the customer at all organizational levels. The Company then works closely with the customer and suppliers of key technology components to design an open, integrated solution to meet the customer's computing needs. The Company seeks to add value for the customer by teaming with them, or their designated systems integrator, to design an integrated system that directly supports the customer's business objectives and conforms to a sound architectural infrastructure including processing and data storage hardware, system software, applications and data center management services. The Company focuses on large-scale organizations that have data center based information systems and are committed to migrating from a proprietary system environment to open systems.
Leading-Edge Technologies. Sequent's NUMA-Q systems, recognized as the industry's leading large-scale CC-NUMA platforms for the commercial marketplace, provide exceptional price/performance and scalability for RDBMS, core business and client/server applications. The performance benefits of NUMA-based architectures, compared to standard SMP and single processor systems, are especially pronounced in transaction-intensive and decision support applications. Sequent's NUMA-Q systems currently use Intel Pentium Pro processors and have been designed to incorporate up to 252 processors in a single node. Sequent intends to maintain its leadership position in NUMA-Q systems, including upgrading to new Intel processor generations as they become available.
Commitment to Open Systems. Sequent's open system architecture leverages industry standards whenever possible, including the use of Intel processors, the UNIX and Windows NT operating systems, and standard network and communications interfaces. Sequent systems are designed to operate in a multi- vendor heterogeneous environment and support a wide variety of third-party software, including open RDBMSs, packaged applications, and decision support tools and applications.
"Partnering" with Leading Vendors. Sequent devotes substantial resources to strategic marketing and product development relationships with those companies it believes offer the best open systems technologies. Sequent has relationships with industry-leading systems management and tools vendors, such as Tivoli, Computer Associates, BMC and Hewlett Packard, in order to deliver a computing environment ready to run in customers' data centers. The Company also has relationships with major providers of RDBMS software, including Oracle Corporation, Informix Software Inc., and Computer Associates. Sequent also has strategic relationships with Intel for joint research and development of future computer hardware "building blocks"; with suppliers of other major operating systems, such as Microsoft for Windows NT; with major suppliers of communications and network software, including Novell; with emerging suppliers of client/server application development products such as Forte Software, Inc.; and with suppliers of third-party applications software such as Oracle, PeopleSoft, Baan and SAP.
Platform Overview
Business automation and systems integration applications require extensive amounts of computing power, memory and disk storage throughput. Sequent systems are designed for customers with extensive computing requirements. Sequent products are based on industry standards and are designed to easily combine with other computing hardware in an open systems environment. Sequent systems enable customers to implement cost-effective computing, to automate business functions and to integrate enterprise-wide computing operations.
The Company's Symmetry systems, which start at two processors, are currently based on Intel Pentium processors and offer high levels of transaction processing and decision support performance. The Company's NUMA-Q systems, which start at four processors and are based on Intel Pentium Pro processors, have shown performance and scalability capabilities expanded beyond the limitations of current single-bus SMP architecture.
Sequent's processor-independent architecture allows the Company to incorporate technological advances in its product offerings more quickly and inexpensively than manufacturers of computer systems with proprietary central processing units. The Company's ongoing product development efforts leverage advances in open systems technology, including processor enhancements, storage technology, communications and user-interface enhancements. These enhancements directly benefit customers who can upgrade their installed Sequent systems without altering source programs, retraining users or replacing hardware and software not directly affected by the upgrade. The new NUMA-Q systems (NUMA-Q 2000) are binary compatible with Sequent's previous generation of systems, the Symmetry 5000. Future processors will be offered for the NUMA-Q systems and will be binary compatible and function in the same systems as the current generation of processors.
Sequent's Symmetry and NUMA-Q systems are based on an open system architecture that incorporates industry standards such as those in the UNIX operating system. DYNIX/ptx, Sequent's version of UNIX, enhanced for SMP in the commercial marketplace, allows Sequent systems to provide nearly linear improvements in incremental performance as processors are added. DYNIX/ptx provides Sequent customers access to a growing array of UNIX software applications. Sequent Symmetry and NUMA-Q systems used in network and client/server applications link PCs and department level and central computers to deliver applications and information to desktop PCs through network and PC interfaces, allowing users access to extensive processing power and information.
The Company's low-end and mid-range NT systems, which run Microsoft Windows NT operating system, are based on Intel Pentium processors. The Windows NT-based systems provide database and application services for workgroup, departmental and enterprise-level computing requirements.
Operating Systems. The Company is committed to support both the UNIX operating system and the emerging Windows NT system, which the Company believes will be the two major operating systems for open, enterprise-wide computing. The Company's continuing leadership in the development of UNIX- based SMP systems has been acknowledged by the industry's leading developers of commercial UNIX systems software.
The Company continues to enhance the DYNIX/ptx operating system, currently as DYNIX/ptx 4.3 adding features to operate in mission critical environments. The Company is currently developing DYNIX/ptx Version 4.4, which will be available in the second quarter of 1997. These features include increased scalability and improved systems management and will support highly available systems and clusters.
The Company has had ongoing technical discussions with Microsoft and other partners to extend the scalability, reliability and manageability of the Windows NT operating system and applications.
Partnering with Leading Vendors
Relational Database Management Software. Sequent has strategic marketing and development relationships with major independent providers of RDBMS software, including Oracle Corporation, Informix Software, Inc. and Computer Associates. Sequent's SMP architecture is designed to maximize the performance and scalability requirements for managing extensive amounts of computing power required by OLTP applications in conjunction with RDBMS software. In addition, this same technology, coupled with the emerging capabilities provided by Sequent's RDBMS partners, strengthens the decision support performance required by large-scale enterprises today. Sequent has chosen to run its partners' software in support of its own enterprise needs. Sequent and these strategic partners join forces in joint development programs, joint marketing programs, and sales teaming efforts. The result is an exchange of technical personnel, dedicated marketing expertise and a highly trained sales organization to help sell the Company's and its partners' combined solutions.
Client/Server Application Software. Sequent maintains strategic relationships with key software providers to assure the availability and maximum performance of pivotal software products on the Sequent platform. Sequent offers packaged and custom applications.
Packaged Applications: Packaged software applications provide a standard pre-engineered solution for a common set of functional business problems. Packaged applications offer the potential to trim the total cost of a solution, reduce the time required for implementation, and lower overall project risk. Sequent maintains a number of strategic relationships with software partners who provide products in this area including Oracle, PeopleSoft, Baan and SAP.
Custom Software Applications: Custom software applications are developed using a variety of tools provided by software partners. The applications are used in building custom solutions in situations where packaged applications do not meet business requirements or where customers desire to build systems for a competitive edge. Sequent maintains a number of strategic relationships with software partners who provide products in this area including Oracle, Informix and Forte.
Communications Products. The Company's systems support communications products which allow Symmetry and NUMA-Q systems to interconnect in a multivendor systems environment. These products include hardware which connect to wide and local area networks of different media and software which supports protocols for open and proprietary systems.
Sequent's communications products are differentiated by Parallel STREAMS Architecture which utilizes SMP architecture to produce high performance and scalable communications. Parallel STREAMS are used for both low level communications media software to drive Ethernet, Token Ring, fiber distributed data interface ("FDDI") and synchronous lines as well as high level protocols.
In addition to open systems communications using protocols such as TCP/IP, Open Systems Interconnections ("OSI") and X.25, Sequent communicates directly with IBM and DEC systems via Systems Network Architecture ("SNA") or DECnet/LAT protocols, respectively. The Company interfaces with many other vendors utilizing these same protocols.
Sequent offers several high speed communications connections on the NUMA- Q systems. These include 100 Megabit-per-second Ethernet, CDDI (a copper wire version of FDDI), ATM, and high speed Synchronous E1/T1 which offer an order of magnitude increase to the bandwidth of previous offerings.
Third-Party Applications Programs. The rapidly expanding universe of applications software can be easily ported to Sequent's UNIX-based Symmetry and NUMA-Q multiprocessing systems. The Company recognizes that applications software is a critical element in providing solutions to the enterprise and maintains marketing programs to promote the development and support of third- party applications software packages for the Company's systems. Currently, over 650 software application modules from approximately 300 vendors are available to Sequent users. The software products offered drive core business applications in transaction-intensive, decision support, database technologies and development environments. The software packages available address the needs of many different vertical markets, including manufacturing, telecommunications, health care, financial services and state and local governments. To supplement the marketing efforts of the third-party suppliers, the Company actively promotes these software partners to end users through joint sales campaigns, demonstrations at its sales offices and trade shows, marketing collateral, and joint marketing programs.
In addition, Sequent's NT systems support the thousands of software applications developed by third-party companies for the Microsoft Windows NT operating system.
Sales and Distribution
The Company sells its products and services through worldwide direct and indirect distribution channels. The primary sales channel in North America and Europe is through the direct sales force, increasingly in partnership with major systems integrators, while sales channels in Asia and the rest of the world are primarily through distributors. The Company has 59 sales offices worldwide, including 33 in North America and 14 in Europe. Indirect sales channels utilized by the Company include value-added resellers, original equipment manufacturers ("OEMs"), and foreign distributors.
As is common in the computer industry, a significant portion of orders is generally received and shipped in the last month of a fiscal quarter. As a result, the Company's product backlog is relatively small, is not necessarily indicative of sales levels for future periods and is not material to understanding the Company's business.
The Company had no single customer that represented greater than 10% of total revenues in 1996, 1995 or 1994. International sales were approximately 55% of the Company's total revenues in 1996 and 1995 and 48% in 1994.
Competition
The computer industry is intensely competitive and characterized by rapid technological advances resulting in frequent new product introductions and improvements in performance. Competitive factors include product quality and reliability, professional services capability, architectural fit, relative price/performance, ease of understanding and operation of the system, capability of the operating system software, availability of applications software, marketing capability, service and support, name recognition, and corporate reputation and longevity.
