| FARGO ELECTRONICS INC Item 1A RISK FACTORS The following factors are important and should be considered carefully in connection with any evaluation of our business, financial condition, results of operations, prospects and an investment in our common stock |
| Additionally, the following factors could cause our actual results to materially differ from those reflected in any forward-looking statements |
| In this report we make, and from time to time we otherwise make, written and oral statements regarding our business and prospects, such as projections of future performance, statements of management’s plans and objectives, forecasts of market trends, and other matters that are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 |
| Statements containing the words or phrases “will likely result,” “are expected to,” “will continue,” “is anticipated,” “estimates,” “projects,” “believes,” “expects,” “anticipates,” “intends,” “target,” “goal,” “plans,” “objective,” “should” or similar expressions identify forward-looking statements, which may appear in documents, reports, filings with the Securities and Exchange Commission, news releases, written or oral presentations made by officers or other representatives made by us to analysts, stockholders, investors, news organizations and others, and discussions with management and other representatives of us |
| For such statements, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995 |
| Our future results, including results related to forward-looking statements, involve a number of risks and uncertainties |
| Any forward-looking statement speaks only as of the date on which such statement is made |
| Our forward-looking statements are based upon assumptions that are sometimes based upon estimates, data, communications and other information from suppliers, government agencies and other sources that may be subject to revision |
| Except as required by law, we do not undertake any obligation to update or keep current either (i) any forward-looking statement to reflect events or circumstances arising after the date of such statement, or (ii) the important factors that could cause our future results to differ materially from historical results or trends, results anticipated or planned by us, or which are reflected from time to time in any forward-looking statement |
| If we cannot or do not adequately protect or enforce our domestic or international intellectual property rights, others may offer products similar to ours which could depress our prices and gross profit margins or result in loss of market share |
| We believe that protecting our proprietary technology is important to our success and competitive positioning |
| In addition to common law intellectual property rights, we currently rely on a combination of patents, trademarks, license agreements and contractual provisions to establish and protect our intellectual property rights |
| Our failure to protect or enforce our intellectual property rights could have a material adverse effect on our business, results of operations and financial condition |
| We cannot be certain that the steps we take 12 ______________________________________________________________________ to protect our intellectual property will adequately protect our proprietary rights, that others will not independently develop or otherwise acquire equivalent or superior technology or that we can maintain any of our technology as trade secrets |
| We have instigated litigation to protect our intellectual property rights in the United States, Korea and China |
| Moreover, we recently received an adverse partial summary judgment ruling in our litigation with Iris Ltd, Inc, which we plan to appeal |
| The results of any of this litigation could include the loss of patent rights in those countries, limitation of the protection afforded by our patents or other adverse results |
| In general, intellectual property litigation could result in substantial costs to us and the diversion of significant time and effort by our executive management, and may be necessary to enforce our patents and trademarks and to protect our trade secrets and proprietary technology |
| We cannot assure you that we will have the financial resources necessary to enforce or defend our intellectual property rights |
| We also cannot assure you that we would prevail in any such litigation or that, if we are unsuccessful, we would be able to obtain any necessary licenses on reasonable terms or at all |
| The laws of some of the countries in which our systems are or may be sold may not protect our systems and intellectual property to the same extent as the United States or at all |
| We may not be able to adequately protect ourselves against infringement claims of others, which if successfully brought could require us to redesign or cease marketing our products |
| We cannot be certain that we have not infringed the proprietary rights of others |
| Any such infringement could cause third parties to bring claims against us, resulting in significant costs, possible damages and substantial uncertainty |
| We could also be forced to develop a non-infringing alternative, which could be costly and time-consuming |
| Our markets are highly competitive and many of our competitors have substantial resources |
| Competition may result in price reductions, lower gross profits and loss of market share |
| We face significant competition in developing and selling our systems |
| Our principal competitors have substantial marketing, financial, development and personnel resources |
