ITEM 1. BUSINESS
Zytec Corporation ("Zytec" or the "Company") does business in two segments: Power Conversion which provides power supply design, manufacture and repair (approximately 90% of the Company's net sales) and Services and Logistics which provides repair services and logistics for a variety of products primarily for a significant customer (approximately 10% of net sales).
In the Power Conversion segment, the Company is a leading designer and manufacturer of custom electronic power supplies for original equipment manufacturers ("OEMs") in the communications, networking, computer and other electronic equipment marketplaces. Recently, the Company has experienced significant sales growth because it has been the sole-source provider of power supplies to many of the OEMs that provide hardware for the internet and the data communications market place. The Company also repairs power supplies and related products. The Company's power supply components are sold in North America and Europe, and its products are used worldwide. Zytec's principal OEM customers include: Digital Equipment, Hewlett-Packard, IBM, Cabletron, Cisco Systems, Sun Microsystems, Bay Networks, Dell, and Silicon Graphics. In 1996, the Company manufactured and delivered over 900,000 power supplies representing over 173 different products. The Company's dedication to quality resulted in its winning the Malcolm Baldrige National Quality Award in 1991.
The Services and Logistics segment of the business provides repair services and logistics for a variety of products primarily for Hewlett-Packard. These products include laser and inkjet printers, facsimile machines, computers, monitors and other equipment.
POWER CONVERSION
INDUSTRY AND MARKET INDUSTRY OVERVIEW Power supplies perform many essential functions relating to the supply, regulation, and distribution of electrical power within electronic equipment. Electronic systems require a steady supply of electrical power at one or more voltage levels. Power supplies convert alternating current (AC) from a primary power source into the direct current (DC) required to power the electronic system. In addition, power supplies provide different DC voltage levels required by the different subsystems and components in the system and monitor and regulate those voltages to protect the product and its components from surges. Power supplies can also be designed to perform diagnostic functions that prevent electronic equipment from being damaged by such equipment's own malfunction, as well as provide power through use of a short-term battery back-up system when the primary power source fails.
The dominant technology now used in power supplies is switching technology. Before the development of switching power supplies, power supply technology was fairly simple, and power supplies consisted of a transformer and some related components to rectify and control power surges. As the complexity of electronic equipment has increased, power supplies and their underlying technology have become more advanced. Switching power supplies such as those manufactured by Zytec have hundreds of components, provide advanced diagnostic and power management functions, can be designed to provide battery back-up power, and are smaller and more efficient than power supplies using simpler technology.
SWITCHING POWER SUPPLIES
[GRAPHIC SHOWING FROM AC WALL POWER IN TO AC TO DC POWER SUPPLY TO A DISK DRIVE OR MEMORY OR INTEGRATED CIRCUITS OR MOTORS OR MONITORS]
As a further enhancement of AC/DC power supplies utilizing switching technology, a newer more flexible technology is emerging which the Company refers to as "distributed power architecture" (DPA). Most electronic systems have a number of subsystems, each of which may require a different operating voltage or level of power. As a result, power supplies often have multiple outputs that can provide all required system voltage levels. In such power supplies, power is "distributed" throughout the system so that in addition to the main AC/DC power supply, DC/DC converters located on or near the subsystem or component being powered change the voltage of the DC to the specific level of voltage needed. Distributed power permits greater flexibility to meet the power supply requirements if components or subsystems are added or upgraded.
DISTRIBUTED POWER ARCHITECTURE
[GRAPHIC SHOWING FROM INPUT TO AC TO DC FRONT END TO OUTPUT TO VARIOUS SUB SYSTEMS]
Micro-Tech Consultants forecasts that the US high density DC/DC converter power supply market will grow from $309 million in 1996 to $500 million in 2000, representing a projected average annual growth rate of approximately 12.8%. Micro-Tech Consultants also forecasts that the entire US distributed power architecture market will grow from $1,402 million in 1996 to $2,256 million in 2000 for an average annual growth rate of 12.6%.
MARKET OVERVIEW Ninety percent of the Company's business is the manufacture of custom power supplies. According to a market report from Micro-Tech Consultants, the worldwide market for power supplies was estimated to be over $19.6 billion in 1995. This is forecasted to grow to $32.7 billion in 2000. The overall market for power supplies can be defined several ways, as follows:
MERCHANT/CAPTIVE. Merchant power supply manufacturers design and manufacture power supplies for others. Captive power supply manufacturers design and manufacture power supplies for use within their own products. According to Micro-Tech Consultants, the merchant segment of the market accounted for 51% of the power supply units shipped in the United States in 1995 and is projected to grow to 60% in the year 2000 as OEMs demand product options and features and high quality levels that make power supplies increasingly difficult to design and manufacture in-house.