Within the commercial segment of the general purpose computing market, Sequent competes against, among others, the major computer manufacturers including Hewlett-Packard, DEC, IBM and SUN. The size, reputation, installed base and distribution strength of these companies make them significant competitors. Sequent's Professional Services organization is closely aligned to its systems business. Accordingly, it competes against the professional services organizations of its rival computer manufacturers, including, among others, SUN, Hewlett-Packard, DEC and IBM. Sequent's Professional Services organization also competes to a lesser degree with small, localized consulting firms who offer tactical help in the areas of systems administration, database design and administration and other design services. Although some of these competitors have financial, marketing, distribution and technical resources which significantly exceed those of the Company, the Company believes that it can compete favorably in the open systems marketplace based on its technological advancements, professional services expertise, price/performance and value to the customer.
Product Development
The Company's research and development programs are continually focused on advancing hardware and software technologies. Sequent not only leverages the availability of processor technology from Intel, but also leverages systems management and backup/restore software products supplied by open systems vendors. Sequent adds high-end capabilities to these products to better satisfy customer needs.
In December of 1996, Sequent successfully introduced systems based on its new Cache Coherent Non-Uniform Memory Access (CC-NUMA) architecture. Sequent's CC-NUMA architecture (NUMA-Q) condenses four Intel Pentium Pro processors, memory and input/output ports into a single building block for increased performance and reliability. These four-processor "quads" interconnect with the Company's IQ-Link technology which allows a large number of quads to become a distributed shared memory SMP system. As with previous designs, the performance will scale nearly linearly as quads are added to a system. Sequent's NUMA-Q systems are expected to be both software compatible and clustered systems compatible with Sequent's existing Symmetry product line in the second quarter of 1997. Sequent will continue to enhance the NUMA-Q product line to best meet market needs.
The Company's software development program is focused on improving the performance of its parallel-enabled operating system, providing highly available clustering software, and enhancing its suite of communications, network and client/server and third-party applications software. The Company intends to continue making substantial investments in research and development activities to maintain and enhance its competitive position in a market characterized by rapid technological advances.
Professional Services and Product Support
Sequent offers a wide range of professional services to ensure that every phase of a customer's project, from advance planning and architecture to technology deployment and ongoing systems support, is successful. Professional services include: IT architecture and transition planning; DSS design and implementation; packaged OLTP installation and implementation (such as Oracle Financials & Manufacturing, SAP, Baan, and PeopleSoft applications); and enterprise management design and systems administration. The Company's Professional Services group uses leading edge knowledge to deliver enterprise- wide system solutions designed to meet customers' business requirements. In addition, Sequent offers customers a comprehensive set of education and training programs.
Sequent's Professional Services business is positioned to support traditional management consultants that perform business process analysis and re-engineering, such as Nola, Norton & Co., and McKinsey & Co., with Sequent's technical system integration skills. The Company also teams with major systems integration companies and "Big 6" consulting firms such as Electronic Data Systems Corp., Ernst & Young, and KPMG when developing IT solutions for large and complex system projects. Both management consultants and technical system integration consultants are strategic components of the Company's success in delivery of services to its customers.
The Company also offers an array of customer service and support programs, including hardware maintenance and service, software service and upgrades and documentation support. In addition, hardware maintenance is offered for many third-party peripheral products connected to the Sequent system. The Company maintains a 24-hour toll-free telephone line for technical consultation as well as remote log-in capability for diagnosing customer hardware and software problems. In some cases, in-field hardware service is contracted to third-party suppliers, which rely on Sequent for customer interface and diagnostic support. The Company's standard warranty on its products generally extends 90 days from the date of customer installation.
The Company believes that the quality and reliability of its computer systems are important to customer satisfaction. Sequent's systems have proven their high quality and reliability. High system uptime is a built-in advantage of Sequent's architecture. Sequent personnel perform all installations and hardware fault isolation and provide complete software support for direct customers. Sequent systems are equipped with diagnostic tools that allow the Company's service engineers to identify, diagnose and repair a failed component from remote locations. Replacement modules can be provided quickly to restore the system to full capacity. The Company also offers service and support programs in system performance evaluation and disaster protection.
Revenue generated from services and support was 30%, 27% and 24% of total revenue during 1996, 1995 and 1994, respectively.
Manufacturing
The Company's manufacturing operations consist of procurement, assembly, test and quality control. Subcontractors are often used to assemble and test subassemblies, such as printed circuit boards. The modular nature of the Company's products, together with the standards-based open architecture, permit ease of manufacture and system configuration. Once integrated, all systems go through a fully operational, continuous burn-in cycle while executing rigorous system stress and diagnostic tests. Final assembly and testing occur only when a specific customer order is due for shipment (because of the broad range of system configurations possible from a relatively few basic modules and the many choices of peripherals). If a failure occurs or a problem of unknown origin arises during work-in-progress testing, it is the policy of the Company to halt shipment of products which may be affected while the Company isolates and corrects the problem and determines whether the problem may extend to other systems in manufacturing or at customer sites. Such interruptions could cause fluctuations in quarterly results.
The Company generally obtains most parts and components from one vendor, even where multiple sources are available, to maintain quality control and enhance the working relationship with suppliers. These relationships include joint engineering programs for new product development. The Company attempts to reduce the risk of supply interruption through close supplier relationships and greater inventory positions in certain sole-sourced components. The failure of a supplier to deliver on schedule could delay or interrupt the Company's delivery of products and thereby adversely affect the Company's revenue and profits.
Patents and Licenses
Four U.S. and three United Kingdom patents have been issued to the Company. The Company has filed ten additional U.S. patent applications and two foreign applications covering technology incorporated into its products, which are still pending. The Company believes that the rapid pace of technological change in the computer industry makes patent protection less significant than factors such as its continued focus and efforts in research and product development, its technical expertise and the management ability of its personnel. The Company has been made aware of others in the industry who assert exclusive rights to certain technologies, copyrights or trademarks, usually in the form of an offer to license certain rights for a fee or royalties. The Company's policy is to evaluate such claims on a case-by-case basis. The Company may seek to enter into licensing agreements with companies having or asserting rights to technologies if the Company concludes that such licensing arrangements are necessary or desirable. There can be no assurance that the Company will be able to obtain such licenses or, if obtained, that such licenses will be on favorable terms.
Employees
At December 28, 1996 the Company employed approximately 2,656 employees of whom approximately 268 were employed as sales executives, 1,459 in sales support, marketing and service, 466 in product development, 159 in manufacturing and 304 in administrative and support services. The Company's continued success will depend in part on its ability to attract and retain highly skilled and motivated personnel who are in great demand throughout the industry. None of the Company's employees is represented by a labor union. All full-time Sequent employees are granted options to acquire Common Stock of the Company. Sequent believes that its employee relations are excellent and believes that its stock incentive plans, its challenging work environment and the opportunities for advancement within the Company are key factors to its ability to attract and retain qualified personnel.
Trademarks
Sequent, Symmetry, WinServer and DYNIX/ptx are registered trademarks and Parallel STREAMS, NUMA-Q and IQ-Link are trademarks of Sequent Computer Systems, Inc. This Report on Form 10-K also refers to trademarks held by other corporations.
Forward-Looking Statements
Information in this Report on Form 10-K that is not historical information, including information regarding product development schedules, constitutes forward-looking statements that involve a number of risks and uncertainties. Additional forward-looking statements may be made by the Company from time to time. The following factors are among the factors that could cause actual results to differ materially from the forward-looking statements: timely completion of product development and customer acceptance of the Company's NUMA-Q product line; business conditions and growth in the electronics industry and general economies, both domestic and international; lower than expected customer orders, delays in receipt of orders or cancellation of orders; competitive factors, including increased competition, new product offerings by competitors and price pressures; the availability of third party parts and supplies at reasonable prices; changes in product mix and the mix between product and service revenue; significant quarterly performance fluctuations due to the receipt of a significant portion of customer orders and product shipments in the last month of each quarter; and product shipment interruptions due to manufacturing problems. Any forward- looking statements should be considered in light of these factors.
Item 2.
Item 2. Properties.
The Company's headquarters and its product development and manufacturing operations are located in facilities totaling approximately 560,000 square feet in Beaverton, Oregon, 10 miles west of Portland. The Company occupies these facilities under leases which expire from 1999 to 2006. On the expiration dates of these leases, the Company generally has the option of purchasing the leased facilities at fair market value or renewing the leases for an additional five years. In addition, the Company owns 38.12 acres of undeveloped land in Beaverton held in anticipation of future facility growth requirements. The Company also leases for sales, marketing and customer support offices in locations throughout the United States, Europe, Canada and Asia Pacific. The Company anticipates that it will continue to expand its corporate and field facilities as business growth warrants.
Item 3.
Item 3. Legal Proceedings.
Not applicable.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders.
There are no material pending legal proceedings involving the Company.
Item 4(a). Executive Officers of the Registrant.
Name Age Position
Karl C. Powell, Jr. 53 Chairman and Chief Executive Officer, Director John McAdam 46 President and Chief Operating Officer, Director Robert S. Gregg 43 Sr. Vice President of Finance and Legal and Chief Financial Officer Steve Chen 53 Executive Vice President of Product Group and Chief Technology Officer, Director Andre Dahan 48 Sr. Vice President of World Wide Field Operations and Marketing
Mr. Powell, a co-founder of the Company, is Chairman and Chief Executive Officer, and has been a director since 1983. Mr. Powell has served as the Company's sole Chief Executive Officer or shared the Office of the Chief Executive with the co-founder of the Company since the Company's inception. From 1974 to 1983, Mr. Powell was employed by Intel Corporation, where his most recent position was General Manager for Microprocessor Operations. Mr. Powell served on the National Board of Directors of the American Electronics Association from 1985 to 1986. He holds a B.S. degree in mechanical engineering from the US Merchant Marine Academy.
