| BELL MICROPRODUCTS INC ITEM 1A RISK FACTORS You should consider carefully the risks described below together with all of the other information included in this Form 10-K The risks and uncertainties described below and elsewhere in this Form 10-K are not the only ones facing us |
| If any of the following risks actually occur, our business, financial condition or results of operations would likely suffer |
| In that case, the trading price of our common stock could fall, and you may lose all or part of your investment |
| 8 OUR QUARTERLY OPERATING RESULTS ARE VOLATILE AND MAY CAUSE OUR STOCK PRICE TO FLUCTUATE Our future revenues and operating results are likely to vary significantly from quarter to quarter due to a number of factors, many of which are outside our control |
| Accordingly, you should not rely on quarter-to-quarter comparisons of our operating results as an indication of future performance |
| It is possible that in some future periods our operating results will be below the expectations of public market analysts and investors |
| In this event, the price of our stock will likely decline |
| Factors that may cause our revenues, gross margins and operating results to fluctuate include: - the loss of key manufacturers or customers; - changes in vendor rebate and incentive programs; - heightened price competition; - problems incurred in managing inventories; - a change in the product mix sold by us; - customer demand (including the timing of purchases from significant customers); - changing global economic conditions; - our ability to manage credit risk and collect accounts receivable; - our ability to manage foreign currency exposure; - availability of product and adequate credit lines from manufacturers; and - the timing of expenditures in anticipation of increased sales |
| Due primarily to manufacturer rebate programs and increased sales volumes near the end of each quarter, a larger portion of our gross profit has historically been reflected in the third month of each quarter than in each of the first two months of such quarter |
| If we do not receive products from manufacturers or complete sales in a timely manner at the end of a quarter, or if rebate programs and marketing development funds are changed or discontinued, our operating results in a particular quarter could suffer |
| As a result of intense price competition, we have narrow gross profit margins |
| These narrow margins magnify the impact of variations in sales and operating costs on our operating results |
| Because our sales in any given quarter depend substantially on sales booked in the third month of the quarter, a decrease in such sales is likely to adversely and disproportionately affect our quarterly operating results |
| This is because our expense levels are partially based on our expectations of future sales, and we may be unable to adjust spending in a timely manner to compensate for any unexpected revenue shortfall |
| Due to our narrow margins and our limited ability to quickly adjust costs, any shortfall in sales in relation to our quarterly expectations will likely have an adverse impact on our quarterly operating results |
| WE RELY ON A RELATIVELY SMALL NUMBER OF KEY MANUFACTURERS FOR PRODUCTS THAT MAKE UP A SIGNIFICANT PORTION OF OUR NET SALES AND THE LOSS OF A RELATIONSHIP WITH A KEY MANUFACTURER COULD HAVE AN ADVERSE EFFECT ON OUR NET SALES We receive a significant portion of our net sales from products we purchase from a relatively small number of key manufacturers |
| In each of 2005 and 2004, five key manufacturers provided products that represented 44prca and 50prca, respectively, of our net sales |
| We believe that products from a relatively small number of manufacturers will continue to account for a significant portion of our net sales for the foreseeable future, and the portion of our net sales from products purchased from such manufacturers could continue to increase in the future |
| These key manufacturers have a variety of distributors to choose from and therefore can make substantial demands on us |
| In addition, our standard distribution agreement allows the manufacturer to terminate its relationship with us on short notice |
| Our ability to maintain strong relationships with our key 9 manufacturers, both domestically and internationally, is essential to our future performance |
| The loss of a relationship with a key manufacturer could have an adverse effect on our net sales |
| In addition, during the years 2001 through 2003, the downturn in the economy in general, and in the technology sector of the economy in particular, has led to increased consolidation among our manufacturers and may result in some manufacturers exiting the industry |
| Further, manufacturers have been consolidating the number of distributors they use |
| These events could negatively impact our relationships with our key manufacturers and may have an adverse effect on our net sales |
| There are several distributors of products similar to ours in each of the markets in which we operate |
| Additionally, the mix of products we sell also affects overall margins |