POWER RANGE. The market is also segmented by power supply output range, as follows:
- --------- * Based on a 1996 market report from Micro-Tech Consultants.
APPLICATION. The United States power supply market also is segmented into different applications. Set forth below are the principal segments and the corresponding compound annual revenue growth rate as forecasted by Micro-Tech Consultants:
GROWTH RATE APPLICATIONS 1995-2000 ------------ --------- Computer, Peripherals and Office Equipment*........... 14.0% Communications*....................................... 18.3% Military/Aerospace.................................... (9.6)% Industrial ........................................... 7.6% - --------- * Zytec actively participates in the computers, peripherals, office equipment and communications market segments.
CUSTOM/STANDARD. Custom power supplies are designed and packaged to meet the form, fit, and functional requirements of an OEM's unique and specific application. They are attractive to OEMs because they present maximum design flexibility, provide the lowest cost, and allow the use of special features. Standard, "off-the-shelf" power supplies are not design-specific but also do not require substantial up-front engineering design costs. Once a product has reached the stage of development where the OEM is confident that there will be a market demand for the product, it is typically cost-effective to custom design a unique power supply to meet that product's specific requirements. The OEM is then able to utilize a moderately high-volume, customized solution at the lowest cost per watt of power without paying for unnecessary features or capabilities. Custom power supplies represented 63.0% of the United States market in 1995, according to Micro-Tech Consultants.
Zytec pursues the custom power supply business because it capitalizes on the Company's strengths in the area of sophisticated design, volume manufacturing, and customer service. The effect, though, is that competition among qualified design and manufacturing outsourcing companies providing these customized solutions is keen. The competition causes downward pressure on gross margins, which is only partially offset by lower selling and distribution costs.
Zytec believes a number of important trends affecting its customers will continue to shape the power supply marketplace. The applications segments which are growing rapidly, such as workstations and data communications hardware (e.g., hubs, routers and file servers), need mid-range power. In addition, OEMs face pressure from end users to improve the price and performance of products, bring new products to market quickly, provide more product options and features, reduce product size, and meet increasingly complex safety and regulatory agency standards. The Company believes that these pressures will support the need for and encourage a modest migration from captive manufacturers to merchant-provided, custom-designed power supply manufacturers such as Zytec and that market dynamics will maintain the vitality of the mid-range segment of the market.
STRATEGY Zytec's objective is to be the supplier of choice to a targeted group of multinational OEM customers who require sophisticated power supply solutions and who are likely to have substantial volume requirements. To achieve this objective, Zytec's strategy is to differentiate itself through advanced technology and design, shorter product development cycles and superior product performance, quality, service and value. The Company's primary target market for the last several years has been OEMs in the communications, networking, computer and other electronic equipment marketplaces. These OEMs manufacture hubs, routers, high availability file servers and disk arrays which typically have complex technical needs, high product reliability standards, short product development cycles and variable production needs. The Company implements this strategy by combining the following key elements:
DELIVER HIGH-QUALITY PRODUCTS AND SERVICES Zytec believes that quality and responsiveness to the customer's needs are of critical importance in its efforts to compete successfully. Zytec's Minnesota and Austrian operations are certified to ISO 9001, and the Company plans to qualify each of its locations to applicable IS0 9000 standards as necessary to meet customer requirements. Zytec actively involves all employees in implementing techniques to measure, monitor and improve performance and provides all employees with education and training, including courses in statistical process control and related techniques. Also, employees participate in Zytec's planning sessions and monitor adherence to their annual plans on a monthly basis. Through its commitment to customer service and quality, the Company believes it is able to provide superior value to its customers.
PROVIDE LEADING-EDGE ENGINEERING AND TIME TO MARKET Zytec's target markets and customers are characterized by high growth rates and continually evolving technology. As a result, Zytec's customers typically require leading-edge technology designed in a relatively short period. Zytec's initiatives to maintain leading-edge technology and reduce time to market include collaborative research with the Power Electronics Center at Virginia Polytechnic Institute; a series of in-house technical training symposia; increased use of standard circuits; sharing of engineering concepts between Austria and US; and computerized simulation of analog design characteristics (begun in 1995). These initiatives have contributed to a reduction of time to market of about 20% per year in 1994, 1995 and 1996. The design engineering personnel located in Richardson, Texas, who perform system engineering for Zytec's DPA products, participate in these process improvement initiatives.
