NETLIST, INC. Note About Forward-Looking Statements
This Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") and other parts of this report include "forwardlooking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are statements other than historical facts and often address future events or our future performance. Words such as "anticipate," "estimate," "expect," "project," "intend," "may," "will," "might," "plan," "predict," "believe," "should," "could" and similar words or expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words.
Forward-looking statements contained in this MD&A include statements about, among other things:
· specific and overall impacts of the COVID-19 global pandemic on our financial
condition and results of operations;
· our beliefs regarding the market and demand for our products or the component
products we resell;
· our ability to develop and launch new products that are attractive to the
market and stimulate customer demand for these products;
· our plans relating to our intellectual property, including our goals of
monetizing, licensing, expanding and defending our patent portfolio;
· our expectations and strategies regarding outstanding legal proceedings and
patent reexaminations relating to our intellectual property portfolio,
including our pending proceedings against SK hynix Inc., a South Korean memory
semiconductor supplier ("SK hynix");
· our expectations with respect to any strategic partnerships or other similar
relationships we may pursue;
· the competitive landscape of our industry;
· general market, economic and political conditions;
· our business strategies and objectives;
· our expectations regarding our future operations and financial position,
including revenues, costs and prospects, and our liquidity and capital
resources, including cash flows, sufficiency of cash resources, efforts to
reduce expenses and the potential for future financings; and
· the impact of the above factors and other future events on the market price and
trading volume of our common stock.
All forward-looking statements reflect management's present assumptions, expectations and beliefs regarding future events and are subject to known and unknown risks, uncertainties and other factors that could cause actual results to differ materially from those expressed in or implied by any forward-looking statements. These risks and uncertainties include those described under "Risk Factors" in Part II, Item 1A of this report. In light of these risks and uncertainties, our forward-looking statements should not be relied on as predictions of future events. Additionally, many of these risks and uncertainties are currently elevated by and may or will continue to be elevated by the COVID-19 pandemic. All forward-looking statements reflect our assumptions, expectations and beliefs only as of the date they are made, and except as required by law, we undertake no obligation to revise or update any forward-looking statements for any reason.
The following MD&A should be read in conjunction with our condensed consolidated
financial statements and the related notes included in Part I, Item 1 of this
report, as well as our Annual Report on Form 10-K for our fiscal year ended
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Overview
We provide high-performance modular memory subsystems to customers in diverse
industries that require enterprise and storage class memory solutions to empower
critical business decisions. We have a history of introducing disruptive new
products, such as one of the first load reduced dual in-line memory modules
("LRDIMM") based on our distributed buffer architecture, which has been adopted
by the industry for DDR4 LRDIMM. We were also one of the first to bring NAND
flash memory ("NAND flash") to the memory channel with our NVvault non-volatile
dual in-line memory modules ("NVDIMM") using software-intensive controllers and
merging dynamic random access memory integrated circuits ("DRAM ICs" or "DRAM")
and NAND flash to solve data bottleneck and data retention challenges
encountered in high-performance computing environments. We also offer storage
class memory products called HybriDIMM to address the growing need for real-time
analytics in Big Data applications, in-memory databases, high performance
computing and advanced data storage solutions. We publicly demonstrated a
HybriDIMM prototype in
Due to the ground-breaking product development of our engineering teams, we have
built a robust portfolio of over 130 issued and pending
We also resell solid state drive ("SSD"), NAND flash, DRAM products and other component products to end-customers that are not reached in the distribution models of the component manufacturers, including storage customers, appliance customers, system builders and cloud and datacenter customers.
For the three months ended
Recent Developments
Developments relating to SK hynix Proceedings
We have taken action to protect and defend our innovations by filing legal
proceedings for patent infringement against SK hynix and two of its subsidiaries
in the
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between the parties. The trial recommenced on
On
On
First Amendment to TRGP Agreement
On
Amendment to SVB Credit Agreement
On
2019 Lincoln Park Purchase Agreement
On
2020 Lincoln Park Purchase Agreement
On
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2020 and will issue up to 917,431 additional shares of our common stock as
additional commitment shares on a pro rata basis in connection with any
additional purchases. We will not receive any cash proceeds from the issuance of
these additional commitment shares. During the three months ended
Subsequent to
Paycheck Protection Program Loan
On
Economic Conditions, Challenges and Risks
Our performance, financial condition and prospects are affected by a number of factors and are exposed to a number of risks and uncertainties. We operate in a competitive and rapidly evolving industry in which new risks emerge from time to time, and it is not possible for us to predict all of the risks we may face, nor can we assess the impact of all factors on our business or the extent to which any factor or combination of factors could cause actual results to differ from our expectations. See the discussion of certain risks that we face under "Risk Factors" in Part II, Item 1A of this report.