| If we increase revenue from products that are more widely distributed, these products may carry lower gross margins that can reduce our overall gross profit percentage |
| There can also be a negative impact on gross margins from factors such as freight costs and foreign exchange exposure |
| These factors, alone or in combination, can have a negative impact on our gross profit percentage |
| THE FAILURE OF OUR KEY SUPPLIERS TO KEEP PACE WITH RAPID TECHNOLOGICAL CHANGES IN OUR INDUSTRY AND TO SUCCESSFULLY DEVELOP NEW PRODUCTS COULD CAUSE OUR SALES TO DECLINE AND OUR REVENUES TO DECREASE Our ability to generate increased revenues depends significantly upon the ability and willingness of suppliers to develop new products on a timely basis in response to rapid technological changes in our industry |
| Our suppliers must commit significant resources each time they develop a product |
| If they do not invest in the development of new products, then sales of our products to our customers may decline and our revenues may decrease |
| The ability and willingness of our suppliers to develop new products is based upon a number of factors beyond our control |
| THE TECHNOLOGY PRODUCTS MARKETPLACE HAS BEEN MATURING WHICH MAY AFFECT DEMAND FOR OUR PRODUCTS AND IMPACT OUR PRICING AND GROSS MARGINS Over the past several years, the growth rate in spending on the types of technology products we distribute has decreased from the growth rates experienced prior to 2000 |
| While there has been an increase recently in the rate of spending as compared with 2001 through mid-2003, this increase may not be sustainable at its current level and there may be declines in technology spending in the future |
| A reduction in spending may result in a decline in our net sales and gross margins due to decreased sales volumes and price competition |
| OUR INVENTORY MAY DECLINE IN VALUE DUE TO INVENTORY SURPLUS, PRICE REDUCTIONS OR TECHNICAL OBSOLESCENCE THAT COULD HAVE AN ADVERSE EFFECT ON OUR BUSINESS The value of our inventory may decline as a result of surplus inventory, price reductions or technological obsolescence |
| Our distribution agreements typically provide us with only limited price protection and inventory return rights |
| In addition, we purchase significant amounts of inventory under contracts that do not provide any inventory return rights or price protection |
| Without price protection or inventory return rights for our inventory purchases, we bear the sole risk of obsolescence and price reductions |
| Even when we have price protection and inventory return rights, there can be no guarantee we will be able to return the products to the manufacturer or to collect refunds for those products in a timely manner, if at all |
| 10 SUPPLY SHORTAGES COULD ADVERSELY AFFECT OUR OPERATING RESULTS AND CASH FLOWS We are dependent on the supply of products from our vendors |
| Our industry is characterized by periods of product shortages due to vendors &apos difficulty in projecting demand |
| When such shortages occur, we typically receive an allocation of product from the vendor |
| There can be no assurance that vendors will be able to maintain an adequate supply of products to fulfill all of our customers &apos orders on a timely basis |
| If we are unable to enter into and maintain satisfactory distribution arrangements with leading vendors and an adequate supply of products, we may be late in shipping products, causing our customers to purchase products from our competitors which could adversely affect our net sales, operating results and customer relationships |
| OUR FINANCIAL OBLIGATIONS MAY LIMIT OUR ABILITY TO OPERATE OUR BUSINESS The agreements governing our revolving lines of credit and our 9prca senior subordinated notes contain various restrictive covenants that, among other things, require us to comply with or maintain certain financial tests and ratios that limit our ability to operate our business |
| If we do not comply with the covenants contained in the agreements governing our revolving lines of credit and our 9prca senior subordinated notes, our lenders may demand immediate repayment of amounts outstanding |
| Additionally, under the terms of our 3 3/4prca Convertible Subordinated Notes, Series B due 2024, holders have the right to convert their notes upon the occurrence of certain events, including but not limited to the closing price of our common stock exceeding a certain threshold for at least 20 of the last 30 days in preceding fiscal quarters and upon specified corporate transactions, all as described in more detail in the prospectus filed in connection with the exchange offer |
| Upon the occurrence of any such conversion event, we have an obligation to deliver, at a minimum, cash in an amount equal to the principal amount of each note tendered for conversion |
| Our ability to comply with these debt obligations will depend upon our future operating performance, which may be affected by prevailing economic conditions and financial, business and other factors described herein and in our other SEC filings, many of which are beyond our control |