DEVELOP AND EXPAND COLLABORATIVE RELATIONSHIPS Through the development and expansion of collaborative relationships with its customers, Zytec attempts to satisfy their needs by offering a full range of value added services, including design expertise, process development and control, testing, inventory management, and rapid response to volume and design changes. Some custom-designed projects are priced based on agreed-to gross margins and allow for a sharing of the costs, risks and rewards of the manufacturing process with the customer. These relationships also provide the Company with valuable knowledge regarding the customer's products. The Company focuses its efforts on customers with which it believes the opportunity exists to develop long-term business collaborations.
LEVERAGE ADVANCED MANUFACTURING AND MANAGEMENT TECHNIQUES Zytec's strategy focuses on the quality of all elements of the production process, rather than merely the quality of the end product. To implement this strategy, Zytec uses sophisticated design and manufacturing techniques (such as computer integrated design and manufacture, computer aided design, and automated testing and assembly of printed circuit boards), combined with advanced management techniques, including just-in-time manufacturing, statistical process control and total quality commitment. These techniques allow the Company to decrease production costs by improving the efficiency of production processes.
EXPAND COMPLEMENTARY BUSINESSES The Company believes that providing a wide range of services affords the Company a competitive advantage, as it further addresses customer needs and therefore increases the likelihood that the Company will make continuing sales to its customers. For example, at a customer's request, the Company may build assemblies by adding cables, harnesses, frames, and other components to its power supply unit. In addition, Zytec offers power supply repair services for Zytec-manufactured power supplies as well as power supplies manufactured by others.
PRODUCTS AND SERVICES In 1996, the Company manufactured and delivered over 900,000 power supplies representing over 173 different products, including 33 customer-designed power supplies and 140 products designed by Zytec. Zytec also provides related repair and support services to customers.
POWER SUPPLY PRODUCTS A Zytec-designed power supply progresses through a five-phase cycle of development that may last from 6 to 18 months, depending on the customer's product introduction schedule and the design complexity. In Phase Zero and Phase One of development, a team is assembled, the product specifications are refined with varying degrees of customer involvement, and the product is conceptually designed. In Phase Two, the detailed design analysis and layouts are completed and documented, initial prototypes are manufactured and shipped to the customer, and Zytec begins to track the product's actual cost against targeted cost. In Phase Three, prototypes are tested extensively by Zytec and the customer, design corrections are made, design documentation is released, and safety compliance approvals are obtained. In Phase Four, production plans, processes, and capabilities are established to support volume production, and customer service standards are implemented. Phase Five is volume production.
As customers demand shorter development times, the risk that all five phases of development will not be completed successfully on schedule rises. Early life project profitability may be reduced substantially if the Company has not completed all phases of development before manufacturing start-up begins.
Zytec also manufactures power supplies based on designs supplied by the customer. In customer-designed projects, Zytec manufactures a power supply that the customer has designed, using suppliers agreed to between the customer and Zytec.
In 1995, Zytec introduced and shipped the first substantial quantities of its DPA converters. This technology, licensed from Digital Equipment Corporation and subsequently Galaxy Power, Inc., offers higher efficiency in smaller size than traditional switching power supplies. In early 1996, the Company established a subsidiary in Dallas, Texas to lead the Company's design and marketing efforts for this new technology.
REPAIR OF POWER SUPPLIES In 1996, Zytec repaired over 1,100 different power supply models originally manufactured by over 200 different companies in its Redwood Falls, Minnesota location. Repair activities are also carried out in Kindberg, Austria. Many of the Company's power supply customers use Zytec's repair services for power supplies manufactured by the Company and by others.
OPERATIONS QUALITY MANAGEMENT TECHNIQUES A key element of Zytec's competitive strategy is delivering high-quality products and services. Zytec's focus on this strategy led to its receipt of one of three Malcolm Baldrige National Quality Awards given in 1991. The Company also won the first Minnesota Quality Award in 1991, and has received over 30 superior service and quality awards from its customers, including IBM, Abbott Laboratories, Stratus Computers, Tektronix and Sun Microsystems, since 1987.
