| QUANTUM CORP /DE/ ITEM 1A Risk Factors RISK FACTORS THE READER SHOULD CAREFULLY CONSIDER THE RISKS DESCRIBED BELOW, TOGETHER WITH ALL OF THE OTHER INFORMATION INCLUDED IN THIS ANNUAL REPORT ON FORM 10-K, BEFORE MAKING AN INVESTMENT DECISION THE RISKS AND UNCERTAINTIES DESCRIBED BELOW ARE NOT THE ONLY ONES FACING QUANTUM ADDITIONAL RISKS AND UNCERTAINTIES NOT PRESENTLY KNOWN TO US OR THAT ARE CURRENTLY DEEMED IMMATERIAL MAY ALSO IMPAIR OUR BUSINESS AND OPERATIONS THIS ANNUAL REPORT ON FORM 10-K CONTAINS “FORWARD-LOOKING” STATEMENTS THAT INVOLVE RISKS AND UNCERTAINTIES PLEASE SEE PAGE 3 OF THIS REPORT FOR ADDITIONAL DISCUSSION OF THESE FORWARD-LOOKING STATEMENTS A large percentage of our sales come from a few customers, and these customers have no minimum or long-term purchase commitments |
| The loss of, or a significant reduction in demand from, one or more key customers could materially and adversely affect our business, financial condition, and operating results |
| Our sales have been and continue to be concentrated among a few customers |
| This sales concentration does not include revenues from sales of our media that our licensees sold to our top five customers, for which we earn royalty revenue |
| Furthermore, customers are not obligated to purchase any minimum product volume and our relationships with our customers are terminable at will |
| In fiscal year 2006, Hewlett-Packard and Dell contributed approximately 18prca each to our revenue |
| Over this time period, the revenue contribution from Hewlett-Packard has declined |
| If this trend continues, or if we experience a significant decline in revenue from Dell, we could be materially and adversely affected |
| There is additional risk regarding Hewlett-Packard since it markets and manufactures its own LTO and DDS/DAT tape drives and media in competition with our LTO, DDS/DAT, DLTtape® and Super DLTtape^TM platforms |
| To the extent that Hewlett-Packard reduces its purchases of our products in favor of its own, or is successful in gaining share in the market with its tape drive products at the expense of our products, our tape drive and media revenues, operating results and financial condition could be materially and adversely affected |
| In addition, many of our tape products are primarily incorporated into larger storage systems or solutions that are marketed and sold to end-users by our large OEM customers |
| Because of this, we have limited market access to these end-users, limiting our ability to reach and influence their purchasing decisions |
| These market conditions further our reliance on these large OEM customers |
| Thus if they were to significantly reduce, cancel or delay their orders with us, our results of operations could be materially adversely affected |
| From time to time we make acquisitions, such as the contemplated acquisition of ADIC The failure to successfully integrate recent or future acquisitions could harm our business, financial condition, and operating results |
| As a part of our business strategy, we have in the past and expect in the future to make acquisitions, or significant investments in, complementary companies, products or technologies, such as in the contemplated acquisition of ADIC If we fail to successfully integrate such acquisitions, it could harm our business, financial condition, and operating results |
| Risks that we may face in our efforts to integrate any recent or future acquisitions include, among others: • Failure to realize anticipated synergies and benefits from the acquisition; • Difficulties in assimilating and retaining employees; • Potential incompatibility of business cultures; • Diversion of management’s attention from ongoing business concerns; • Coordinating infrastructure operations in a rapid and efficient manner; • The potential inability to maximize our financial and strategic position through the successful incorporation of acquired technology and rights into our products and services; • Insufficient revenues to offset increased expenses associated with the acquisition; • Costs and delays in implementing or integrating common systems and procedures; • Reduction or loss of customer orders due to the potential for market confusion, hesitation and delay; • Impairment of existing customer, supplier and strategic relationships of either company; • Insufficient cash flows from operations to fund the working capital and investment requirements; 14 ______________________________________________________________________ • Difficulties in entering markets in which we have no or limited direct prior experience and where competitors in such markets have stronger market positions; • The possibility that we may not receive a favorable return on our investment, the original investment may become impaired, and/or we may incur losses from these investments; • Dissatisfaction or performance problems with the acquired company; • The assumption of risks of the acquired company that are difficult to quantify, such as litigation; • The cost associated with the acquisition; and • Assumption of unknown liabilities or other unanticipated adverse events or circumstances |
| Acquisitions present many risks, and we may not realize the financial and strategic goals that were contemplated at the time of any transaction |
| We cannot provide assurance that we will be able to successfully integrate any business, products, technologies or personnel that we may acquire in the future, and our failure to do so could harm our business, financial condition, and operating results |
| If we draw on our contemplated dlra500 million credit facility with Key Bank, we will substantially increase our debt, which could adversely affect our cash flow and prevent us from fulfilling our obligations |
| In the event that we consummate our acquisition of ADIC, we intend to draw down our dlra500 million credit facility with Key Bank, which will add a significant amount of indebtedness and interest expense to our obligations under our current indebtedness |
| Our level of indebtedness presents risks to investors, including the possibility that we may be unable to generate cash sufficient to pay the principal of and interest on our indebtedness when due |
| Our substantial debt could have important consequences, such as: • Making it more difficult or impossible for us to make payments on the notes or any other indebtedness or obligations; • Requiring us to dedicate a portion of our cash flow from operations and other capital resources to debt service, thereby reducing our ability to fund working capital, capital expenditures and other cash requirements; • Increasing our vulnerability to adverse economic and industry conditions; • Limiting our flexibility in planning for, or reacting to, changes and opportunities in, the electronics manufacturing industry, which may place us at a competitive disadvantage; and • Limiting our ability to incur additional debt on acceptable terms, if at all |