| If we are unable to meet our debt obligations, we may be forced to adopt one or more strategies such as reducing or delaying capital expenditures or otherwise slowing our growth strategies, selling assets, restructuring or refinancing our indebtedness or seeking additional equity capital |
| We do not know whether any of these actions could be effected on satisfactory terms, if at all |
| Additionally, any equity financing may be on terms that are dilutive or potentially dilutive |
| If we are unable to successfully manage our debt burden, and the potential short-term obligation relating to our convertible notes, our financial condition would suffer considerably |
| Changes in interest rates may also have a significant effect on our operating results |
| Furthermore, we are dependent on credit from our manufacturers to fund our inventory purchases |
| If our debt burden increases to high levels, our manufacturers may restrict our credit |
| Our cash requirements will depend on numerous factors, including the rate of growth of our sales, the timing and levels of products purchased, payment terms and credit limits from manufacturers, the timing and level of our accounts receivable collections and our ability to manage our business profitably |
| SUBSTANTIAL LEVERAGE AND DEBT SERVICE OBLIGATIONS MAY ADVERSELY AFFECT OUR CASH FLOW Our revolving lines of credit and our 9prca senior subordinated notes impose significant debt service obligations on us and expose us to certain risks associated with being a substantially leveraged company |
| In March 2004, we issued our 3 3/4prca convertible subordinated notes (the "e Old Notes "e ), resulting in net proceeds of dlra106cmam300cmam000 |
| We used all of the net proceeds of the offering to repay a portion of amounts outstanding under our revolving lines of credit and our 9prca senior subordinated notes |
| In December 2004, we exchanged 99dtta6prca of the Old Notes for our 3 3/4prca Convertible Subordinated Notes, Series B due 2024 (the "e New Notes "e ) pursuant to an exchange offer with holders of the Old Notes |
| As a result of the issuance of the notes, our leverage and debt service obligations may increase |
| Under the terms of the New Notes, holders have the right to convert their notes upon the occurrence of certain events, including but not limited to the closing price of our common stock exceeding a certain threshold for at least 20 of the last 30 days in preceding fiscal quarters and upon specified corporate transactions, as described in more detail in the prospectus filed in connection with the exchange offer |
| Upon the occurrence of any such conversion event, 11 we have an obligation to deliver to holders electing to convert their New Notes, at a minimum, cash in an amount equal to the principal amount of each note tendered for conversion |
| There is the possibility that we may be unable to generate cash sufficient to pay the principal of, interest on and other amounts due in respect of our indebtedness when due |
| Our substantial leverage could also have significant negative consequences, including: - increasing our vulnerability to general adverse economic and industry conditions; - increasing our exposure to fluctuating interest rates; - restricting our credit with our manufacturers which would limit our ability to purchase inventory; - limiting our ability to obtain additional financing; - requiring the dedication of a portion of our expected cash flow from operations to service our indebtedness, thereby reducing the amount of our expected cash flow available for other purposes, including capital expenditures; - limiting our flexibility in planning for, or reacting to, changes in our business and the industry in which we compete; and - placing us at a possible competitive disadvantage relative to less leveraged competitors and competitors that have better access to capital resources |
| We are not restricted under the indenture governing the notes from incurring additional debt in the future |
| As a result of using the net proceeds to pay down amounts outstanding on our revolving lines of credit, we may also incur substantial additional debt under the facilities |
| If new debt is added to our current levels, our leverage and debt service obligations would increase and the related risks described above could intensify |
| IF WE DO NOT CONTROL OUR OPERATING EXPENSES, WE MAY NOT BE ABLE TO COMPETE EFFECTIVELY IN OUR INDUSTRY Our strategy involves, to a substantial degree, increasing revenues while at the same time controlling operating expenses |
| In furtherance of this strategy, we have engaged in ongoing, company-wide efficiency activities intended to increase productivity and reduce costs |
| These activities have included significant personnel reductions, reduction or elimination of non-personnel expenses and realigning and streamlining operations and consolidating business lines |
| We cannot assure you that our efforts will result in the increased profitability, cost savings or other benefits that we expect |