Mr. McAdam joined the Company in August 1989 as U.K. Sales Director. He became U.K. General Manager in January 1991, Vice President and General Manager of European Operations in October 1992, and Senior Vice President of European and Asian Operations in January 1994. He was promoted to President and Chief Operating Officer in February 1995, and was elected to the Board of Directors in November 1995. Prior to joining the Company Mr. McAdam was employed for 10 years by Data General U.K. Ltd., serving most recently as Regional Manager, Public Sector, Finance and Government Market. Mr. McAdam holds a B.Sc. first class honors degree in Computer Sciences from Glasgow University.
Mr. Gregg joined the Company in 1983 as its Controller. He became Director of Finance in 1984 and Vice President of Finance and Chief Financial Officer in March 1986. He was promoted to Senior Vice President of Finance & Legal and Chief Financial Officer in February 1995. Prior to joining the Company, Mr. Gregg spent eight years at the public accounting firm of Price Waterhouse LLP. Mr. Gregg holds a B.S. degree in business and accounting from the University of Oregon.
Dr. Chen joined the Company in 1996 as its Executive Vice President of Product Group and Chief Technology Officer and as a member of the Board of Directors. Prior to joining the Company, Dr. Chen was a co-founder of SuperComputer International (SCI), later renamed Chen Systems, which was recently acquired by Sequent. Prior to founding SCI, Dr. Chen was President and CEO of Supercomputer Systems, Inc. (SSI). Previous to this, Dr. Chen was employed for eight years at Cray Research, Inc., serving most recently as Senior Vice President. Dr. Chen holds a Ph.D. in computing science from the University of Illinois, a M.S. degree in electrical engineering from Villanova University and a B.S. degree in electrical engineering from the National Taiwan University.
Mr. Dahan joined the Company in 1996 as its Vice President of World Wide Marketing and was then promoted to Senior Vice President of World Wide Field Operations. Prior to joining the Company, Mr. Dahan was employed as the Vice President of Marketing of AT&T's Global Information Solutions division. Mr. Dahan holds a B.S. degree in computer science from Jerusalem Institute of Technology.
PART II
Item 5.
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters. The information required by this item is included under "Market Information (unaudited)" in the Company's 1996 Annual Report to Shareholders and is incorporated herein by reference.
Item 6.
Item 6. Selected Financial Data. Information with respect to selected financial data is included under "Selected Financial Data" in the Company's 1996 Annual Report to Shareholders and is incorporated herein by reference.
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Information with respect to management's discussion and analysis of financial condition and results of operations is included under "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the Company's 1996 Annual Report to Shareholders and is incorporated herein by reference.
Item 8.
Item 8. Financial Statements and Supplementary Data. Information with respect to selected quarterly financial data is included under "Quarterly Financial Data (unaudited)" in the Company's 1996 Annual Report to Shareholders and is incorporated herein by reference. The other information required by this item is included under "Consolidated Financial Statements" and "Notes to Consolidated Financial Statements" as listed in item 14 of this report and in the Company's 1996 Annual Report to Shareholders which is incorporated herein by reference.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. Not applicable.
PART III
Item 10.
Item 10. Directors and Executive Officers of the Registrant. Information with respect to directors of the Company will be included under "Election of Directors" in the Company's Proxy Statement for its 1997 Annual Meeting of Shareholders and is incorporated herein by reference. Information with respect to executive officers of the Company is included under Item 4(a) of Part I of this Report.
Item 11.
Item 11. Executive Compensation. Information with respect to executive compensation will be included under "Summary Compensation Table", "Stock Option Grants in Last Fiscal Year", "Stock Option Exercises in Last Fiscal Year and Fiscal Year End Option Values", "Repricing of Stock Options" under "Executive Compensation," and "Certain Transactions" in the Company's Proxy Statement for its 1997 Annual Meeting of Shareholders and is incorporated herein by reference.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management. Information with respect to security ownership of certain beneficial owners and management will be included under "Voting Securities and Principal Shareholders" and "Election of Directors" in the Company's Proxy Statement for its 1997 Annual Meeting of Shareholders and is incorporated herein by reference.
Item 13.
Item 13. Certain Relationships and Related Transactions. Information with respect to transactions with management will be included under "Certain Transactions" in the Company's Proxy Statement for its 1997 Annual Meeting of Shareholders and is incorporated herein by reference.
PART IV
Item 14.
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.
(a)(1) Financial Statements.
The following financial statements are included in the Company's 1996 Annual Report to Shareholders:
Sequent Computer Systems, Inc. and Subsidiaries:
Consolidated Statements of Operations - Fiscal Years Ended December 28, 1996, December 30, 1995 and December 31, 1994
Consolidated Balance Sheets - December 28, 1996 and December 30, 1995
Consolidated Statements of Shareholders' Equity - Fiscal Years Ended December 28, 1996, December 30, 1995 and December 31, 1994
Consolidated Statements of Cash Flows - Fiscal Years Ended December 28, 1996, December 30, 1995 and December 31, 1994
Notes to Consolidated Financial Statements
Report of Independent Accountants
(a)(2) Financial Statement Schedules.
The following schedules and report of independent accountants are filed herewith:
Page in this report on Form 10-K
Schedule V Property and Equipment
Schedule VI Accumulated Depreciation and Amortization of Property and Equipment
Schedule VIII Valuation and Qualifying Accounts
Schedule IX Short-term Borrowings
Schedule X Supplementary Income Statement Information
Report of Independent Accountants on Financial Statement Schedules
All other schedules are omitted as the required information is inapplicable or is presented in the financial statements or related notes thereto.
(a)(3) Exhibits.
Exhibit Number Description
3.1 Articles of Incorporation, as amended, and Articles of Merger of Sequent Computer Systems, Inc. (the "Company"). (Incorporated by reference to Exhibit 4A to the Company's Registration Statement on Form S-8 (file no. 33-63972).)
3.2 Bylaws, as amended, of the Company. (Incorporated by reference to Exhibit 4B to the Company's Registration Statement on Form S-8 (file no. 33-39315).)
4.1 Note Purchase Agreement dated April 10, 1992 regarding 7.5% Convertible Subordinated Notes due March 31, 2000, between the Company and a group of institutional investors. (Incorporated by reference to Exhibit 19 to the Company's Quarterly Report on Form 10-Q for the quarter ended March 28, 1992).
Pursuant to Item 601(b)(4)(iii) of Regulation S-K, the Company agrees to furnish any other long term debt agreements to the Commission upon request.
10.1A Amended and Restated Lease Agreement between KC Woodside and the Company, as amended, dated May 8, 1987 ("First Building Lease"), and related agreements. (Incorporated by reference to Exhibit 19.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended July 4, 1987 (file no. 0-15627).)
10.1B Second Amendment to First Building Lease, dated July 28, 1988. (Incorporated by reference to Exhibit 10.3B to the Company's Annual Report on Form 10-K for the fiscal year ended December 30, 1989 (file no. 0-15627).)
10.1C Third Amendment to First Building Lease dated July 28, 1989. (Incorporated by reference to Exhibit 10.3C to the Company's Annual Report on Form 10-K for the fiscal year ended December 30, 1989 (file no. 0-15627).)
10.1D Fourth Amendment to First Building Lease dated September 20, 1991. (Incorporated by reference to Exhibit 10.1D to the Company's Annual Report on Form 10-K for the fiscal year ended December 28, 1991 (file no. 0-15627).)
10.1E Fifth Amendment to First Building Lease dated December 2, 1992. (Incorporated by reference to Exhibit 10.1E to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1F Sixth Amendment to First Building Lease dated April 5, 1993. (Incorporated by reference to Exhibit 10.1F to the Company's Annual Report on Form 10-K for the fiscal year ended January 1, 1994 (file no. 0-15627).)
10.1G Lease Agreement between KC Woodside and the Company, dated May 8, 1987 ("Second Building Lease"). (Incorporated by reference to Exhibit 19.2 to the Company's Quarterly Report on Form 10-Q for the quarter ended July 4, 1987 (file no. 0-15627).)
10.1H First Amendment to Second Building Lease, dated July 28, 1988. (Incorporated by reference to Exhibit 10.3E to the Company's Annual Report on Form 10-K for the fiscal year ended December 30, 1989 (file no. 0-15627).)
10.1I Second Amendment to Second Building Lease dated September 13, 1991. (Incorporated by reference to Exhibit 10.1G to the Company's Annual Report on Form 10-K for the fiscal year ended December 28, 1991 (file no. 0- 15627).)
10.1J Third Amendment to Second Building Lease, dated December 2, 1992. (Incorporated by reference to Exhibit 10.1L to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1K Fourth Amendment to Second Building Lease, dated April 5, 1993. (Incorporated by reference to Exhibit 10.1K to the Company's Annual Report on Form 10-K for the fiscal year ended January 1, 1994 (file no. 0-15627).)
10.1L Lease Agreement, dated July 28, 1988 between KC Woodside and the Company ("Third Building Lease"). (Incorporated by reference to Exhibit 10.3F to the Company's Annual Report on Form 10-K for the fiscal year ended December 30, 1989 (file no. 0-15627).)
10.1M First Amendment to Third Building Lease, dated July 28, 1989. (Incorporated by reference to Exhibit 10.3G to the Company's Annual Report on Form 10-K for the fiscal year ended December 30, 1989 (file no. 0-15627).)
10.1N Second Amendment to Third Building Lease dated September 13, 1991. (Incorporated by reference to Exhibit 10.1J to the Company's Annual Report on Form 10-K for the fiscal year ended December 28, 1991 (file no. 0- 15627).)