| Our operating results depend on new product introductions, which may not be successful, in which case our business, financial condition, and operating results may be materially and adversely affected |
| To compete effectively, we must continually improve existing products and introduce new ones, such as our recently introduced PX500-Series libraries, the DLT S-4 and GoVault |
| We have devoted and expect to continue to devote considerable management and financial resources to these efforts |
| We cannot provide assurance that: • We will introduce new products in the time frame we are forecasting; • We will not experience technical, quality, performance-related or other difficulties that could prevent or delay the introduction of, and market acceptance of, new products; • Our new products will achieve market acceptance and significant market share, or that the markets for these products will continue or grow as we have anticipated; • Our new products will be successfully or timely qualified with our customers by meeting customer performance and quality specifications because a successful and timely customer qualification must occur before customers will place large product orders; or • We will achieve high volume production of these new products in a timely manner, if at all |
| 15 ______________________________________________________________________ If we are not successful in timely completion of our new product qualifications and then ramping sales to our key customers, our revenue and results of operations could be adversely impacted |
| In addition, if the quality of our products is not acceptable to our customers, this could result in customer dissatisfaction, lost revenue, and increased warranty and repair costs |
| Competition has increased, and may increasingly intensify, in the tape drive and tape automation markets as a result of competitors introducing products based on new technology standards, which could materially and adversely affect our business, financial condition, and results of operations |
| We compete with companies that develop, manufacture, market, and sell tape drive and tape automation products |
| The principal competitors for our tape drive products include Hewlett-Packard, IBM, and Sony |
| These competitors are aggressively trying to advance and develop new technologies and products to compete successfully against our technologies and products |
| For instance, LTO technology, which was developed by Certance, Hewlett-Packard and IBM, targets the high-capacity data backup market and competes directly with our products based on Super DLTtape^TM technology |
| Hewlett-Packard and IBM thus compete not only with our Super DLTtape^TM products but now compete with the LTO product offerings that we acquired through our acquisition of Certance |
| This competition has resulted in a trend, which is expected to continue, toward lower prices and lower margins earned on our DLTtape® and Super DLTtape^TM drives and media |
| Additionally, over the last two years, our DLT and Super DLTtape^TM drives have lost market share to LTO based products, and we cannot provide assurance that our tape technology based products will not continue to lose market share to LTO based products in the future |
| In addition, the 2003 merger between Hewlett-Packard and Compaq resulted in a larger competitor in the tape drive and tape automation markets with substantially greater resources and a potentially greater market reach with products that compete directly with ours |
| These factors, and additional factors, such as the possibility of industry consolidation, when combined with the current environment of intense competition, which has resulted in reduced shipments of our tape drive products, could result in a further reduction in our prices, volumes and margins, which could materially and adversely impact our business, financial condition, and results of operations |
| Our tape automation products compete with product offerings of ADIC, Overland Data Inc, EMC, and Sun (due to its recent acquisition of StorageTek), which offer tape automation systems incorporating DLTtape® and Super DLTtape^TM technology as well as LTO technology |
| Increased competition has resulted in increased price competition |
| If this trend continues or worsens, if competition further intensifies, or if industry consolidation occurs, our sales and gross margins could decline, which could materially and adversely affect our business, financial condition and results of operations |
| We have taken considerable steps towards reducing our cost structure and may take further cost reduction actions |
| The steps we have taken and may take in the future may not reduce our cost structure to a level appropriate in relation to our future sales and therefore, these anticipated cost reductions may be insufficient to bring us back to profitability |
| In the last four years, we have recorded significant restructuring charges and made cash payments in order to reduce our cost of sales and operating expenses to rationalize our operations following past acquisitions and in response to adverse economic, industry and competitive conditions |
| We may take future steps to further reduce our operating costs |
| These steps and additional future restructurings in response to rationalization of operations following future acquisitions or to adverse changes in our business and industry may require us to make cash payments that, if large enough, would materially and adversely affect our liquidity |
| We may be unable to reduce our cost of sales and operating expenses at a rate and to a level consistent with a future potential adverse sales environment, which may adversely affect our business, financial condition, and operating results |
| We derive almost all of our revenue from products incorporating tape technology |
| If competition from alternative storage technologies continues or increases, our business, financial condition, and operating results would be materially and adversely harmed |
| We derive almost all of our revenue from products that incorporate some form of tape technology and we expect to continue to derive a substantial majority of our revenue from these products for the foreseeable future |
| As a result, our future operating results depend on the continued market acceptance of products employing tape drive technology |
| Our tape products, including tape drives and automation systems, compete with other storage technologies, such as hard disk drives |
| Hard disk drives have experienced a trend toward lower prices while capacity and performance have increased |
| If products incorporating other technologies gain comparable or superior market acceptance, or their costs decline far more rapidly than tape drive and media costs, the competition resulting from these alternative technologies would increase as customers turn toward those alternative technologies with an acceptable price/performance offering relative to tape drives and automation systems |