| Moreover, our cost reduction efforts may adversely affect the effectiveness of our financial and operational controls, our ability to distribute our products in required volumes to meet customer demand and may result in disruptions that affect our products and customer service |
| OUR ABILITY TO OPERATE EFFECTIVELY COULD BE IMPAIRED IF WE WERE TO LOSE THE SERVICES OF KEY PERSONNEL, OR IF WE ARE UNABLE TO RECRUIT QUALIFIED MANAGERS AND KEY PERSONNEL IN THE FUTURE Our success largely depends on the continued service of our management team and key personnel |
| If one or more of these individuals, particularly W Donald Bell, our Chairman, Chief Executive Officer and President, were to resign or otherwise terminate their employment with us, we could experience a loss of sales and vendor relationships and diversion of management resources |
| Competition for skilled employees is intense and there can be no assurance that we will be able to recruit and retain such personnel |
| If we are unable to retain our existing managers and employees or hire and integrate new management and employees, we could suffer material adverse effects on our business, operating results and financial condition |
| We believe that international sales will represent a potentially increasing portion of our net sales for the foreseeable future |
| Our international operations are subject to a number of risks, including: - Fluctuations in currency exchange rates; - vendor programs, terms and conditions in multiple countries; - political and economic instability; - longer payment cycles and unpredictable sales cycles; - difficulty in staffing and managing foreign operations; - import and export license requirements, tariffs, taxes and other trade barriers; - our ability to prevent inventory theft in certain foreign jurisdictions; and - the burden of complying with a wide variety of foreign laws, treaties and technical standards and changes in those regulations |
| The majority of our revenues and expenditures in our foreign subsidiaries are transacted in the local currency of the country where the subsidiary operates |
| For each of our foreign subsidiaries, the local currency is also the functional currency |
| Fluctuations in currency exchange rates could cause our products to become relatively more expensive to customers in a particular country, leading to a reduction in sales or profitability in that country |
| To the extent our revenues and expenses are denominated in currencies other than US dollars, gains and losses on the conversion to US dollars may contribute to fluctuations in our operating results |
| In addition, we have experienced foreign currency remeasurement gains and losses because a significant amount of our foreign subsidiaries &apos remeasurable net assets and liabilities are denominated in US dollars rather than the subsidiaries &apos functional currency |
| As we continue to expand globally and the amount of our foreign subsidiaries &apos US dollar or non-functional currency denominated, remeasurable net asset or liability position increases, our potential for fluctuations in foreign currency remeasurement gains and losses will increase |
| We have in the past, and expect in the future, to enter into hedging arrangements and enter into local currency borrowing facilities to reduce this exposure, but these arrangements may not be adequate |
| Our inability to successfully complete the restructuring of our European operations could negatively impact our results of operations |
| On November 23, 2005, we announced the commencement of certain restructuring activities with respect to our European operations |
| In connection with the restructuring, we closed an office in Sweden, reduced headcount and consolidated certain back office support functions |
| We also realigned certain product lines in response to market trends and streamlined our inventory warehousing and European product distribution system |
| There can be no guarantee that the assumptions underlying our decision to undertake the restructuring will prove to be correct or that we will be able to effectively manage the loss of certain personnel and other European distribution infrastructure or the discontinuation of certain product lines |
| General economic factors and other factors beyond our control could cause the actual results of the restructuring to differ materially from those expected by management |
| If our assumptions prove to be incorrect or we are unable to effectively manage the restructuring, our operating income from our European operations and our consolidated results of operations could be negatively impacted |
| Further, even if we are able to successfully implement and manage the restructuring, there can be no guarantee that the restructuring will improve our European results of operations |
| OUR INABILITY TO EFFECTIVELY MANAGE OUR ACCOUNTS RECEIVABLE COULD HAVE A SIGNIFICANT NEGATIVE IMPACT ON OUR FINANCIAL CONDITION, RESULTS OF OPERATIONS AND LIQUIDITY A significant portion of our working capital consists of accounts receivable from customers |