| To remain competitive, we believe that we must continue to provide: • technologically advanced and innovative systems that satisfy the demands of end users; • a dependable and efficient distribution and integrator network; • superior customer service; and • high levels of quality and reliability |
| We cannot assure you that we will be able to compete successfully against our current or future competitors |
| The security printing system market has increased visibility, which may lead to large, well-known, well financed companies entering into this market |
| Increased competition from manufacturers of systems or consumable materials may result in price reductions, lower gross profit margins, increased discounts to distribution and loss of market share and could require increased spending by us on research and development, sales and marketing and customer support |
| Some of our competitors may make strategic acquisitions or establish cooperative relationships with suppliers or companies that produce complementary products such as cameras, computer equipment, software or biometric applications |
| If any technology that is competing with ours becomes more reliable, higher performing, less expensive or has other advantages over our technology, then the demand for our products could decrease |
| We rely on sole and single-source suppliers, which could cause delays, increases in costs or prevent us from completing customer orders, all of which could materially harm our business |
| We rely on outside vendors to manufacture or develop products and consumable materials that are used in our systems |
| We purchase critical components for our systems, including print heads, High Definition Printer ribbons, inkjet printer chassis, inkjet ink, inkjet cards and microprocessors from separate single-source suppliers |
| Our inability to obtain adequate deliveries or alternative sources of supply could cause delays, loss of sales, 13 ______________________________________________________________________ increases in costs and lower gross profit margins |
| Currently, our sole supplier of print heads for dye sublimation printers is Kyocera Corporation, based in Japan; our two suppliers of dye sublimation ribbons are Dai Nippon and Sony Chemical Corporation, both also based in Japan; and our supplier of most of the microprocessors that run our printers is Motorola |
| Dai Nippon is the sole producer of High Definition Printing ribbon and film and may choose not to sell to us |
| We purchase inkjet printer chassis and ink from Hewlett-Packard and purchase inkjet proximity cards from AccessID If any of these suppliers is unable to ship critical components, we would be unable to manufacture and ship products to our customers |
| If the price of print heads, ribbons or microprocessors increases for any reason, or if these suppliers are unable or unwilling to deliver, we may have to find another source, which could result in interruptions, increased costs, delays, loss of sales and quality control problems |
| War, natural disaster, trade embargoes or economic hardship in Japan could also result in a disruption in shipments from our Japanese suppliers, which could require us and our competitors to develop new sources of these supplies or else cause us to be unable to complete and ship orders to our customers |
| Our business success depends wholly on the continued demand for card printing systems and related materials |
| Because we sell card issuance systems which incorporate printers, materials and software, our business depends on the continued demand for cards for identification, access control and other purposes |
| Demand for our products could decline if businesses and organizations use alternative technologies for these purposes that do not involve the use of a card such as biometrics |
| Several identification programs, such as the US-VISIT program, incorporate biometrics without the use of a card |
| Any such changes in the business environment or competition from current and potential competitors could significantly erode the demand for our systems and cause our business to suffer |
| If demand on the part of governmental agencies and large customers are reduced, this could significantly impact our revenue |
| Our products incorporate technologies that we do not own and we could lose revenue if we are unable to obtain these technologies in the future |
| Our products incorporate technologies over which we have no control, including thermal print head technology, dye sublimation technology, software, microprocessors, inkjet technology and inkjet receptive cards |
| The owners of these technologies are free to sell or license these technologies to our competitors, agree to supply these technologies exclusively to a third party or enter the market for our systems as our competitor |
| If any of these events occurs, the owners of these technologies could choose not to continue to supply us with vital system components, which would result in the diversion of our research and development resources and could result in lost revenue, inability to ship products and harm to our reputation |
| Some of these technologies are incorporated into new systems and if these systems are not shipped, we will see a material adverse impact to our revenues in the foreseeable future |
| The design of our systems or where they are manufactured could result in manufacturing delays and other problems that cause us to fail to meet the demand for our systems on a timely basis, increase the cost of our systems, or both |
| We have experienced manufacturing problems with some of our systems in the past |