| We are working to address this risk through our own targeted investment in alternative technologies, but if a migration to alternative technologies occurs, and we are not successful in our efforts, our business, financial condition, and operating results would be materially and adversely affected |
| 16 ______________________________________________________________________ Our tape media business generates a relatively high gross margin rate, which significantly impacts the total company gross margin rate |
| If we were to experience a significant decline in the tape media or tape royalty gross margin rate, our business, financial condition, and operating results would be materially and adversely affected |
| Our tape royalty and media gross margin rates and revenues are dependent on many factors, including the following factors: • The pricing actions of other media suppliers; • The size of the installed base of tape drives that use our tape cartridges; • The performance of our strategic licensing partners, which sell our tape media cartridges; • The relative growth in units of our newer tape drive products, since the associated media cartridges typically sell at higher prices than the media cartridges associated with older tape drive products; • The relative mix of media purchased directly from us as compared to our licensees; • The media consumption habits and rates of end users; • The pattern of tape drive retirements; and • The level of channel inventories |
| Competition from other tape technologies has had a significant negative impact on our income from media as well as on our sales of tape drives |
| Similarly, competition among media suppliers has periodically resulted in intense, price-based competition for media sales, which also affects media income |
| If either of these competitive factors continues or intensifies, it would further erode tape drive unit sales, tape drive installed base, media units and media pricing |
| To the extent that our Quantum branded media revenue and media royalties are dependent upon media pricing and the quantity of media consumed by the installed base of our tape drives, reduced media prices, or a reduced installed tape drive base, would result in further reductions in our Quantum branded media and media royalty revenue and gross margin rates |
| This would materially and adversely affect our business, financial condition, and results of operations |
| Third party infringement claims could result in substantial liability and significant costs, and, as a result, our business, financial condition, and operating results may be materially and adversely affected |
| From time to time, third parties allege our infringement of and need for a license under their patented or other proprietary technology |
| While we currently believe the amount of ultimate liability, if any, with respect to any such actions will not materially affect our financial position, results of operations, or liquidity, the ultimate outcome of any litigation is uncertain |
| Adverse resolution of any third party infringement claim could subject us to substantial liabilities and require us to refrain from manufacturing and selling certain products |
| In addition, the costs incurred in intellectual property litigation can be substantial, regardless of the outcome |
| As a result, our business, financial condition, and operating results could be materially and adversely affected |
| A significant portion of our manufacturing and sales operations occurs in foreign locations; we are increasingly exposed to risks associated with conducting our business internationally |
| Many of our facilities and those of important customers and suppliers are located near known earthquake fault zones or in geographic areas susceptible to other natural disasters, which could disrupt our business and require us to curtail or cease operations |
| We manufacture and sell our products in a number of different markets throughout the world |
| Following the acquisition of Certance, an increasing number of our products are internally manufactured at a facility in Penang, Malaysia |
| As a result of our global manufacturing and sales operations, we are subject to a variety of risks that are unique to businesses with international operations of a similar scope, including the following: • Import and export duties and value-added taxes; • Import and export regulation changes that could erode our profit margins or restrict our exports; • Political risks and natural disasters, including earthquakes, especially in emerging or developing economies; • Potential restrictions on the transfer of funds between countries; • Inflexible employee contracts in the event of business downturns; • Adverse movement of foreign currencies against the US dollar (the currency in which our results are reported); and • The burden and cost of complying with foreign laws |
| 17 ______________________________________________________________________ Our quarterly operating results could fluctuate significantly, and past quarterly operating results should not be used to predict future performance |
| Our quarterly operating results have fluctuated significantly in the past and could fluctuate significantly in the future |
| Quarterly operating results could be materially and adversely affected by a number of factors, including, but not limited to: • An inadequate supply of tape media cartridges; • Reduced demand from our OEM customers; • Customers canceling, reducing, deferring or rescheduling significant orders as a result of excess inventory levels, weak economic conditions or other factors; • Declines in network server demand; • Product ramp cycles; • Failure to complete shipments in the last month of a quarter during which a substantial portion of our products are typically shipped; or • Increased competition |
| If we fail to meet our projected quarterly results, our business, financial condition, and results of operations may be materially and adversely harmed |
| If we do not successfully manage the changes that we have made and may continue to make to our infrastructure and management, our business could be disrupted, and that could adversely impact our results of operations and financial condition |
| Managing change is an important focus for us |
| Following the acquisition of Certance, one of our important initiatives involves combining and integrating the information technology (“IT”) infrastructures of the companies, including our enterprise resource planning (“ERP”) systems, and adapting our business processes and software to the requirements of the new organization |
| We are also managing several significant initiatives involving our operations, including efforts to reduce the number of contract manufacturers and suppliers we use, the outsourcing of our repair capabilities and the related closing of our facility in Dundalk, Ireland |