| If customers responsible for a significant percentage of our accounts receivable were to become insolvent or otherwise unable to pay for products and services, or were to become unwilling or unable to make payments in a 13 timely manner, our operating results and financial condition could be adversely affected |
| If there is an economic downturn which has a significant negative impact on our business, it could also have an adverse effect on the servicing of our accounts receivable, which could result in longer payment cycles, increased collection costs and defaults in excess of managementapstas expectations |
| A significant deterioration in our ability to collect on accounts receivable could also impact the cost or availability of financing |
| Further, our revolving lines of credit enable us to borrow funds for operations based on our levels of accounts receivable and inventory and the agreement governing our senior subordinated notes restricts the amount of additional debt we can incur based on our levels of accounts receivable and inventory |
| If our accounts receivable and inventories are not at adequate levels, we may face liquidity problems in operating our business |
| IF WE ARE UNABLE TO EFFECTIVELY COMPETE IN OUR INDUSTRY, OUR OPERATING RESULTS MAY SUFFER The markets in which we compete are intensely competitive |
| As a result, we will face a variety of significant challenges, including rapid technological advances, price erosion, changing customer preferences and evolving industry standards |
| Our competitors continue to offer products with improved price and performance characteristics, and we will have to do the same to remain competitive |
| Increased competition could result in significant price competition, reduced revenues, lower profit margins or loss of market share, any of which would have a material adverse effect on our business |
| We cannot be certain that we will be able to compete successfully in the future |
| We compete for customer relationships with numerous local, regional, national and international distributors |
| We also compete for customer relationships with manufacturers, including some of our manufacturers and customers |
| We believe our most significant competition for customers seeking both products and services arises from Arrow Electronics, Avnet and European value-added distributors including IN Technology, Magirus and ECT Best &apos Ware |
| We believe our most significant competition for customers seeking only products arises from Ingram Micro, Tech Data and Synnex |
| We also compete with regionalized distributors in North America, Europe and Latin America who use their localized knowledge and expertise as a competitive advantage |
| Competition for customers is based on product line breadth, depth and availability, competitive pricing, customer service, technical expertise, value-added services and e-commerce capabilities |
| While we believe we compete favorably with respect to these factors, some of our competitors have superior brand recognition and greater financial resources than we do |
| If we are unable to successfully compete, our operating results may suffer |
| We also compete with other distributors for relationships with manufacturers |
| In recent years, a growing number of manufacturers have begun consolidating the number of distributors they use |
| This consolidation will likely result in fewer manufacturers in our industry |
| As a result of this consolidation we may lose existing relationships with manufacturers |
| In addition, manufacturers have established and may continue to establish cooperative relationships with other manufacturers and data storage solution providers |
| These cooperative relationships may enable manufacturers to offer comprehensive solutions that compete with those we offer and the manufacturers may have greater resources to devote to internal sales and marketing efforts |
| If we are unable to maintain our existing relationships with manufacturers and establish new relationships, it could harm our competitive position and adversely affect our operating results |
| IF WE ARE UNABLE TO KEEP PACE WITH RAPID TECHNOLOGICAL CHANGE, OUR RESULTS OF OPERATIONS, FINANCIAL CONDITION AND CASH FLOWS MAY SUFFER Many of the products we sell are used in the manufacture or configuration of a wide variety of electronic products |
| These products are characterized by rapid technological change, short product life cycles and intense competition and pricing pressures |
| Our continued success depends upon our ability to continue to identify new vendors and product lines that achieve market acceptance, emerging technologies, develop technological 14 expertise in these technologies and continually develop and maintain relationships with industry leaders |
| If we are unsuccessful in our efforts, our results of operations and financial condition may suffer |
| FAILURE TO IDENTIFY ACQUISITION OPPORTUNITIES AND INTEGRATE ACQUIRED BUSINESSES INTO OUR OPERATIONS SUCCESSFULLY COULD REDUCE OUR REVENUES AND PROFITS AND MAY LIMIT OUR GROWTH An important part of our growth has been the acquisition of complementary businesses |
| Our identification of suitable acquisition candidates involves risks inherent in assessing the value, strengths, weaknesses, overall risks and profitability of acquisition candidates |