10.1O Third Amendment to Third Building Lease, dated December 2, 1992. (Incorporated by reference to Exhibit 10.1M to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1P Fourth Amendment to Third Building Lease, dated April 5, 1993. (Incorporated by reference to Exhibit 10.1P to the Company's Annual Report on Form 10-K for the fiscal year ended January 1, 1994 (file no. 0-15627).)
10.1Q Lease Agreement, dated July 28, 1989 between KC Woodside and the Company ("Fourth Building Lease"). (Incorporated by reference to Exhibit 10.3H to the Company's Annual Report on Form 10-K for the fiscal year ended December 30, 1989 (file no. 0-15627).)
10.1R First Amendment to Fourth Building Lease dated September 13, 1991. (Incorporated by reference to Exhibit 10.1P to the Company's Annual Report on Form 10-K for the fiscal year ended December 28, 1991 (file no. 0- 15627).)
10.1S Second Amendment to Fourth Building Lease dated August 13, 1992. (Incorporated by reference to Exhibit 10.1P to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1T Third Amendment to Fourth Building Lease dated December 2, 1992. (Incorporated by reference to Exhibit 10.1Q to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1U Fourth Amendment to Fourth Building Lease dated April 5, 1993. (Incorporated by reference to Exhibit 10.1U to the Company's Annual Report on Form 10-K for fiscal year ended January 1, 1994 (file no. 0-15627).)
10.1V Triple Net Lease dated July 9, 1990 between KC Woodside and the Company ("Fifth Building Lease"). (Incorporated by reference to Exhibit 19 to the Company's Quarterly Report on Form 10-Q for the quarter ended September 29, 1990 (file no. 0-15627).)
10.1W First Amendment to Fifth Building Lease dated April 29, 1991. (Incorporated by reference to Exhibit 10.1N to the Company's Annual Report on Form 10-K for the fiscal year ended December 28, 1991 (file no. 0-15627).)
10.1X Second Amendment to Fifth Building Lease dated April 29, 1991. (Incorporated by reference to Exhibit 10.1O to the Company's Annual Report on Form 10-K for the fiscal year ended December 28, 1991 (file no. 0-15627).)
10.1Y Third Amendment to Fifth Building Lease dated June 10, 1991. (Incorporated by reference to Exhibit 10.1P to the Company's Annual Report on Form 10-K for the fiscal year ended December 28, 1991 (file no. 0-15627).)
10.1Z Fourth Amendment to the Fifth Building Lease dated July 3, 1991. (Incorporated by reference to Exhibit 10.1Q to the Company's Annual Report on Form 10-K for the fiscal year ended December 28, 1991 (file no. 0-15627).)
10.1aa Fifth Amendment to Fifth Building Lease dated September 13, 1991. (Incorporated by reference to Exhibit 10.1R to the Company's Annual Report on Form 10-K for the fiscal year ended December 28, 1991 (file no. 0- 15627).)
10.1bb Sixth Amendment to Fifth Building Lease dated December 2, 1992. (Incorporated by reference to Exhibit 10.1X to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1cc Seventh Amendment to Fifth Building Lease dated April 5, 1993. (Incorporated by reference to Exhibit 10.1cc to the Company's Annual Report on Form 10-K for fiscal year ended January 1, 1994 (file no. 0-15627).)
10.1dd Lease Agreement between KC Woodside and the Company, dated June 10, 1991 (Umpqua). (Incorporated by reference to Exhibit 10.1Y to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0- 15627).)
10.1ee Lease Agreement between KC Woodside and the Company, dated June 10, 1991 (Charles). (Incorporated by reference to Exhibit 10.1Z to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1ff First Amendment to Lease, dated October 31, 1991 (Charles). (Incorporated by reference to Exhibit 10.1aa to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1gg Second Amendment to Lease, dated May 6, 1992 (Charles). (Incorporated by reference to Exhibit 10.1bb to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1hh Third Amendment to Lease, dated January 8, 1993 (Charles). (Incorporated by reference to Exhibit 10.1cc to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1jj Lease Agreement between KC Woodside and the Company, dated June 10, 1991 (S. Platte). (Incorporated by reference to Exhibit 10.1dd to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1kk First Amendment to Lease, dated May 12, 1992 (Guadalupe). (Incorporated by reference to Exhibit 10.1ff to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1ll Business park Lease between KC Woodside and the Company, dated June 10, 1991 (Hillsborough). (Incorporated by reference to Exhibit 10.1gg to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1mm Fourth Amendment to Lease, dated July 21, 1995 (Charles). (Incorporated by reference to Exhibit 10.1dd to the Company's Annual Report on 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1nn First Amendment to Lease, dated July 21, 1995 (South Platte). (Incorporated by reference to Exhibit 10.1ee to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1oo Second Amendment to Lease, dated July 21, 1995 (Guadalupe). (Incorporated by reference to Exhibit 10.gg to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.1pp Lease Agreement between KC Woodside and the Company, dated January 15, 1996 (Guadalupe), as amended March 1, 1996 and October 1, 1996.
10.2 Master Software License Agreement between Unix System Laboratories, Inc. (formerly owned by American Telephone & Telegraph Company) and the Company, dated effective as of April 18, 1985. (Incorporated by reference to Exhibit 10.2 to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.2A Sublicensing Agreement dated January 28, 1986, as amended June 22, 1987 and August 10, 1987. (Incorporated by reference to Exhibit 10.2A to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.2B Substitution Agreement between Unix System Laboratories, Inc. and the Company, dated January 28, 1986. (Incorporated by reference to Exhibit 10.2B to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
10.2C Amendment dated November 13, 1992 to Master Software License Agreement and Sublicensing Agreement with Unix System Laboratories, Inc.
10.2D License Agreement dated July 15, 1983 between The Regents of University of California and the Company, as amended July 2, 1986. (Incorporated by reference to Exhibit 10.2C to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0- 15627).)
+ 10.3 Distributorship Agreement between the Company and Oracle Corporation, dated March 31, 1987, as amended on December 29, 1988, August 30, 1989, May 28, 1990, May 31, 1991 and June 30, 1991. (Incorporated by reference to Exhibit 10.3 to Amendment No. 1 to the Company's Annual Report on Form 10-K for fiscal year ended January 2, 1993 (file no. 0-15627).)
* 10.4 Aircraft Lease Agreement between the Company and B&K Transportation, Inc., dated October 1, 1993, as amended November 1, 1993 and December 12, 1994. (Incorporated by reference to Exhibit 10.4 to the Company's Annual Report on Form 10-K for fiscal year ended December 31, 1994 (File no. 0-15627).)
* 10.4A Aircraft Lease Agreement between the Company and CP Transportation, Inc., dated October 1, 1996.
* 10.5 Sequent Computer Systems, Inc. Incentive Stock Option Plan and Nonstatutory Stock Option Plan adopted March 20, 1984, as amended. (Incorporated by reference to Exhibit 10.10 to the Company's Registration Statement on Form S-1 (File no. 33-33444).)
* 10.6 Sequent Computer Systems, Inc. 1987 Employee Stock Option Plan, as amended. (Incorporated by reference to Exhibit 10.11 to the Company's Registration Statement on Form S-1 (File no. 33-33444).)
* 10.7 Sequent Computer Systems, Inc. 1987 Nonstatutory Stock Option Plan, as amended. (Incorporated by reference to Exhibit 10.12 to the Company's Registration Statement on Form S-1 (File no. 33-33444).)
* 10.8 Sequent Computer Systems Inc. Restated Employee Stock Purchase Plan. (Incorporated by reference to Appendix A to the Company's Proxy Statement dated March 18, 1993).
* 10.9 Sequent Computer Systems, Inc. 1989 Stock Incentive Plan, as amended. (Incorporated by reference to Appendix A to the Company's Proxy Statement for its 1994 Annual Meeting of Shareholders).
10.10 Agreement between American International Motorsports (AI Motorsports) and Sequent Computer Systems, Inc., dated January 30, 1996.
* 10.11 DP Applications, Inc. 100% Convertible Note dated August 20, 1996 in favor of Robert W. Wilmot and Mary J. Wilmot, trustees of the RW & MJ Wilmot Living Trust, U/D/T dated April 18, 1995 (the "Wilmot Trust") and DP Applications, Inc. Warrant for the Purchase of Shares of Capital Stock dated August 20, 1996 in favor of Robert W. Wilmot and Mary J. Wilmot, trustees of the RW & MJ Wilmot Living Trust U/D/T dated April 18, 1995.
* 10.12 DP Applications, Inc. Restricted Stock Purchase Agreement dated December 2, 1996.
11 Statement regarding computation of earnings per share.
13 1996 Annual Report to Shareholders (portions not incorporated by reference are not deemed filed).
21 Subsidiaries.
23 Consent of Independent Public Accountants.
24 Powers of Attorney.
27 Financial Data Schedule. ________________________
+ Confidential treatment for portions of this contract has been previously requested of the Commission.
* Management contract or compensatory plan or arrangement required to be filed as an exhibit pursuant to Item 14(a) (3) of this Report.
(b) Reports on Form 8-K.
No reports on Form 8-K were filed by the Company during the last quarter of fiscal 1996.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
Sequent Computer Systems, Inc.
Date: March 25, 1997 By: /s/ Robert S. Gregg Robert S. Gregg Sr. Vice President of Finance and Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated on March 27, 1996.