Zytec's quality management techniques focus on all elements of the production process, rather than merely the quality of the end product. To implement this strategy, Zytec uses sophisticated design and manufacturing techniques (such as computer integrated design and manufacture, computer aided design, and automated testing and assembly of printed circuit boards), combined with advanced management techniques, including just-in-time (JIT) manufacturing, statistical process control (SPC), and total quality commitment (TQC). These techniques allow the Company to decrease production costs by improving the efficiency of production processes.
* JIT manufacturing increases efficiencies and shortens the manufacturing cycle.
* SPC complements the JIT process and is a set of analytical and problem solving techniques through which Company personnel can continuously evaluate stages of production and administrative processes.
* TQC is a management approach which involves all employees in establishing overall and specific goals, tracking adherence to these goals on a monthly, weekly or daily basis, and being responsible and accountable for achieving the established objectives.
MANUFACTURING PROCESS A typical power supply consists primarily of one or more printed circuit boards, electronic components, transformers and other electromagnetic components, and a sheet metal chassis. The production of the Company's power supplies entails the assembly of structural hardware combined with sophisticated automated assembly of circuit boards using automated surface mount and pin-through-hole interconnection technology. Surface mount technology permits reduction in board size by eliminating the need for holes in the printed circuit boards, allowing components to be placed on both sides of a board. Pin-through-hole assembly involves attaching electrical components to circuit boards by means of pins or leads that are inserted into pre-drilled holes and soldered to the electrical circuits on the boards.
In response to market demands for increased quality and reliability, design complexity, and sophisticated technology, Zytec has automated many electronic assembly and testing processes which were traditionally performed manually. In addition, the demand for shorter manufacturing cycles has also led to increased use of automated assembly and testing. The Company believes that the power supply manufacturing industry has remained fragmented partly because it traditionally has been a labor intensive, low investment industry; thus, it believes that increased levels of automation will strengthen Zytec's competitive position.
Many of the Company's customers increasingly require that their power supplies meet or exceed established international safety and quality standards as their operations expand internationally. In response to this need, Zytec designs and manufactures power supplies in accordance with the certification requirements of many international agencies, such as Underwriters Laboratories Incorporated (UL) in the United States; the Canadian Standards Association (CSA) in Canada; Technischer Uberwachungs-Verein (TUV) and Verband Deutscher Electrotechniker (VDE), both in Germany; the British Approval Board for Telecommunications (BABT) in the United Kingdom; and International Electrotechnical Committee (IEC), a European standards organization. Both Zytec Austria and Zytec US (Redwood Falls, Minnesota) are certified to ISO 9001, which is a European model for quality assurance.
SUPPLIERS Zytec typically uses a primary source of supply for each specific component, but it has several sources for each kind of component. As with customers, Zytec stresses early supplier involvement in design, the use of quality methods such as SPC and TQC, and frequent feedback through monthly statistical analysis of quality and delivery. Several major suppliers provide "just in time" shipments of products to Zytec. No supplier provides more than 10% of the dollar value of material used by the Company on a consolidated basis.
In March 1996, an existing supplier of magnetic components (transformers, coils and toroids) to Austria was acquired by the Company from the Hungarian government by privatization. The acquisition gives the Company a source of very high quality, low-cost custom components. This facility will be operated as a wholly-owned subsidiary of the Austrian operation. It will provide the majority of magnetic components used by Zytec Austria and has recently become a supplier to US operations as well.
SALES, MARKETING AND CUSTOMERS Zytec markets its custom products and services through an integrated sales approach involving direct sales representatives and account managers, along with active support from design engineering and production personnel. The Company's products and repair services are sold worldwide through an eleven-member sales organization. Eight sales personnel are responsible for North American power supply sales. Two sales representatives are responsible for marketing the Company's repair business in North America. One sales person, headquartered in Vienna, Austria, is responsible for European power supply sales.
Because of the costs inherent in starting new customer relationships, the Company focuses on retaining existing customers and targets a select few major and emerging OEM industry leaders with which the opportunity exists to provide products and services across a number of product families and through successive product generations. The Company focuses its resources on market segments that are (a) growing relatively fast and (b) have the potential for profit. Potential customers are assigned to Company sales representatives who evaluate the customer against the Company's customer selection criteria. For most end products of a customer, or versions of such end products, the Company believes it has established itself as a sole source provider of power supplies for the product.