| Similar problems in the future could lead to production delays that could cause our distribution network to choose to sell competing systems |
| In addition, manufacturing problems could result in higher material, labor and other costs, which could increase the total cost of our systems and could decrease our gross profit margins |
| We may choose to manufacture products in other locations than our Minnesota facility, which could require higher tooling expenses, more inventory, management time to set up such production and supply chain management requirements as well as other unforeseen problems |
| We may be subject to delays in shipping and the loss of control of our designs and intellectual property |
| The risk of war and disruption in an international location could be higher |
| We may be impacted by the choice of location of manufacture by our competitors who may be able to reduce costs at a faster rate due to manufacturing in lower cost regions of the world |
| 14 ______________________________________________________________________ Our systems may have manufacturing or design defects that we discover after shipment, which could negatively affect our revenues, increase our costs and harm our reputation |
| Our systems are complex and may contain undetected and unexpected defects, errors or failures |
| If these product defects are substantial, the result could be product recalls, an increased amount of product returns, loss of market acceptance and damage to our reputation, all of which could increase our costs and cause us to lose sales |
| We carry general commercial liability insurance, including product liability, with a coverage limit of two million dollars per occurrence plus an umbrella policy with a five million dollar limit, however, coverage may not be included on certain risks |
| Our insurance may be insufficient to protect us against losses caused by severe defects in our products |
| The design flaws may be exacerbated by the location where the product is manufactured |
| We may not deliver systems that we have introduced on a timely basis, which could impact our anticipated revenue, and allow competitors to respond to our product introductions, introduce competing products or introduce superior products |
| These delays, which may occur on future product introductions, may allow competition to respond to our plans, which could impact our revenue, or result in the introduction of competing products that reduce the innovative value of our products or could be technologically superior to the product we introduced |
| We do not maintain significant inventories of component parts or finished goods and our failure to adequately forecast demand could result in shortages and damage our business |
| Because most of our systems are built upon order, we do not maintain a significant inventory of completed systems |
| We maintain only limited inventories of component parts and consumable supplies, although we enter into purchase agreements with certain suppliers that require us to purchase minimum amounts |
| We endeavor to produce systems as they are ordered, which causes us to forecast production based on past sales and our estimates of future demand |
| In the event that we significantly underestimate our needs or encounter an unexpectedly high level of demand for our systems or our suppliers are unable to deliver our orders of components in a timely manner, we may be unable to fill our product orders on time which could harm our reputation and result in reduced sales |
| We are in the process of implementing a new enterprise resource planning system |
| The migration from our old system to this new system could lead to the inability to process customer orders, meet demand or forecast the appropriate inventory levels |
| Our strategy of providing secure issuance solutions may not be successful |
| We have been developing secure issuance solutions, which include card printer/encoders, materials and software, for identification card printing |
| Our distribution system may view these as competitive threats to their integration business or no longer perceive us as the best choice for purchasing ID systems |
| We may spend engineering, marketing and sales efforts on products that do not generate appreciable revenue |
| Technology in our industry evolves rapidly, potentially causing our products to become obsolete, and we must continue to enhance existing systems and develop new systems or we will lose sales |
| Rapid technological advances, rapidly changing customer requirements and fluctuations in demand characterize the current market for our products |
| Our existing and development-stage products may become obsolete if our competitors introduce newer or more appealing technologies |
| If these technologies are patented or proprietary to our competitors, we may not be able to access these technologies |
| To be successful, we must constantly enhance our existing systems and develop and introduce new systems |
| If we fail to anticipate or respond to technological developments or customer requirements, or if we are significantly delayed in developing and introducing products, our business will suffer lost sales |
| 15 ______________________________________________________________________ All of our sales are made through independent distributors and integrators, over whom we have limited control, and if they do not effectively market or sell our products, our sales will decline |
| All of our revenue comes from sales through our distributor and integrator network, and we do not sell our products directly to end users |