Signature Title
/s/ Karl C. Powell, Jr. Chairman and Chief Executive Officer (Karl C. Powell, Jr.) and Director (Principal Executive Officer)
/s/ Robert S. Gregg Sr. Vice President of Finance and Legal (Robert S. Gregg) and Chief Financial Officer (Principal Accounting and Financial Officer)
/s/ Steve Chen Director (Steve Chen)
/s/ John McAdam Director (John McAdam)
DAVID R. HATHAWAY * (David R. Hathaway) Director
ROBERT C. MATHIS * (Robert C. Mathis) Director
MICHAEL S. SCOTT MORTON * (Michael S. Scott Morton) Director
RICHARD C. PALERMO * (Richard C. Palermo) Director
ROBERT W. WILMOT * (Robert W. Wilmot) Director
By: /s/ Robert S. Gregg * Robert S. Gregg, Attorney-in-fact
REPORT OF INDEPENDENT ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULES
To the Board of Directors of Sequent Computer Systems, Inc.
Our audits of the consolidated financial statements referred to in our report dated January 23, 1997 appearing in the 1996 Annual Report to Shareholders of Sequent Computer Systems, Inc. (which report and consolidated financial statements are incorporated by reference in this Annual Report on Form 10-K) also included an audit of the Financial Statement Schedules listed in Item 14(a)(2) of this Form 10-K. In our opinion, these Financial Statement Schedules present fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements.
PRICE WATERHOUSE LLP
Portland, Oregon January 23, 1997
EXHIBIT 11
SEQUENT COMPUTER SYSTEMS, INC. AND SUBSIDIARIES STATEMENT SHOWING CALCULATION OF AVERAGE COMMON SHARES OUTSTANDING AND EARNINGS PER AVERAGE COMMON SHARE (In thousands, except per share amounts)
Three Months Ended Year Ended December 28, 1996 December 28, 1996
Weighted average number of common shares outstanding 34,026 33,641
Application of the "treasury stock" method to the stock option and employee stock purchase plans (A) 2,309 834
Weighted average of common stock equivalent shares attributable to convertible debentures 575 575
Total common and common equivalent shares, assuming full dilution 36,910 35,050
Net income $ 2,512 $ 7,771
Add: Interest on convertible debentures, net of applicable income taxes 125 500
Net income, assuming full dilution $ 2,637 $ 8,271
Net income per common share, assuming full dilution (B) $ .07 $ .23
(A) Effective with the third quarter of 1996, the Company applied the "Modified Treasury Stock" method to calculate outstanding shares for stock options in accordance with APB 15.
(B) In accordance with generally accepted accounting principles, fully- diluted earnings per share may not exceed primary earnings per share.
The computation of primary net income per common share is not included as the computation can be clearly determined from the material contained in this report.
SEQUENT COMPUTER SYSTEMS, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Total revenue was $595.4 million in 1996 compared to $540.3 million in 1995 and $450.8 million in 1994. The Company recorded net income in 1996 of $7.8 million, compared to $35.1 million in 1995 and $33.1 million in 1994. The Company's total revenue for 1996 represents a 10% increase over 1995 and is attributed to significant increases in customer and professional service revenues in 1996 over 1995. The Company's service revenue increased 25% in 1996 over 1995 as a result of a growing number of customer installation bases and related service contracts, as well as an increase in the number of project-based sales. The decrease in net income in 1996 compared to 1995 is the result of the heavy investment made in 1996 to bring the next-generation NUMA-Q product to market in December 1996 and expand the sales and professional services organizations to leverage the capability of the new technology.
RESULTS OF OPERATIONS
The following table sets forth certain operating data as a percentage of total revenue:
Fiscal Year Ended December 28, December 30, December 31, 1996 1995 1994 Revenue: End-user products 68.5% 69.4% 70.6% OEM products 1.1 3.9 5.1 Service 30.4 26.7 24.3 Total revenue 100.0 100.0 100.0 Cost of products and service 56.7 54.8 53.7 Gross profit 43.3 45.2 46.3 Operating expenses: Research and development 9.0 7.5 7.8 Selling, general and administrative 32.1 28.7 29.7 Total operating expenses 41.1 36.2 37.5 Operating income 2.2 9.0 8.8 Interest income (expense), net 0.0 0.2 (0.3) Other income (expense), net (0.4) (0.4) 0.1 Income before provision for income taxes 1.8 8.8 8.6 Provision for income taxes 0.5 2.3 1.3 Net income 1.3% 6.5% 7.3
REVENUE
End-user product revenue increased $32.8 million, or 9%, from 1995 to 1996 and $56.7 million, or 18%, from 1994 to 1995. These increases have been primarily in the Company's North American and Asia Pacific geographies. The revenue growth rate from 1995 to 1996 was impacted by the Company's product transition from its Symmetry line to its next-generation NUMA-Q systems, especially in the second half of 1996. Despite the ongoing demand for Symmetry systems which are binary compatible with the NUMA-Q technology, the awareness of the pending release of the new product adversely affected Symmetry sales during 1996. Volume shipments of NUMA-Q began late in the fourth quarter of 1996.
As anticipated, total OEM revenue continued to decline in 1996 compared to 1995 and 1994 due to decreases in revenue from Unisys Corporation. Total OEM revenue in 1996 and 1995 was $6.5 million and $20.9 million, respectively, compared to $23.1 million in 1994.
During 1996 and 1995, the Company's customer and professional service revenue continued to increase in dollar amount and as a percentage of total revenue primarily due to the growth in customer installation bases and associated customer service/maintenance contracts, as well as a focus on selling more solutions.
The Company has continued to benefit from its significant investment in developing worldwide sales and distribution channels. International revenue as a percentage of total revenue was 55% in 1996 and 1995, increasing from 48% in 1994. The majority of the international revenue is from Europe (particularly the United Kingdom), with the balance coming from Asia-Pacific and Canada.
COST OF SALES Fiscal Year Ended December 28, December 30, December 31, 1996 1995 1994
Cost of products sold as a percentage of product revenue 48% 48% 48% Cost of service as a percentage of service revenue 77 75 71 Total cost of sales as a percentage of total revenue 57 55 54
The factors influencing gross margins in a given period include unit volumes (which affect economies of scale), product configuration mix, changes in component and manufacturing costs, product pricing and the mix between product and service revenue.
Total cost of sales as a percentage of total revenue increased both in 1996 and 1995 primarily due to lower margin service increasing as a percentage of total revenue. As planned, the Company invested in expanding its professional service organization which has contributed to the overall increase of cost of service as a percentage of service revenue. The Company increased headcount in its professional service organization by approximately 38% in 1996.
RESEARCH AND DEVELOPMENT
(dollars in millions) Fiscal Year Ended December 28, December 30, December 31, 1996 1995 1994
Research and development expense $53.7 $40.9 $35.0 As a percentage of total revenue 9% 8% 8%
Software costs capitalized $34.2 $23.4 $19.1
Research and development expense increased 31% in 1996 compared to 1995 and 17% in 1995 compared to 1994. The Company continued to invest significantly in its new NUMA-Q architecture and software development, in addition to ongoing enhancements to existing products. Consistent with management's plans, the NUMA-Q products began shipping in the Company's fourth quarter. Research and development costs as a percentage of total revenue were approximately 9% in 1996, compared to 8% for 1995 and 1994. Management intends to make significant investments during 1997 as it continues to enhance its NUMA-Q product line.
Capitalized software amortization was approximately $20.0 million, $16.6 million, and $12.8 million in 1996, 1995 and 1994, respectively. The Company has continued to increase its focus on software design for computing solutions and its next-generation products, resulting in greater investments in software development and products.
SELLING, GENERAL AND ADMINISTRATIVE
(dollars in millions) Fiscal Year Ended December 28, December 30, December 31, 1996 1995 1994
Selling, general and administrative $191.1 $155.0 $134.1 As a percentage of total revenue 32% 29% 30%
The Company's selling, general and administrative costs increased both in dollars and as a percentage of revenue in 1996, as the Company made significant investments in its worldwide sales force for successful delivery of NUMA-Q at the end of 1996. During the year, the Company increased the number of sales teams by 54% worldwide.
INTEREST AND OTHER, NET
(dollars in millions) Fiscal Year Ended December 28, December 30, December 31, 1996 1995 1994
Interest income $3.0 $5.3 $3.5 Interest expense $3.2 $4.2 $4.7
Other income (expense), net $(2.0) $(2.3) $0.5
Interest income is primarily generated from restricted deposits held at foreign and domestic banks, short-term investments and cash and cash equivalents. Interest expense includes costs related to convertible debentures, foreign currency hedging loans, interim short-term borrowings and capital lease obligations.
Other expense consists primarily of net gains and losses on sales of assets and discount on sale of receivables.
INCOME TAXES
The Company provided $2.9 million for income taxes in 1996 on a net profit before tax of $10.7 million. The difference between the statutory rate and the effective tax rate is principally due to the benefit from the Company's Foreign Sales Corporation. The 1996 effective tax rate of 27.2% compares to effective rates of 25.9% in 1995 and 14.6% in 1994.
LIQUIDITY AND CAPITAL RESOURCES
Working capital was $183.4 million at December 28, 1996 compared to $214.7 million at December 30, 1995. The Company's current ratio at December 28, 1996 and December 30, 1995 was 1.9:1 and 2.5:1, respectively.
Although net cash provided by operations for the year ended December 28, 1996 totaled $64.1 million, cash and cash equivalents decreased by $24 million. The Company continued to make significant investments in property and equipment ($80.6 million), inventory ($13.6 million) and capitalized software ($34.2 million), primarily related to product and software development associated with its new NUMA-Q product line. Other investments included approximately $27 million in software licenses resulting from a long- term strategic partner alliance, of which approximately $15 million is included in prepaid royalties and other current assets. Other sources of funds included net proceeds of stock issuances ($11 million), notes payable ($18.8 million) and capital lease transactions ($14.7 million).
The Company has a $20 million receivable sales facility with a group of banks. At December 28, 1996, accounts receivable in the accompanying consolidated balance sheet is net of $20 million received by the Company under this agreement to sell its domestic accounts receivable.