| We may be unable to identify suitable acquisition candidates |
| If we do not make suitable acquisitions, we may find it more difficult to realize our growth objectives |
| The process of integrating new businesses into our operations, including our recently completed acquisitions, poses numerous risks, including: - an inability to assimilate acquired operations, information systems, and internal control systems and products; - diversion of managementapstas attention; - difficulties and uncertainties in transitioning the business relationships from the acquired entity to us; and - the loss of key employees of acquired companies |
| In addition, future acquisitions by us may be dilutive to our shareholders, cause us to incur additional indebtedness and large one-time expenses or create intangible assets that could result in significant amortization expense |
| If we spend significant funds or incur additional debt, our ability to obtain necessary financing may decline and we may be more vulnerable to economic downturns and competitive pressures |
| We cannot guarantee that we will be able to successfully complete any acquisitions, that we will be able to finance acquisitions or that we will realize any anticipated benefits from acquisitions that we complete |
| IF WE CANNOT EFFECTIVELY MANAGE OUR GROWTH, OUR BUSINESS MAY SUFFER Our growth since our initial public offering in 1993 has placed, and continues to place, a significant strain on our management, financial, operational, technical, sales and administrative resources |
| We intend to continue to grow by increasing our sales efforts and completing strategic acquisitions |
| To effectively manage our growth, we must, among other things: - engage, train and manage a larger sales force and additional service personnel; - expand the geographic coverage of our sales force; - expand our information systems; - identify and successfully integrate acquired businesses into our operations; and - enforce appropriate financial and administrative control procedures |
| Any failure to effectively manage our growth may cause our business to suffer and our stock price to decline |
| As directed by Section 404 of the Sarbanes-Oxley Act of 2002, the Securities and Exchange Commission adopted rules requiring public companies to include a report of management on the companyapstas internal control 15 over financial reporting in their annual reports on Form 10-K that contains an assessment by management of the effectiveness of the companyapstas internal control over financial reporting |
| In addition, the independent registered public accounting firm auditing the companyapstas financial statements must attest to and report on managementapstas assessment of the effectiveness of the companyapstas internal control over financial reporting |
| We have performed the system and process evaluation and testing required in an effort to comply with the management certification and auditor attestation requirements |
| While we intend to conduct a rigorous review of our internal control over financial reporting in order to assure compliance with the Section 404 requirements, if our independent registered public accounting firm interprets the Section 404 requirements and the related rules and regulations differently from us or if our independent registered public accounting firm is not satisfied with our internal control over financial reporting or with the level at which it is documented, operated or reviewed, they may decline to attest to managementapstas assessment or issue a qualified report |
| Additionally, if we are not able to continue to meet the requirements of Section 404 in a timely manner or with adequate compliance, we might be subject to sanctions or investigation by regulatory authorities, such as the SEC or the Nasdaq Global Market |
| Any such actions could result in an adverse reaction in the financial markets due to a loss of confidence in the reliability of our financial statements, which could cause the market price of our common stock to decline |
| SOME OF OUR OPERATIONS ARE LOCATED IN CALIFORNIA AND, AS A RESULT, ARE SUBJECT TO NATURAL DISASTERS, WHICH COULD RESULT IN A BUSINESS STOPPAGE AND NEGATIVELY AFFECT OUR OPERATING RESULTS Our business operations depend on our ability to maintain and protect our facilities, computer systems and personnel |
| Our corporate headquarters and a significant portion of our business operations, computer systems and personnel are located in the San Francisco Bay area which is in close proximity to known earthquake fault zones |
| Our facilities and transportation for our employees are susceptible to damage from earthquakes and other natural disasters such as fires, floods and similar events |
| Should an earthquake or other catastrophes, such as fires, floods, power loss, communication failure or similar events disable our facilities, we have limited available alternative facilities from which we could conduct our business, which stoppage could have a negative effect on our operating results |