| In addition, we continue to reduce headcount to streamline and consolidate our supporting functions as appropriate following past acquisitions and in response to market or competitive conditions |
| If we are unable to successfully manage the changes that we implement, and detect and address issues as they arise, it could disrupt our business and adversely impact our results of operations and financial condition |
| If we fail to protect our intellectual property or if others use our proprietary technology without authorization, our competitive position may suffer |
| Our future success and ability to compete depends in part on our proprietary technology |
| We rely on a combination of copyright, patent, trademark, and trade secrets laws and nondisclosure agreements to establish and protect our proprietary technology |
| We currently hold 383 United States patents and have 182 United States patent applications pending |
| However, we cannot provide assurance that patents will be issued with respect to pending or future patent applications that we have filed or plan to file or that our patents will be upheld as valid or will prevent the development of competitive products or that any actions we have taken will adequately protect our intellectual property rights |
| We generally enter into confidentiality agreements with our employees, consultants, customers, potential customers, and others as required, in which we strictly limit access to, and distribution of, our software, and further limit the disclosure and use of our proprietary information |
| Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy or otherwise obtain or use our products or technology |
| Our competitors may also independently develop technologies that are substantially equivalent or superior to our technology |
| In addition, the laws of some foreign countries do not protect our proprietary rights to the same extent as the laws of the United States |
| Because we may order components from suppliers in advance of receipt of customer orders for our products which include these components, we could face a material inventory risk |
| Historically, we have relied primarily on third parties to manufacture our products |
| However, we have begun to manufacture more of our products ourselves and anticipate that we will continue to increase the proportion of our products that we manufacture ourselves |
| Managing such a build-up of our in-house manufacturing capabilities presents a number risks that could materially and adversely affect our financial condition |
| For instance, as part of our component planning, we place orders 18 ______________________________________________________________________ with or pay certain suppliers for components in advance of receipt of customer orders |
| We occasionally enter into negotiated orders with vendors early in the manufacturing process of our storage products to ensure that we have sufficient components for our new products to meet anticipated customer demand |
| Because the design and manufacturing process for these components is complicated, it is possible that we could experience a design or manufacturing flaw that could delay or even prevent the production of the components for which we previously committed to pay |
| We also face the risk of ordering too many components, or conversely, not enough components, since supply orders are generally based on forecasts of customer orders rather than actual customer orders |
| In addition, in some cases, we make non-cancelable order commitments to our suppliers for work-in-progress, supplier’s finished goods, custom sub-assemblies and Quantum-unique raw materials that are necessary to meet our lead times for finished goods |
| If we cannot change or be released from supply orders, we could incur costs from the purchase of unusable components, either due to a delay in the production of the components or other supplies or as a result of inaccurately predicting supply orders in advance of customer orders |
| Our business and operating results could be materially and adversely affected as a result of these increased costs |
| A portion of our manufacturing, including service repair, is outsourced to Jabil and other third party contract manufacturers |
| If we cannot obtain our products and parts from these third parties in a cost effective and timely manner that meets our customers’ expectations, this could materially and adversely impact our business, financial condition, and results of operations |
| A number of our tape drive and tape automation products are manufactured for us by Jabil or other contract manufactures |
| We face a number of risks as a result of this outsourced manufacturing, including, among others: • Sole source of product supply In each case, our contract manufacturer is our sole source of supply for the tape drive and/or tape automation products they manufacture for us |
| Because we are relying on one supplier, we are at greater risk of experiencing component shortages or other delays in customer deliveries that could result in customer dissatisfaction and lost sales, which could materially damage customer relationships and result in lost revenue |
| • Cost and purchase commitments We may not be able to control the costs we would be required to pay our contract manufacturers for the products they manufacture for us |
| They procure inventory to build our products based upon a forecast of customer demand that we provide |
| We would be responsible for the financial impact on the contract manufacturer of any reduction or product mix shift in the forecast relative to materials that they had already purchased under a prior forecast |
| Such a variance in forecasted demand could require us to pay them for finished goods in excess of current customer demand or for excess or obsolete inventory and generally incur higher costs |
| As a result, we could experience reduced gross margins and larger operating losses based on these purchase commitments |
| • Quality We will have limited control over the quality of products produced by our contract manufacturers |
| Therefore, the quality of the products may not be acceptable to our customers and could result in customer dissatisfaction, lost revenue, and increased warranty costs |
| We do not control licensee pricing or licensee sales of tape media cartridges |
| To the extent that our royalty revenue is dependent on the prices of cartridges sold by our licensees, should these licensees significantly lower prices on the media products that they sell, such reduced pricing would lower our royalty revenue, which would materially and adversely affect our business, financial condition, and operating results |
| We receive a royalty fee based on sales of our tape media cartridges by Fuji, Maxell, Imation and Sony |
| Under our license agreements with these companies, each of the licensees determines the pricing and number of units of tape media cartridges that it sells |