The Company maintains a $70 million revolving line of credit agreement. The line is unsecured and extends through May 30,1997. The line contains certain financial covenants and prohibits the Company from paying dividends without the lenders' consent. As of December 28, 1996, $12.2 million was outstanding under the line of credit.
The Company maintains a short-term borrowing agreement with a foreign bank to cover foreign currency exposures. Maximum borrowings allowed under the foreign bank agreement were $57.2 million, of which $44.7 million was outstanding at December 28, 1996 (based on currency exchange rates on such date).
The Company also maintains miscellaneous borrowing arrangements with a foreign bank. At December 28, 1996, amounts outstanding under this agreement totaled $870,000.
In addition to the above, a subsidiary of the Company issued short-term convertible notes during 1996 totaling $2.2 million, which were outstanding at December 28, 1996.
Management expects that current funds, funds from operations and the bank lines of credit will provide adequate resources to meet the Company's anticipated operational cash requirements during 1997.
FORWARD-LOOKING STATEMENTS
The Chairman's Letter, Management's Discussion and Analysis of Financial Condition and Results of Operations and other sections of this Annual Report contain information regarding growth expectations, market size, planned expenditure levels and comments relating to technology development and resulting release of future products. These statements are forward-looking statements that involve a number of risks and uncertainties. Additional forward-looking statements may be made by the Company from time to time. The following factors are among the factors that could cause actual results to differ materially from the forward-looking statements: timely completion of product development and customer acceptance of the Company's NUMA-Q product line; business conditions and growth in the electronics industry and general economies, both domestic and international; lower than expected customer orders, delays in receipt of orders or cancellation of orders; competitive factors, including increased competition, new product offerings by competitors and price pressures; the availability of third party parts and supplies at reasonable prices; changes in product mix and the mix between product and service revenue; significant quarterly performance fluctuations due to the receipt of a significant portion of customer orders and product shipments in the last month of each quarter; and product shipment interruptions due to manufacturing problems.
The accompanying notes to consolidated financial statements are an integral part of these statements.
SEQUENT COMPUTER SYSTEMS, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Sequent Computer Systems, Inc. and subsidiaries ("Sequent" or the "Company") was incorporated in January 1983. Sequent is a provider of scalable data center ready open systems solutions for large organizations spanning diverse industries. Sequent designs, manufactures and markets high- performance symmetric multiprocessing (SMP) and Cache Coherent Non-Uniform Memory Access (CC-NUMA) computer systems and operating environment software. The Company's systems are widely used for large-scale on-line transaction processing (OLTP), applications in decision support systems (DSS) and data warehouses, for custom applications built upon relational database management systems (RDBMS), and as the central server in client-server architectures. Sequent's project-oriented offerings include a complete portfolio of customer, professional and education services to solve complex Information Technology (IT) problems. The Company has an established set of partnerships with other software, hardware and services providers to deliver complete solutions to its customers.
Principles of Consolidation. The Company's fiscal year is based on a 52-53 week year ending the Saturday closest to December 31. The consolidated financial statements of the Company include accounts of Sequent Computer Systems, Inc. and its wholly-owned subsidiaries. All significant intercompany accounts and profits have been eliminated.
The financial statements and transactions of the Company's foreign subsidiaries are maintained in their functional currencies and translated into U.S. dollars for purposes of consolidation. Translation adjustments are accumulated as a separate component of shareholders' equity. Gains and losses resulting from transactions denominated in a currency other than an entity's functional currency are included in other income (expense) in the consolidated statements of operations. Net losses aggregating $0.3 million and $0.8 million, for 1995 and 1996 respectively, were realized from such transactions. During 1994 the Company realized a net pretax gain of $1.1 million as a result of positive impact of changes in exchange rates, primarily in the United Kingdom.
Revenue Recognition and Receivables. Revenue from product sales is generally recognized upon shipment; however, depending upon contract terms, revenue recognition may be deferred until customer acceptance or clarification of funding. Revenue is recognized as earned on the straight-line basis over the term of customer service/maintenance contracts, and on either the percentage-of-completion or milestone achievement basis for professional service contracts.
Receivables are shown net of allowance for doubtful accounts of $2.8 million at both December 28, 1996 and December 30, 1995.
The Company has an agreement with a group of banks to sell, without recourse, undivided ownership interests in a revolving pool consisting of substantially all of the Company's domestic accounts receivable for a maximum of $20 million. The agreement expires May 30, 1997. At December 28, 1996 and December 30, 1995, accounts receivable in the accompanying consolidated balance sheets is net of $20 million and $14 million, respectively, received by the Company under this agreement.
The Company had no single customer that represented greater than 10% of total revenue in 1996, 1995 and 1994.
Inventories. Inventories are stated at the lower of cost or market. Costs are determined using the first-in, first-out (FIFO) method and include material, labor and manufacturing overhead.
Prepaid Licenses and Royalties. The Company has entered into agreements with various vendors which provide for prepayment of future licenses and royalties based on sales of certain software. Prepaid licenses and royalties were $28.4 million at December 28, 1996 and $3.6 million at December 30, 1995, and are stated at the lower of cost or net realizable value. Approximately $16.1 million and $1.2 million were included in prepaid royalties and other current assets at December 28, 1996 and December 30, 1995, respectively. Such prepaid amounts are realized by receipt of reverse royalties from the vendors based upon software sales by the vendor, and/or by charging cost of products sold for certain software sales by the Company.
Property and Equipment. Property and equipment are stated at cost and depreciated over their estimated useful lives, ranging from three to five years, on the straight-line method. Leasehold improvements and equipment held under capital leases are amortized on the straight-line basis over the shorter of the asset life or lease term. Maintenance and repairs are expensed as incurred.
Research and Development. Software development costs for certain projects are capitalized from the time technological feasibility is established to the time the resulting software product is first shipped. Capitalized software costs are stated at the lower of cost or net realizable value and are shown net of accumulated amortization of $38.4 million at December 28, 1996 and $58.3 million at December 30, 1995. Amortization, generally based on a three-year straight-line basis, was $20 million in 1996, $16.6 million in 1995 and $12.8 million in 1994. All other research and development costs are expensed as incurred.
Income Taxes. The Company's general practice is to reinvest the earnings of its foreign subsidiaries in those operations, unless it would be advantageous to the Company to repatriate the foreign subsidiaries' retained earnings.
Per Share Information. Primary earnings per share is computed based on the weighted average number of common and dilutive common equivalent shares outstanding. Outstanding stock options, net of assumed buy-back, are common stock equivalents. The computation of fully dilutive earnings per share also assumes conversion of the remaining 7.5% Convertible Subordinated Debentures issued April 1992 when it would be dilutive. A fully diluted earnings per share amount is not shown as the effect of the debentures would be antidilutive.
Consolidated Statement of Cash Flows. The Company considers short-term investments which are highly liquid, readily convertible into cash and having original maturities of less than three months to be cash equivalents for purposes of the statement of cash flows.
Total cash expenditures for income taxes were $5.9 million, $5.3 million and $2.3 million during 1996, 1995 and 1994, respectively. Interest paid does not differ materially from interest expense.
Non-cash investing and financing activities include the following: 1996 - 300,000 stock warrants, valued at $1.2 million using the Black-Scholes pricing model, were issued in exchange for other non-current assets; 1995 - $1 million of Convertible Debentures were converted into 63,000 shares of common stock.
Management Estimates. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates.
Reclassifications. Certain prior year amounts have been reclassified to conform to fiscal 1996 presentation. These changes had no impact on previously reported results of operations or shareholders' equity.
New Accounting Pronouncements. In October 1995, the FASB issued Statement of Financial Accounting Standards No. 123, "Accounting for Stock- Based Compensation" (SFAS 123). SFAS 123 allows companies to choose whether to account for stock-based compensation on a fair value method or to continue to account for stock-based compensation under the current intrinsic value method as prescribed by APB Opinion No. 25, "Accounting for Stock Issued to Employees." The Company adopted SFAS 123 during 1996, and has elected to continue to follow the provisions of APB Opinion No. 25. (Note 8)
2. INVENTORIES (in thousands) December 28, December 30, 1996 1995
Raw materials $ 14,205 $ 9,385 Work-in-progress 2,166 1,736 Finished goods 58,120 49,732
$ 74,491 $ 60,853
Finished goods inventory includes evaluation systems aggregating $30.8 million and $15.7 million as of December 28, 1996 and December 30, 1995, respectively. Such systems are located at potential customer sites for demonstration.
3. PROPERTY AND EQUIPMENT (in thousands) December 28, December 30, 1996 1995
Land $ 5,037 $ 5,037 Operational equipment 174,662 134,897 Furniture and office equipment 89,951 67,010 Leasehold improvements 22,584 15,974 292,234 222,918
Less accumulated depreciation and amortization (158,396) (124,753) $ 133,838 $ 98,165
Depreciation and amortization charged to expense totaled $44.9 million in 1996, $35.0 million in 1995 and $31.8 million in 1994.