| Although certain distributors and integrators have made certain contractual commitments to us, they are independent businesses that we do not control and these contractual commitments may be terminated with limited notice and without a particular reason for termination |
| We cannot be certain that companies who have committed to exclusively sell our printing systems will remain exclusive or that our distribution will continue to market or sell our systems effectively |
| Our agreements with distributors and integrators of our Professional Series line of systems do not contain requirements that a certain percentage of sales are of our products nor do they restrict the ability of our distribution to choose alternative sources for printing systems |
| We have made changes to our distribution system, and may do so again in the future, both in the United States and internationally, and these changes could adversely affect our relationships with distribution and our sales |
| We have contractual agreements with certain integrators to be exclusive partners, however, these contracts do not place restrictions that limit the exclusive integrators from changing their exclusive status |
| We are dependent upon the continued viability and financial stability of our distribution, many of which are small organizations with limited capital |
| These distributors and integrators may choose to devote their efforts to other products in different markets or reduce or fail to devote the necessary resources to provide effective sales and marketing support of our product |
| We believe that our future growth and success will continue to depend in large part upon the success of our distributors in operating their own businesses |
| 16 ______________________________________________________________________ We sell a significant portion of our products internationally and purchase important components from foreign suppliers, which exposes us to currency fluctuations and other risks |
| We sell a significant amount of our products to customers outside the United States |
| International sales accounted for 45prca, 44prca and 42prca of our net sales in 2005, 2004 and 2003, respectively |
| We expect that shipments to international customers will continue to account for a significant portion of our net sales |
| Sales outside the United States involve the following risks, among others: • foreign governments may impose tariffs, quotas and taxes; • political and economic instability may reduce demand for our products; • restrictions on the export or import of technology may reduce or eliminate our ability to sell in certain markets; • potentially limited intellectual property protection in certain countries may limit our recourse against infringing products or cause us to refrain from selling in certain markets; • certain countries may have legal requirements that impact our ability to change our distribution without economic impact; • we sell in dollars, not in the currencies of the countries that we export to; • we may decide to price our products in foreign currency denominations; • we do not maintain any overseas warehouses to carry inventory; • we may add overseas warehouses or manufacturing that could increase our inventories and increase our reliance on shipments from a foreign country; • our contracts with foreign distributors and integrators do not fully protect us against political and economic instability; • we may face difficulties in collecting receivables; and • we may not be able to control our international distributors’ efforts on our behalf |
| Currently, we do not hedge against foreign currency fluctuations |
| Because we denominate our international sales in US dollars, currency fluctuations could also cause our products to become less affordable or less price competitive than those of foreign manufacturers |
| These factors may have a material adverse effect on our international sales |
| In addition, we purchase components from a number of foreign suppliers and outsource certain manufacturing tasks to foreign manufacturers |
| Currently, we purchaser all components in US dollars but we may not be able to do so in the future, we may have to renegotiate prices due to currency fluctuations or we may choose to purchase products in a foreign currency |
| If our systems fail to comply with domestic and international government regulations, or if these regulations result in a barrier to our business, we could lose sales |
| Our systems must comply with various domestic and international laws, regulations and standards |
| In the event that we are unable or unwilling to comply with any such laws, regulations or standards, we may decide not to conduct business in certain markets |
| Particularly in international markets, we may experience difficulty in securing required licenses or permits on commercially reasonable terms, or at all |
| Failure to comply with existing or evolving laws or regulations, including export and import restrictions and barriers, or to obtain timely domestic or foreign regulatory approvals or certificates could result in lost sales |
| 17 ______________________________________________________________________ International environmental regulations, such as the Reduction of Hazardous Substances (RoHS) and Waste of Electrical and Electronic Equipment (WEEE), could increase costs or limit our ability to sell products |
| Many governments are increasing enforcement of environmental requirements for manufacturers of electronic equipment |
| In the European Union, the WEEE directive and RoHS directive require significant changes to the manufacture and recycling of electronic equipment, including many of our products |