| To the extent that our royalty revenue is based on the prices of cartridges sold by our licensees, our royalty revenue will vary depending on the level of sales and prices set by the licensees |
| In addition, lower prices set by licensees could require us to lower our prices on direct sales of tape media cartridges, which would reduce our revenue and margins on these products |
| As a result, lower prices on our tape media cartridges would reduce media revenue, which could materially and adversely affect our business, financial condition, and operating results |
| 19 ______________________________________________________________________ We have incurred significant losses over the last few years |
| If we remain unprofitable and are unable to generate positive cash flow from operating activities, our ability to service our debt and fund our other business requirements, as well as obtain additional capital in the future, could be jeopardized, our business could suffer, and our assets could be impaired |
| Our ability to meet our debt service obligations and to fund working capital, capital expenditures, acquisitions, research and development and other general corporate needs will depend upon our future financial performance |
| Our future financial performance will be subject to financial, business and other factors affecting our operations, some of which are beyond our control |
| If our losses from operations were to persist at current levels or worsen, we may not have sufficient cash resources to service our debt and maintain access to our credit facilities |
| We cannot provide assurance that we will generate sufficient cash flow from operations, or that future borrowings or equity financing will be available on commercially reasonable terms or at all, or available in an amount sufficient to enable us to pay our debt or fund other liquidity needs |
| If we are unable to generate sufficient cash flow and/or are unable to service our outstanding debt obligations, we may have to reduce or delay capital expenditures planned for replacements, improvements and expansions, and/or sell assets, thereby affecting our ability to remain competitive and adversely affecting our business |
| We must devote substantial resources to new product development, manufacturing, and sales and marketing activities to be competitive in our markets |
| Historically, cash flow from operating activities has provided us with a significant portion of the cash and liquidity that we have required in order to invest in product development, manufacturing, and sales activities |
| Until or unless we return to consistent, profitable generally accepted accounting principles (“GAAP”) operating results, we will have significantly less liquidity to invest in our business, which could have a material adverse impact on our business, results of operations, liquidity, and financial condition |
| Our ability to achieve profitability may be adversely impacted by higher energy prices to the extent that we, or our key suppliers experience higher energy costs which we are unable to offset or recover in the form of higher prices for our products and services |
| Decreased effectiveness of equity compensation could adversely affect our ability to attract and retain employees, and proposed changes in accounting for equity compensation will adversely affect earnings |
| Beginning in our first quarter of fiscal year 2007, Financial Accounting Standards Board (“FASB”) issued SFAS Nodtta 123 (revised 2004) Share-Based Payment ( "e SFAS Nodtta 123R "e ), which requires us to recognize compensation expense in our statement of operations for the fair value of unvested employee stock options at the date of adoption and new stock options granted to our employees after the adoption date over the related vesting periods of the stock options |
| The requirement to expense stock options granted to employees reduces their attractiveness to Quantum because the expense associated with these grants may result in future compensation charges |
| In addition, the expenses recorded may not accurately reflect the value of our stock options because the option pricing models used to estimate fair value were not developed for use in valuing employee stock options and are based on highly subjective assumptions, including the option’s expected life and the price volatility of the underlying stock |
| Alternative compensation arrangements that can replace stock option programs may also negatively impact profitability |
| Stock options remain an important employee recruitment and retention tool, and we may not be able to attract and retain key personnel if we reduce the scope of our employee stock option program following the adoption of SFAS Nodtta 123R Our employees are critical to our ability to develop and design systems that advance our productivity and technology goals, increase our sales goals and provide support to customers |
| Accordingly, as a result of the requirement under SFAS Nodtta 123R to recognize the fair value of stock options as compensation expense, beginning in the first quarter of fiscal year 2007, our future profitability can be expected to be reduced |
| See also Recent Accounting Pronouncements in Note 2 “Summary of Significant Accounting Policies” to the Consolidated Financial Statements: SFAS Nodtta 123 (revised 2004) Share-Based Payment ( "e SFAS Nodtta 123R”) |
| 20 ______________________________________________________________________ Our stock price could become more volatile if certain institutional investors were to increase or decrease the number of shares they own |
| In addition, there are other factors and events that could affect the trading prices of our common stock |
| Five institutional investors own approximately 58prca of our common stock |
| If any or all of these investors were to decide to purchase additional shares or to sell some or all of the common shares they currently own, that may cause our stock price to be more volatile |
| For example, there have been instances in the past where a shareholder with a significant equity position begins selling shares, putting downward pressure on our stock price for the duration of their selling activity |
| In these situations, selling pressure outweighs buying demand and our stock price declined |
| Trading prices of our common stock may fluctuate in response to a number of other events and factors, such as: • General economic conditions; • Changes in interest rates; • Fluctuations in the stock market in general and market prices for high technology companies in particular; • Quarterly variations in our operating results; • New products, services, innovations and strategic developments by our competitors or us, or business combinations and investments by our competitors or us; • Changes in financial estimates by us or securities analysts and recommendations by securities analysts, • Changes in our capital structure, including issuance of additional debt or equity to the public; and • Strategic acquisitions |