4. NOTES PAYABLE
The Company has an unsecured line of credit agreement with a group of banks which provides short-term borrowings up to $70 million (increased in the third quarter of 1996 from $50 million). The line of credit agreement contains financial covenants, including covenants relating to net worth, ratio of liabilities to net worth and limitations on net operating losses, and prohibits the Company from paying dividends without the group of banks' consent. The line of credit agreement extends through May 30, 1997. At December 28, 1996, $12.2 million was outstanding under this line of credit agreement. At December 30, 1995, there were no borrowings outstanding under the line of credit. The interest rate on this borrowing at December 28, 1996 was 8.25%
The Company has a short-term borrowing agreement with a foreign bank as a hedge to cover certain foreign currency exposures. Borrowings under the agreement are denominated in various foreign currencies. Proceeds from the borrowings are converted into U.S. dollars and placed in a term deposit account with the foreign bank. The deposits, which are classified as restricted deposits in the accompanying consolidated balance sheets, are pledged to the foreign bank so long as borrowings under the agreement are outstanding. During July 1996, the Company re-negotiated the agreement and extended it through July 1997. The foreign bank, without cause, can terminate the agreement at any time. At December 28, 1996, maximum borrowings allowed under the agreement were $57.2 million. Amounts outstanding were $44.7 million and $39.6 million at December 28, 1996 and December 30, 1995, respectively. The maximum borrowing limit is denominated in specified foreign currencies and fluctuates with the change in foreign exchange rates. The average interest rate on these borrowings at December 28, 1996 was 4.8%.
In addition to the above borrowing agreements, the Company has entered into certain other miscellaneous borrowing arrangements with a foreign bank. Amounts outstanding were $0.9 million and $1.5 million at December 28, 1996 and December 30, 1995, respectively. The interest rate on these borrowings was 1.5% at December 28, 1996.
During 1996 a U.S. subsidiary of the Company entered into a financing arrangement with third parties for $2.2 million, of which $1 million is with a related party. The financing consists of short-term convertible notes with an interest rate of 10% due February 23, 1997. At the option of the holders, the notes may be converted into capital stock of the subsidiary.
5. OBLIGATIONS UNDER CAPITAL LEASES AND LONG-TERM DEBT
In April 1992, the Company issued $20 million of 7.5% Convertible Subordinated Debentures ("Convertible Debentures" or "Debentures") due March 31, 2000. In conjunction with the Company's equity offering in 1993, $9.9 million of the Debentures were converted into 626,000 shares of common stock and are no longer classified as long-term debt. The Convertible Debentures are convertible into the Company's common stock at the option of the holders at an initial conversion price of $15.81 per share. Under this provision, in August 1995, an additional $1.0 million of the debentures were converted into 63,000 shares of common stock, further reducing long-term debt. Beginning on June 30, 1997, the Company is required to make quarterly principal payments of $1.7 million through 1998 to retire the outstanding Debentures. The balance outstanding on the Debentures was $9.1 million at both December 28, 1996 and December 30, 1995. At December 28, 1996, $5.0 million is classified as current obligations. The Convertible Debentures are callable at the option of the Company after five years. The Debentures contain certain financial covenants, including restrictions on additional debt, minimum net worth levels and a prohibition on the payment of dividends.
Sequent leases certain equipment under five-year capital leases. These lease terms require maintenance of certain financial ratios and generally include a fair market value purchase option at the end of the lease. The cost of equipment under capital leases was $0.3 million and $0.4 million at the end of 1996 and 1995, respectively. Accumulated amortization was $0.1 million and $0.3 million, respectively. These leased assets are pledged as security for capital lease obligations.
In addition to the above capital leases, the Company entered into a sales-leaseback transaction in September 1996 under which certain operating equipment with a net book value of $12.2 million was sold for $15.3 million and then leased back under a capital lease. The related lease terms stipulate monthly payments ranging from $274,000 to $341,000 over the five-year lease term beginning September 1996 at an annual interest rate of 7.4%. The resulting gain of $3.1 million has been recorded under "Other Accrued Expenses" and is being amortized in proportion to the related equipment depreciation over three years. The terms of the lease include an asset buy- back provision at the end of the lease for the then fair market value of the assets at the Company's option. Future minimum lease payments are as follows:
1997 $ 3,285 1998 3,285 1999 3,960 2000 4,095 2001 2,730 Total minimum lease payments 17,355
Less amount representing interest (2,849)
Present value of minimum lease payments $ 14,506
6. OPERATING LEASE COMMITMENTS
Sequent is committed under operating leases for office space and manufacturing facilities. Future minimum lease payments are as follows:
(in thousands)
1997 $19,052 1998 16,468 1999 13,051 2000 10,558 2001 and thereafter 22,390 $81,519
Rent expense for operating leases was $17.4 million, $14.9 million and $15.1 million in 1996, 1995 and 1994, respectively.
7. INCOME TAXES
Pre-tax income from continuing operations for the last three fiscal years was taxed under the following jurisdictions:
(in thousands)
Fiscal Fiscal Fiscal 1996 1995 1994
Domestic $ 5,593 $ 29,556 $ 27,332 Foreign 5,083 17,771 11,468 Total $ 10,676 $ 47,327 $ 38,800
The provision (benefit) for income taxes was as follows:
Fiscal Fiscal Fiscal 1996 1995 1994
Current: Federal $ 789 $ 5,890 $ 1,420 Foreign 3,109 5,435 3,769 State 164 355 96 4,062 11,680 5,285
Deferred: Federal (900) -- -- Foreign (257) 574 381 (1,157) 574 381
Total provision $ 2,905 $ 12,254 $ 5,666
Deferred tax liabilities (assets) are comprised of the following components:
(in thousands) Dec. 28, Dec. 30, 1996 1995
Research and development $ 22,998 $ 17,534 Other 1,567 2,929 Gross deferred tax liabilities 24,565 20,463
Net operating loss carryforwards: Domestic (24,985) (21,677) Foreign (7,965) (8,733) Credit carryforwards (12,741) (10,720) Expenses not currently deductible (7,971) (7,586) Depreciation (1,596) (798) Revenue currently taxable (1,399) (945) Inventory basis differences (556) (1,337) Restructuring costs (71) (188) Gross deferred tax assets (57,284) (51,984) Deferred tax asset valuation allowance 31,583 31,542 Net deferred tax liability (asset) $ (1,136) $ 21
The provision for income taxes differs from the amount of income taxes determined by applying the U.S. statutory federal tax rate to pre-tax income due to the following:
Fiscal Fiscal Fiscal 1996 1995 1994
Statutory federal tax rate 35.0% 35.0% 35.0% State taxes, net of federal benefit 4.2 4.2 4.2 Tax benefit from Foreign Sales Corporation (6.8) (1.6) (3.9) Tax provision on foreign earnings (0.9) (2.1) (0.1) Realized benefit from net operating losses (1.3) (9.6) (20.9) Other, net (3.0) -- 0.3 27.2% 25.9% 14.6%
The deferred tax asset valuation allowance in fiscal years 1994-1996 is attributed to U.S. federal, state, and foreign deferred tax assets. Management believes sufficient uncertainty exists with regard to the realizability of such assets that a valuation allowance of $31.6 million has been provided at December 28, 1996. When and if these reserved deferred tax assets are ultimately realized, $15.5 million will reduce the Company's federal and state tax provision and $16.1 million will be credited to paid-in capital (related to stock option deductions).
In accordance with FAS 109, the valuation allowance is allocated pro-rata to federal, state, and foreign current and non-current deferred tax assets. The net deferred tax asset at December 28, 1996 and the net deferred tax liability at December 30, 1995 reflect foreign liabilities offset by U.S. assets.
The Company has accumulated unused research and development credits of $5.0 million for income tax purposes. These credits expire from 1998-2011. The Company also has Alternative Minimum Tax Credits (AMT) which may be carried forward indefinitely and certain state tax credits which expire from 1997-2001.
The Company may realize tax benefits as a result of the exercise of certain employee stock options. For financial reporting purposes, any reduction in income tax obligations as a result of these tax benefits is credited to paid-in capital. During 1996 and 1995, $175,000 and $4.7 million of benefits were credited to paid-in capital, respectively, with a related reduction in current taxes payable. No benefits were recognized in 1994.
An income tax provision has not been recorded for U.S. or additional foreign taxes on undistributed earnings of foreign subsidiaries as the undistributed earnings have been and will continue to be reinvested in operations outside the United States.
8. SHAREHOLDERS' EQUITY
Common Stock. In 1995, $1.0 million of convertible debentures were converted into 63,000 shares of common stock. (Note 5)
Stock Compensation Plans. At December 28, 1996, the Company had the following stock-based compensation plans:
Stock Option Plans
At December 28, 1996 the Company had options outstanding to employees and non- employees under the following Stock Option Plans: 1984 Employee Stock Option Plan and 1984 Nonstatutory Stock Option Plan (the "1984 Plans"), the 1987 Employee Stock Option Plan and 1987 Nonstatutory Stock Option Plan (the "1987 Plans"), the 1989 Stock Incentive Plan (the "1989 Plan"), the 1995 Stock Incentive Plan and the 1996 Stock Option Plan. Options granted after May 18, 1995 were made under the 1995 Stock Incentive Plan and the 1996 Stock Option Plan. As of December 28, 1996, the Company has reserved a total of 12,365,000 shares of common stock for issuance under these Plans, of which 6,909,440 shares were outstanding at December 28, 1996. Employee and non-employee options vest over varying time periods, generally ranging from one to four years, as long as, in the case of employees, the optionee remains employed by Sequent. Option prices generally have been at 85% or greater of the fair market value of the common stock on the date of grant. Options generally expire ten years from the date of the grant.
Employee Stock Purchase Plan
In September 1987, Sequent established an Employee Stock Purchase Plan. Under the plan, Sequent is authorized to grant rights to purchase up to 5,550,000 shares of common stock in a series of eighteen-month offerings. At December 28, 1996, there were 1,674,002 shares available for future purchase. Substantially all employees are eligible to receive rights under the plan. The purchase price is the lesser of 85% of the fair market value of the common stock on the date of commencement of the offering or on the date of purchase. During 1996, 1995 and 1994, Sequent issued 682,864, 576,423 and 467,479 shares under the plan, respectively.