Impact of COVID-19 on our Business
The impact that the recent novel coronavirus ("COVID-19") global pandemic will have on our consolidated results of operations is uncertain. Although we have observed demand increases in our products, we anticipate that the global health crisis caused by COVID-19 may negatively impact business activity across the globe. We will continue to actively monitor the situation and may take further actions altering our business operations that we determine are in the best interests of our employees, customers, suppliers, and stakeholders, or as required by federal, state, or local authorities. It is not clear what the potential effects of such alterations or modifications may have on our business, consolidated results of operations, financial condition, and liquidity.
Summary Results of Operations
Three Months Ended
March 28, March 30, %(dollars in thousands, except per share amounts) 2020 2019 Change Net sales
$ 14,631 $ 5,105 187% Gross profit 2,109 279 656% Operating loss (1,391) (3,779) -63% Net loss (1,542) (4,050) -62% Net loss per share-basic and diluted (0.01) (0.03) -67% 29 Table of ContentsNet Sales and Gross Profit
Net sales, cost of sales and gross profit for the three months ended
Three Months Ended
March 28, March 30, %
2020 2019 Change
Net sales $ 14,631 $ 5,105 187%
Cost of sales 12,522 4,826 159%
Gross profit $ 2,109 $ 279 656%
Gross margin 14.4% 5.5%
Net Sales
Net sales include resales of certain component products, including SSDs and DRAM products, and sales of our high-performance memory subsystems.
Our net sales increased by
Our sales in all periods presented were impacted by fluctuating customer concentrations. During the first quarter of 2020 and 2019, there was one customer that accounted for more than 10% of our net sales, with an aggregate of 11.4% and 11.1% of our net sales, respectively. In the first quarter of 2020, our four largest customers accounted for an aggregate of 29.7% of our net sales. Of these four customers, three customers did not contribute significant sales in the same quarter of 2019. In the first quarter of 2019, our four largest customers accounted for an aggregate of 32.8% of our net sales.
The fundamental semiconductor backdrop has been improving, and we did not see any material impact on our businesses due to the COVID-19 pandemic in the first quarter of 2020. However, visibility in our global markets is lacking and demand uncertainty is intensifying. As a result, it is difficult for us to predict the effects of the pandemic on our business.
Gross Profit and Gross Margin
Gross profit increased for the first quarter of 2020 compared to the same quarter of 2019 due primarily to higher sales and gross profits on the sale of enterprise SSD, Specialty SODIMM and RDIMM products. Our gross margin (or gross profit as a percentage of net sales) fluctuates based on the change in our product mix over periods and the relative cost of the factory.
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Operating Expenses
Operating expenses for the three months ended
Three Months Ended
March 28, March 30, %
2020 2019 Change
Research and development $ 654 $ 590 11%
Percentage of net sales 4% 12%
Intellectual property legal fees 625 1,495 (58%)
Percentage of net sales 4% 29%
Selling, general and administrative 2,221 1,973 13%
Percentage of net sales 15% 39%
Research and Development
Research and development expenses slightly increased for the first quarter of 2020 compared to the same quarter of 2019 due primarily to an increase in employee headcount and overhead, partially offset by a decrease in travel expenses.
Intellectual Property Legal Fees
Intellectual property legal fees consist of legal fees incurred for patent filings, protection and enforcement. Although we expect intellectual property legal fees to generally increase over time as we continue to protect, defend and enforce and seek to expand our patent portfolio, these increases may not be linear but may occur in lump sums depending on the due dates of patent filings and their associated fees and the arrangements we may make with our legal advisors in connection with enforcement proceedings, which may include fee arrangements such as with TRGP or contingent fee arrangements in which we would pay these legal advisors on a scaled percentage of any negotiated fees, settlements or judgments awarded to us based on if, how and when the fees, settlements or judgments are obtained. See Note 7 to the condensed consolidated financial statements included in Part I, Item 1 of this report for further discussion.
Pursuant to the terms of the TRGP Agreement, the legal expenses we incurred for
our first action against SK hynix at the ITC and our
Intellectual property legal fees decreased during the first quarter of 2020
compared to the same quarter of 2019 due primarily to lower legal expenses
incurred to defend our patent portfolio internationally, including the costs
incurred for our second ITC action and inter partes review of our patents before
the
Selling, General and Administrative
Selling, general and administrative expenses increased during the first quarter of 2020 compared to the same quarter of 2019 due primarily to an increase in sales and marketing payroll costs and related overhead and commissions, partially offset by a decrease in travel and product evaluation expenses.
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Other Expense, Net
Other expense, net for the three months ended
Three Months Ended
March 28, March 30, %
2020 2019 Change
Interest expense, net $ (148) $ (272) (46%)
Other (expense) income, net (3) 1 (400%)
Total other expense, net $ (151) $ (271) (44%)
Interest expense, net, consists primarily of interest expense on the
Liquidity and Capital Resources
Our primary sources of cash are historically proceeds from issuances of equity and debt securities and receipts from revenues, including from product sales and the NRE fee from our JDLA with Samsung. We have also funded our operations with a revolving line of credit under a bank credit facility, a funding arrangement for costs associated with certain of our legal proceedings against SK hynix and, to a lesser extent, equipment leasing arrangements.