| Any of these events and factors may cause our stock price to rise or fall and may adversely affect our business and financing opportunities |
| We are exposed to general economic conditions which, if these conditions were to deteriorate, could result in significantly reduced sales levels and significant operating losses, which would materially and adversely affect our business, financial condition, and operating results |
| If we experience adverse economic conditions in the United States and throughout the world economy, our business, operating results, and financial condition could be further adversely and materially impacted |
| We have taken actions in the past to reduce our cost of sales and operating expenses in order to address the adverse conditions |
| A prolonged continuation or worsening of sales trends could require us to take additional actions to further reduce our cost of sales and operating expenses in future quarters in order to align these costs with reduced revenue |
| We may be unable to reduce our cost of sales and operating expenses at a rate and to a level consistent with such a future adverse sales environment |
| If we are required to undertake further expense reductions, we may incur significant additional incremental restructuring charges associated with such expense reductions that are disproportionate to sales, thereby materially and adversely affecting our business, financial condition, and operating results |
| Our reliance on a limited number of third party suppliers could result in significantly increased costs and delays in the event these suppliers experience shortages or quality problems, and, as a result, our business, financial condition, and operating results may be materially and adversely affected |
| We depend on a limited number of suppliers for components and sub-assemblies, including recording heads, media cartridges, and integrated circuits, all of which are essential to the manufacture of tape drives and tape automation systems |
| If component shortages occur, or if we experience quality problems with component suppliers, shipments of products could be significantly delayed and/or costs significantly increased, and as a result, our business, financial condition, and operating results could be materially and adversely affected |
| In addition, we qualify only a single source for many components and sub-assemblies, which magnifies the risk of future shortages |
| Furthermore, the main supplier of recording heads for our products is located in China |
| Political instability, trade restrictions, changes in tariff or freight rates, or currency fluctuations in China could result in increased costs and delays in shipment of our products and could materially and adversely impact our business, financial condition, and operating results |
| 21 ______________________________________________________________________ Some of our production processes and materials are environmentally sensitive, and new environmental regulation could lead to increased costs, or otherwise adversely affect our business, financial condition, and results of operations |
| We are subject to a variety of laws and regulations relating to, among other things, the use, storage, discharge and disposal of chemicals, gases and other hazardous substances used in our manufacturing processes, air emissions, waste discharges, waste disposal, as well as the investigation and remediation of soil and ground water contamination |
| A recent directive in the European Union imposes a “take back” obligation on manufacturers for the financing of the collection, recovery and disposal of electrical and electronic equipment |
| Additional European legislation will ban the use of some heavy metals including lead and some flame retardants in electronic components beginning in July 2006 |
| We are in the process of implementing procedures to comply with this new legislation |
| However, this legislation may adversely affect our manufacturing costs or product sales by requiring us to acquire costly equipment or materials, or to incur other significant expenses in adapting our manufacturing processes or waste and emission disposal processes |
| Furthermore, environmental claims or our failure to comply with present or future regulations could result in the assessment of damages or imposition of fines against us, or the suspension of affected operations, which could have an adverse effect on our business, financial condition, and results of operations |
| Our credit agreement contains various covenants that limit our discretion in the operation of our business, which could have an adverse effect on our business, financial condition, and results of operations |
| Our credit agreement contains numerous restrictive covenants that require us to comply with and maintain certain financial tests and ratios, thereby restricting our ability to: • Incur debt; • Incur liens; • Redeem or prepay subordinated debt; • Make acquisitions of businesses or entities or sell certain assets; • Make investments, including loans, guarantees, and advances; • Make capital expenditures beyond a certain threshold; • Engage in transactions with affiliates; • Pay dividends or engage in stock repurchases; and • Enter into certain restrictive agreements |
| Our ability to comply with covenants contained in our credit agreement may be affected by events beyond our control, including prevailing economic, financial, and industry conditions |
| Even if we are able to comply with all covenants, the restrictions on our ability to operate our business could harm our business by, among other things, limiting our ability to take advantage of financings, mergers, acquisitions, and other corporate opportunities |
| Our credit agreement is secured by a pledge of all of our assets |
| If we were to default under our credit agreement and were unable to obtain a waiver for such a default, the lenders would have a right to foreclose on our assets in order to satisfy our obligations under the credit agreement |
| Any such action on the part of the lenders against us could have a materially adverse impact on our business, financial condition, and results of operations |
| In prior year periods, we violated certain financial covenants under our credit agreement and received waivers or amendments for such violations |
| If in the future we violate financial covenants, it could materially and adversely impact our financial condition and liquidity |
| If our operating results do not improve in the future and we violate any financial or reporting covenant in our credit agreement and receive a notice of default letter from our bank group, our credit line could become unavailable, and any amounts outstanding could become immediately due and payable |
| If we were unsuccessful in securing a waiver of such violation or an amendment to our credit agreement, we might have to restrict dlra2dtta5 million of our cash to cover the outstanding standby letters of credit issued under the credit agreement |