Statement of Financial Accounting Standards No. 123
During 1995, the Financial Accounting Standards Board issued SFAS 123, "Accounting for Stock Based Compensation," which defines a fair value based method of accounting for an employee stock option or similar equity instrument and encourages all entities to adopt that method of accounting for all of their employee stock compensation plans. However, it also allows an entity to continue to measure compensation cost related to stock options issued to employees under these plans using the method of accounting prescribed by the Accounting Principles Board Opinion No. 25 (APB 25), "Accounting for Stock Issued to Employees." Entities electing to remain with the accounting in APB 25 must make pro forma disclosures of net income and earnings per share, as if the fair value based method of accounting defined in this Statement has been applied.
The Company has elected to continue to account for stock-based compensation using the intrinsic value method prescribed in APB 25 and related Interpretations. Accordingly, no compensation cost has been recognized in the consolidated statements of operations for its stock-based compensation plans other than for performance-based awards.
Had compensation cost for the other stock-based compensation plans been determined based on the fair value at the grant dates for awards under these plans consistent with the method of FASB Statement 123, "Accounting for Stock- Based Compensation", the Company's net income and earnings per share would have been reduced to the pro forma amounts indicated below:
(in thousands) Fiscal Fiscal 1996 1995
Net income (loss) As reported $7,771 $35,073 Pro forma (709) 30,959
Primary earnings (loss) per share As reported $0.23 $1.04 Pro forma (0.02) 0.91
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted average assumptions used for grants in 1995 and 1996:
Fiscal Fiscal 1996 1995
Risk-free interest rate 6.05% 6.33% Expected dividend yield -- -- Expected lives 3 years 4 years Expected volatility 50% 55%
The fair value of the employees' purchase rights was estimated using the Black-Scholes model with the following assumptions for 1995 and 1996:
Fiscal Fiscal 1996 1995
Risk-free interest rate 5.58% 5.23% Expected dividend yield -- -- Expected lives 1 year 1 year Expected volatility 50% 55%
The weighted-average per share fair value of those purchase rights granted in 1995 and 1996 was $15.51 and $13.15, respectively.
A summary of the status of the Company's stock option plans as of December 28, 1996 and December 30, 1995, and changes during the years ending on those dates is presented below:
9. GEOGRAPHIC SEGMENT INFORMATION
Information about the Company's foreign operations and export sales is provided in the table below. Foreign revenue is that which is produced by identifiable assets located in foreign countries while export revenue is that which is generated by identifiable assets located in the United States.
(in thousands)
Fiscal Fiscal Fiscal 1996 1995 1994 Revenue: United States $ 270,571 $ 244,029 $ 233,246 Foreign: Europe 262,396 242,133 177,320 Other 41,443 32,784 24,624 Export: Other 20,952 21,399 15,633 $ 595,362 $ 540,345 $ 450,823 Operating income (loss): United States $ 5,825 $ 27,184 $ 27,773 Foreign: Europe 7,424 18,290 9,444 Other (374) 3,045 2,260 $ 12,875 $ 48,519 $ 39,477 Identifiable assets: United States $ 448,527 $ 367,196 $ 321,857 Foreign: Europe 148,727 123,614 105,232 Other 14,755 13,113 8,888 $ 612,009 $ 503,923 $ 435,977
Intercompany sales between geographic areas, primarily from the United States to Europe, were $155.7 million during 1996, $131.0 million during 1995 and $111.1 million during 1994.
10. FOREIGN CURRENCY EXPOSURE
A substantial portion of the Company's business is conducted overseas through its foreign subsidiaries, primarily in Europe. This exposes the Company to risks associated with foreign currency rate fluctuations which can impact the Company's revenue and net income. To mitigate this risk the Company enters into foreign currency transactions with foreign and domestic banks on a continuing basis in amounts and timing consistent with the underlying currency exposure so that gains and losses on these transactions offset gains and losses on the underlying exposure. The Company does not engage in any speculative trading activity. See related discussion in Note 4.
In addition to the arrangements described in Note 4, at December 28, 1996, the Company also has a forward exchange contract denominated in Japanese yen with a contract amount of approximately $2.8 million. This forward contract is used to hedge certain intercompany payables. The Company has also purchased off-setting currency options and calls used to hedge certain anticipated but not yet firmly committed transactions expected to be recognized within one year. Gains and losses on such contracts have not been significant to date.
11. FAIR VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards No. 107, "Disclosures About Fair Value of Financial Instruments," requires disclosure of the fair value of certain financial instruments.
Cash and cash equivalents, restricted deposits, receivables, notes payable, accounts payable and other and current obligations under capital leases and debt are reflected in the consolidated financial statements at fair value because of the short-term maturity of these instruments.
The fair value of long-term obligations under capital leases was estimated by discounting the future cash flows using market interest rates and does not differ significantly from the amount reflected in the consolidated financial statements.
Due to the private nature of the Company's convertible debentures and the subjectivity of assessing the impact of the Company's future common stock price, the fair value of long-term debt is judged to be materially the same as that reflected in the financial statements.
Fair value estimates are made at a specific point in time, based on relevant market information about the financial instrument. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
12. COMMITMENTS AND CONTINGENCIES
Lawsuits arise during the normal course of business. In the opinion of management, none of the pending lawsuits will result in a significant impact on the consolidated results of operations or financial position.
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders of Sequent Computer Systems, Inc.
In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, of shareholders' equity and of cash flows present fairly, in all material respects, the financial position of Sequent Computer Systems, Inc. and its subsidiaries at December 28, 1996 and December 30, 1995, and the results of their operations and their cash flows for each of the three years in the period ended December 28, 1996, in conformity with generally accepted accounting principles. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with generally accepted auditing standards which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above.
PRICE WATERHOUSE LLP
Portland, Oregon January 23, 1997
QUARTERLY FINANCIAL DATA (unaudited) (In thousands, except per share amounts)
Total Gross Net Earnings Revenue Profit Income Per Share
Fiscal 1996 First quarter $ 120,745 $ 51,481 $ 598 $ 0.02 Second quarter 142,587 61,203 3,306 0.10 Third quarter 148,785 66,132 1,355 0.04 Fourth quarter 183,245 78,861 2,512 0.07 Year $ 595,362 $ 257,677 $ 7,771 $ 0.23
Fiscal 1995 First quarter $ 116,099 $ 52,689 $ 5,953 $ 0.18 Second quarter 139,207 65,082 11,010 0.33 Third quarter 133,215 59,565 7,441 0.22 Fourth quarter 151,824 67,056 10,668 0.31 Year $ 540,345 $ 244,392 $ 35,073* $ 1.04
*The sum of quarterly net income does not equal annual net income due to rounding.
MARKET INFORMATION (unaudited)
Sequent's Common Stock has been traded on the NASDAQ National Market System since April 1987 under the symbol SQNT. The following table sets forth, for the fiscal quarters indicated, the high and low sales prices for the common stock as reported on the NASDAQ National Market System.
High Low
1996: First quarter $ 14.88 $ 10.31 Second quarter $ 14.88 $ 11.88 Third quarter $ 13.88 $ 10.88 Fourth quarter $ 18.25 $ 12.50
1995: First quarter $ 20.63 $ 15.56 Second quarter $ 18.63 $ 14.44 Third quarter $ 25.25 $ 17.88 Fourth quarter $ 19.50 $ 14.38
At December 28,1996, there were approximately 1,134 shareholders of record of the Company's common stock and 34.2 million shares outstanding. The Company has never paid cash dividends on its common stock. The Company intends to retain earnings for use in its business and, therefore, does not anticipate paying cash dividends in the foreseeable future. In addition, the Company's bank line of credit agreement and the agreements relating to the Company's Convertible Debentures prohibit payment of dividends without the lenders' consent.
EXHIBIT 21
SEQUENT COMPUTER SYSTEMS, INC. - SUBSIDIARIES
ENTERPRISE FINANCE COMPANY (Oregon)
SEQUENT EXPORT, INC. (Barbados)
DP APPLICATIONS, INC. (Oregon)
CANADA:
SEQUENT COMPUTER SYSTEMS (CANADA) LIMITED
EUROPE:
SEQUENT COMPUTER SYSTEMS LIMITED (United Kingdom)
SEQUENT COMPUTER SYSTEMS A.B. (Sweden)
SEQUENT COMPUTER SYSTEMS GmbH (Germany)
SEQUENT COMPUTER SYSTEMS, S.A. (France)
SEQUENT COMPUTER SYSTEMS, B.V. (Netherlands)
SEQUENT COMPUTER SYSTEMS, spol. s r.o. (Czechoslovakia)
OPEN TOOL INTERNATIONAL, B.V. (Netherlands)
SEQUENT COMPUTER SYSTEMS S. r. I. (Italy)
SEQUENT COMPUTER SYSTEMS CJSC (Russia)
JAPAN:
SEQUENT COMPUTERS JAPAN CO., LTD
ASIA:
SEQUENT COMPUTER SYSTEMS (N.Z.) LIMITED (New Zealand)
SEQUENT COMPUTER SYSTEMS AUSTRALIA PTY. LIMITED
SEQUENT COMPUTER SYSTEMS ASIA LIMITED (Hong Kong)
SEQUENT COMPUTER SYSTEMS (SINGAPORE) PTE. LIMITED
EXHIBIT 23
Consent of Independent Accountants
We hereby consent to the incorporation by reference in the Registration Statements on Form S-8 (Nos. 33-16428, 33-16463, 33-33338, 33-36836, 33-39315, 33-39657, 33-40941, 33-40942, 33-63972, 33-63974, 33-59147 and 33-59611) of Sequent Computer Systems, Inc. of our report dated January 23, 1997 appearing in the Annual Report to Shareholders which is incorporated in this Annual Report on Form 10-K. We also consent to the incorporation by reference of our report on the Financial Statement Schedules.
PRICE WATERHOUSE LLP
Portland, Oregon March 21, 1997