| We may have to set up recycling groups, redesign products, change suppliers and increase testing in order to comply with these directives |
| Any or all of these could increase costs of manufacturing and sales and marketing costs |
| If we do not comply with these governmental regulations, we may not be able to ship products into a market, which could adversely affect our sales |
| The WEEE directive also could affect our consumable sales, as the recyclability of ink jet cartridges has been discussed as part of the WEEE directive |
| This could also affect the sale of dye sublimation ribbons, laminates and cards, all of which are products that we sell |
| We anticipate that the regulation of these issues will increase, in the European Union, in other countries world-wide and in the United States |
| Our quarterly operating results have been volatile as a result of many factors and continued volatility may cause our stock price to fluctuate |
| We have experienced fluctuations in our quarterly operating results and we expect those fluctuations to continue due to a variety of factors |
| Some of the factors that influence our quarterly operating results include: • the number and mix of products sold in the quarter; • the timing of major projects; • the availability and cost of components and materials; • timing, costs and benefits of new product introductions; • customer order size and shipment timing; • changes in distribution; • seasonal factors affecting timing of purchase orders; • promotions by ourselves or competitors, and the timing of the promotion; and • the timing and level of operating expenses |
| Because of these factors, our quarterly operating results are difficult to predict and are likely to vary in the future |
| If our earnings are below financial analysts’ expectations in any quarter, our stock price is likely to drop |
| If we fail to attract and retain highly skilled managerial and technical personnel, we may fail to remain competitive |
| Our future success depends, in significant part, upon the continued service and performance of our senior management and other key personnel, in particular Gary R Holland, our Chief Executive Officer |
| Holland could impair our ability to effectively manage our company and to carry out our business plan |
| The other members of our management team also have significant experience in our industry and the loss of any other member of our other senior management could likewise impair our ability to effectively manage our company and carry out our business plan |
| We do not carry key man insurance on any of our senior managers |
| In addition, competition for skilled technical employees in our industry is intense |
| If we cannot attract and retain sufficient qualified technical employees, we may not be able to effectively develop and deliver competitive products to the market |
| 18 ______________________________________________________________________ We may need to raise additional capital to fund our future operations, and any failure to obtain additional capital when needed or on satisfactory terms could damage our business |
| We may need to raise or borrow additional capital in the future to fund our ongoing operations |
| Any equity or debt financing, if available at all, may be on terms that are not favorable to us and, in the case of equity offerings, may result in dilution to our stockholders |
| Any difficulty in obtaining additional financial resources, including the inability to borrow on satisfactory financial terms, could force us to curtail our operations or prevent us from pursuing our growth strategy or otherwise cause us financial harm |
| Compliance with changing regulation of corporate governance and public disclosure may result in additional expenses |
| Changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002, new SEC regulations and NASDAQ National Market rules, are creating uncertainty for companies such as ours |
| These new or changed laws, regulations and standards are subject to varying interpretations in many cases due to their lack of specificity, and as a result, their application in practice may evolve over time as new guidance is provided by regulatory and governing bodies, which could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices |
| We are committed to maintaining high standards of corporate governance and public disclosure |
| As a result, our efforts to comply with evolving laws, regulations and standards have resulted in, and are likely to continue to result in, increased general and administrative expenses and a diversion of management time and attention from revenue-generating activities to compliance activities |
| In particular, our efforts to comply with Section 404 of the Sarbanes-Oxley Act of 2002 and the related regulations regarding our required assessment of our internal controls over financial reporting and our external auditors’ audit of that assessment has required the commitment of significant financial and managerial resources |
| We expect these efforts to require the continued commitment of significant resources |
| Further, our board members, chief executive officer and chief financial officer could face an increased risk of personal liability in connection with the performance of their duties |
| As a result, we may have difficulty attracting and retaining qualified board members and executive officers, which could harm our business |
| If our efforts to comply with new or changed laws, regulations and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to practice, our reputation may be harmed |