| Without the availability of the credit agreement, we would have to rely on operating cash flows and debt or equity arrangements other than the credit agreement, if such alternative funding arrangements are available to us at all, in order to maintain sufficient liquidity |
| If we were not able to obtain sufficient cash from our operations or from these alternative funding sources under such circumstances, our operations, financial condition, and liquidity would be materially and adversely affected |
| 22 ______________________________________________________________________ We may be sued by our customers for product liability claims as a result of failures in our data storage products |
| We face potential liability for performance problems of our products because our end users employ our storage technologies for the storage and backup of important data and to satisfy regulatory requirements |
| Although we maintain general liability insurance, our insurance may not cover potential claims of this type or may not be adequate to indemnify us for all liability that may be imposed |
| Any imposition of liability that is not covered by insurance or is in excess of our insurance coverage could harm our business |
| We must maintain appropriate levels of service inventories |
| If we have too little service inventory, we may experience increased levels of customer dissatisfaction |
| If we have too much service inventory, we may incur financial losses |
| We maintain levels of service inventories to satisfy future warranty obligations and also to earn service revenue to repair products for which the warranty has expired |
| We estimate the required amount of service inventories based on historical usage and forecasts of future warranty requirements, including estimates of failure rates and costs to repair, and out of warranty revenue |
| Given the significant levels of judgment inherently involved in the process, we cannot provide assurance that we will be able to maintain appropriate levels of service inventories to satisfy customer needs and to avoid financial losses from excess inventory charges |
| If we are unable to maintain appropriate levels of service inventories, our business, financial condition, and results of operations may be materially and adversely impacted |
| Because we rely heavily on distributors and other resellers to market and sell our products, if one or more distributors were to experience a significant deterioration in its financial condition or its relationship with us, this could disrupt the distribution of our products and reduce our revenue, which could materially and adversely affect our business, financial condition, and operating results |
| In certain product and geographic segments we heavily utilize distributors and value added resellers to perform the functions necessary to market and sell our products |
| To fulfill this role, the distributor must maintain an acceptable level of financial stability, creditworthiness and the ability to successfully manage business relationships with the customers it serves directly |
| Under our distributor agreements with these companies, each of the distributors determines the type and amount of our products that it will purchase from us and the pricing of the products that it sells to its customers |
| If the distributor is unable to perform in an acceptable manner, we may be required to reduce the amount of sales of our product to the distributor or terminate the relationship |
| We may also incur financial losses for product returns from distributors or for the failure or refusal of distributors to pay obligations owed to us |
| Either scenario could result in fewer of our products being available to the affected market segments, reduced levels of customer satisfaction and/or increased expenses, which could in turn have a material and adverse impact on our business, results of operations, and financial condition |
| If the future outcomes related to the estimates used in recording tax liabilities to various taxing authorities result in higher tax liabilities than estimated, then we would have to record tax charges, which could be material |
| We have provided amounts and recorded liabilities for probable and estimable tax adjustments that may be proposed by various taxing authorities in the US, states, and foreign jurisdictions |
| If events occur that indicate payments of these amounts will be less than estimated, then reversals of these liabilities would create tax benefits being recognized in the periods when we determine the liabilities have reduced |
| Conversely, if events occur which indicate that payments of these amounts will be greater than estimated, then tax charges and additional liabilities would be recorded |
| In particular, various foreign jurisdictions could challenge the characterization or transfer pricing of certain intercompany transactions |
| In the event of an unfavorable outcome of such challenge, there exists the possibility of a material tax charge and adverse impact on the results of operations in the period in which the matter is resolved or an unfavorable outcome becomes probable and estimable |
| Maxtor’s failure to perform under the indemnification provisions of a tax sharing and indemnity agreement entered into with us providing for payments to us that relate to tax liabilities, penalties, and interest resulting from the conduct of our business prior to the Hard Disk Drive group disposition date could have a material adverse effect on our business, financial condition, and operating results |
| The Company entered into a Settlement Agreement with Maxtor on December 23, 2004, and included a Mutual General Release and Global Settlement Agreement with Maxtor Corporation, the corporation to which Quantum sold its former Hard Disk Drive business on April 2, 2001 |
| Under this agreement, Maxtor has agreed to assume limited responsibility for payments related to certain taxes, penalties, and interest resulting from the conduct of business by the Quantum Tape Drive and Storage Systems group for all periods before our issuance of tracking stock and the conduct of the Quantum Hard Disk Drive group for all periods before the disposition of the Hard Disk Drive group to Maxtor |
| If audit adjustments are successfully asserted with 23 ______________________________________________________________________ respect to such conduct, and if Maxtor fails to indemnify us under this obligation or is not able to pay the reimbursement in full, we would nevertheless be obligated, as the taxpayer, to pay the tax |
| Maxtor has recently been acquired by Seagate, which has assumed Maxtor’s defense and indemnification obligations |
| Maxtor’s failure to perform under the agreements in connection with contingent liabilities would harm our business, financial condition, and operating results |