The following tables present selected financial information as ofMarch 28, 2020 andMarch 30, 2019 and for the first three months of 2020 and 2019 (in thousands): March 28, December 28, 2020 2019 Cash and cash equivalents$ 5,713 $ 8,966 Convertible promissory note and accrued interest, net 15,921 15,793 Working capital 4,248 5,442 Three Months Ended March 28, March 30, 2020 2019 Net cash used in operating activities$ (4,380) $ (4,409) Net cash used in investing activities (12) (25)
Net cash provided by (used in) financing activities 1,289 (377)
Cash Flows from Operating Activities
During the three months ended
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During the three months ended
Cash Flows from Investing Activities
Net cash used in investing activities during the three months ended
Cash Flows from Financing Activities
During the three months ended
During the three months ended
Capital Resources
2019 Lincoln Park Purchase Agreement
On
2020 Lincoln Park Purchase Agreement
On
TRGP Agreement
On
SVB Credit Agreement
On
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adjustments as set forth in the SVB Credit Agreement. As of
As of
Paycheck Protection Program Loan
On
Sufficiency of Cash Balances and Potential Sources of
We believe our existing balance of cash and cash equivalents together with cash receipts from revenues, borrowing availability under the SVB Credit Agreement, the equity financing available under the 2020 and 2019 Lincoln Park Purchase Agreements, funds raised through the debt and equity offerings and taking into account cash expected to be used in our operations, will be sufficient to meet our anticipated cash needs for at least the next 12 months. Our capital requirements will depend on many factors, including, among others: the acceptance of, and demand for, our products; our levels of net product sales and any other revenues we may receive, including NRE, license, royalty or other fees; the extent and timing of any investments in developing, marketing and launching new or enhanced products or technologies; the costs of developing, improving and maintaining our internal design, testing and manufacturing processes; the costs associated with defending and enforcing our intellectual property rights; and the nature and timing of acquisitions and other strategic transactions in which we participate, if any.
Although we expect to rely in the near term on our existing cash and cash equivalents balance and our primary source of cash described above, our estimates of our operating revenues and expenses and working capital requirements could be incorrect, and we may use our cash resources faster than we anticipate. Further, some or all of our ongoing or planned investments may not be successful and could result in further losses. Until we can generate sufficient revenues to finance our cash requirements from our operations, which we may never do, we may need to increase our liquidity and capital resources by one or more measures, which may include, among others, reducing operating expenses, restructuring our balance sheet by negotiating with creditors and vendors, entering into strategic partnerships or alliances, raising additional financing through the issuance of debt, equity or convertible securities or pursuing alternative sources of capital, such as through asset or technology sales or licenses or other alternative financing arrangements. We may not be able to obtain capital when needed, on terms acceptable to us or at all and may have the need to seek the authorization of additional shares from our stockholders, which could be costly, time-consuming and unsuccessful.
Inadequate working capital would have a material adverse effect on our business and operations and could cause us to fail to execute our business plan, fail to take advantage of future opportunities or fail to respond to competitive pressures or customer requirements. A lack of sufficient funding may also require us to significantly modify our business model and/or reduce or cease our operations, which could include implementing cost-cutting measures or delaying, scaling back or eliminating some or all of our ongoing and planned investments in corporate infrastructure, research and development projects, business development initiatives and sales and marketing activities, among other activities. Modification of our business model and operations could result in an impairment of assets, the effects of which cannot be determined. Furthermore, if we continue to issue equity or convertible debt securities to raise additional funds, our existing stockholders may experience significant dilution, and the new equity or debt securities may have rights, preferences and privileges that are superior to those of our existing stockholders. If we incur additional debt, it may increase our leverage relative to our earnings or to our equity capitalization or have other material consequences. If we pursue asset or technology sales or licenses or other alternative financing arrangements to obtain additional capital, our operational capacity may be limited and any revenue streams or business plans that are dependent on the sold or licensed assets may be reduced or eliminated. Moreover, we may incur substantial costs in pursuing any future capital-raising
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transactions, including investment banking, legal and accounting fees, printing and distribution expenses and other similar costs, which would reduce the benefit of the capital received from the transaction.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditure or capital resources that is material to investors.
Critical Accounting Policies and Use of Estimates
The preparation of our condensed consolidated financial statements in conformity
with accounting principles generally accepted in
Our critical accounting policies and estimates are discussed in Note 2 to the condensed consolidated financial statements in this report and in the notes to consolidated financial statements in Part IV, Item 15 of our 2019 Annual Report and in the MD&A in our 2019 Annual Report. There have been no significant changes to our critical accounting policies since our 2019 Annual Report.
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