| We may have contingent liabilities for some obligations assumed by Maxtor in connection with the disposition of the Hard Disk Drive group, including real estate and litigation, and Maxtor’s failure to perform under these obligations could result in significant costs to us that could have a materially adverse impact on our business, financial condition, and operating results |
| Maxtor has recently been acquired by Seagate, which has assumed Maxtor’s defense and indemnification obligations |
| The disposition of the Hard Disk Drive group may be determined not to be tax-free, which would result in us or our stockholders, or both, incurring a substantial tax liability, which could materially and adversely affect our business, financial condition, and results of operations |
| Maxtor and Quantum have agreed not to request a ruling from the Internal Revenue Service, or any state tax authority confirming that the structure of the combination of Maxtor with the Hard Disk Drive group will not result in any federal income tax or state income or franchise tax to Quantum or the previous holders of the Hard Disk Drive common stock |
| Instead, Maxtor and Quantum have agreed to effect the disposition and the merger on the basis of an opinion from our tax advisor, and a tax opinion insurance policy issued by a syndicate of major insurance companies to us covering up to dlra340 million of tax loss caused by the disposition and merger |
| If the disposition of the Hard Disk Drive group is determined not to be tax-free and the tax opinion insurance policy does not fully cover the resulting tax liability, we or our stockholders or both could incur substantial tax liability, which could materially and adversely affect our business, financial condition, and results of operations |
| Maxtor has recently been acquired by Seagate, which has assumed Maxtor’s defense and indemnification obligations |
| The tax opinion insurance policy issued in conjunction with the disposition of the Hard Disk Drive group does not cover all circumstances under which the disposition could become taxable to us, and as a result, we could incur an uninsured tax liability, which could materially and adversely affect our business, financial condition, and results of operations |
| In addition to customary exclusions from its coverage, the tax opinion insurance policy does not cover any federal or state tax payable by us if the disposition becomes taxable to us as a result of a change in relevant tax law |
| We could incur uninsured tax liability, which could materially and adversely affect our business, financial condition, and results of operations |
| If we incur an uninsured tax liability as a result of the disposition of the Hard Disk Drive group, our financial condition and operating results could be negatively affected |
| If the disposition of the Hard Disk Drive group were determined to be taxable to Quantum, we would not be able to recover an amount to cover the tax liability either from Maxtor or under the insurance policy in the following circumstances: • If the tax loss were not covered by the policy because it fell under one of the exclusions from coverage under the tax opinion insurance policy described above, insurance proceeds would not be available to cover the loss; • If the tax loss were caused by our own acts or those of a third party that made the disposition taxable (for instance, an acquisition of control of Quantum which began during the one-year period before and nine-month period following the closing), Maxtor would not be obligated to indemnify us for the amount of the tax liability; or • If Maxtor were required to reimburse us for the amount of the tax liability according to its indemnification obligations under the Hard Disk Drive group disposition, but was not able to pay the reimbursement in full, we would nevertheless be obligated, as the taxpayer, to pay the tax |
| In any of these circumstances, the tax payments due from us could be substantial |
| In order to pay the tax, we would have to either deplete our existing cash resources or borrow cash to cover our tax obligation |
| Our payment of a significant tax prior to payment from Maxtor under Maxtor’s indemnification obligations, or in circumstances where Maxtor has no payment obligation, could harm our business, financial condition, and operating results |
| Maxtor has recently been acquired by Seagate, which has assumed Maxtor’s defense and indemnification obligations |
| 24 ______________________________________________________________________ We are exposed to fluctuations in foreign currency exchange rates, and an adverse change in foreign currency exchange rates relative to our position in such currencies could have a materially adverse impact on our business, financial condition, and results of operations |
| We do not use derivative financial instruments for hedge or speculative purposes |
| To minimize foreign currency exposure, we use foreign currency obligations to match and offset net currency exposures associated with certain assets and liabilities denominated in non-functional currencies |
| Corresponding gains and losses on the underlying transaction generally offset the gains and losses on these foreign currency obligations |
| We have used in the past, and may use in the future, foreign currency forward contracts to hedge our exposure to foreign currency exchange rates |
| To the extent that we have assets or liabilities denominated in a foreign currency that are inadequately hedged or not hedged at all, we may be subject to foreign currency losses, which could be significant |
| Our international operations can act as a natural hedge when both operating expenses and sales are denominated in local currencies |
| In these instances, although an unfavorable change in the exchange rate of a foreign currency against the US dollar would result in lower sales when translated to US dollars, operating expenses would also be lower in these circumstances |
| Also, since an insignificant amount of our current sales are denominated in currencies other than the US dollar, we do not believe that our total foreign exchange rate exposure is significant |
| Nevertheless, an increase in the rate at which a foreign currency is exchanged for US dollars would require more of that particular foreign currency to equal a specified amount of US dollars than before such rate increase |
| In such cases, and if we were to price our products and services in that particular foreign currency, we would receive fewer US dollars than we would have received prior to such rate increase for the foreign currency |
| Likewise, if we were to price our products and services in US dollars while competitors priced their products in a local currency, an increase in the relative strength of the US dollar would result in our prices being uncompetitive in those markets |
| Such fluctuations in currency exchange rates could materially and adversely affect our business, financial condition, and results of operations |