The typical sales process begins with a customer or a potential customer making a request for quote (RFQ) from a number of power supply manufacturers. Based on the nature of the RFQ, the Zytec sales representative may work with the Company's design engineers on early stage design in an effort to determine the product's likely specifications, cost and price range. Once this process is completed, Zytec will submit its bid for the project. The requesting OEM will review the RFQ responses it receives and make a "short list" of two or three potential suppliers. Further refinements are made during a second round of bidding, at which point one supplier is selected, usually within 60 days. If Zytec's bid is selected, a Zytec account manager is assigned to manage order placement, delivery scheduling and design change implementation for that customer. On an ongoing basis, Zytec's engineering personnel provide technical support to customers in the areas of product design changes, field performance and testing.
Some customers prefer to use Zytec to produce customer-designed products as an introduction to the Company and its full service design and manufacturing capabilities. Zytec's collaborative relationships allow it to gain valuable knowledge about an existing customer and its processes, which Zytec believes gives it an advantage in obtaining future business from that customer. Historically, the Company has had substantial recurring sales from existing customers.
The Company's promotional activities include informational mailings to customers and selected potential customers and the publication in industry periodicals of articles written by Zytec personnel. In addition, the Company participates regularly in industry-wide conferences and trade shows and sponsors customer seminars.
The following chart profiles the percentage of Zytec's 1996 Power Conversion revenues and typical customers in major market application segments:
Although the Company seeks to diversify both its customer and market application base, a small number of companies are responsible for a significant portion of Zytec's net sales. At December 31, 1996, the Company had 22 power supply product customers worldwide. During 1996, the Company had three power supply customers with revenue exceeding $20 million, including Digital Equipment Corporation ($37 million, or 16% of net sales), Cabletron ($25 million, or 11% of net sales), and IBM ($23 million, or 10% of net sales), and a total of seven customers with revenues exceeding $5 million. The Company expects to continue to depend upon a limited number of customers for a substantial portion of its revenues.
BACKLOG Sales are made pursuant to purchase orders rather than long-term contracts. Backlog consists of purchase orders on hand generally having delivery dates scheduled within the next three months. Zytec's backlog was $54.2 million and $52.3 million at December 31, 1996 and December 31, 1995, respectively. Due to the increasing trend for OEMs to reduce their lead time for purchase orders, and because customers may cancel or reschedule deliveries, the Company does not consider backlog to be a reliable indicator of future financial results.
COMPETITION The merchant power supply manufacturing industry is highly fragmented and characterized by intense competition. According to Micro-Tech Consultants, there were estimated to be about 300 power supply manufacturers in the United States in 1996. Over 80% of the power supply companies in the world have annual revenues less than $10 million. According to Micro-Tech Consultants, in 1995 Zytec was the 3rd largest power supply company in the United States and the 9th largest power supply company in the world.
Zytec's competition includes companies located throughout the world, some of which have advantages over the Company in terms of labor and component costs, and which may offer products comparable in quality to those of Zytec. Certain of the Company's competitors have greater resources and geographic presence than Zytec. Zytec also views as competitive threats the potential that its customers may decide to produce their own power supplies, and that OEMs with captive manufacturing capabilities may compete in the merchant market. However, several large OEMs have divested their captive power supply manufacturing operations, including NCR, TRW and Digital Equipment Corporation. Management believes that the principal bases of competition in Zytec's targeted market are manufacturing technology, cycle time of design and manufacture, technical knowledge, quality, and the availability of value added services. To remain competitive, Zytec must compete favorably on the basis of value by providing technologically advanced manufacturing services, improving quality and reliability levels, offering flexible delivery schedules, and delivering finished products on a reliable basis.
RESEARCH AND DEVELOPMENT Zytec's research and development activities are principally directed to the development of new custom power supply products to satisfy specific customer needs. Additionally, the Company continues to develop its common circuit design to assist in the development of future products for specific customers. Zytec's research activities also include internally performed research and an affiliation with the Virginia Polytechnic Institute Power Electronics Center. Internal research efforts are focused on improving circuits and packaging in order to reduce component cost, improve ease of manufacture, and accommodate product size constraints, as well as analysis techniques, such as computer simulations intended to reduce design cycle time.
Customers in the Company's target markets require product designs to be completed quickly. A major challenge for Zytec is to reduce design time without reducing quality of the design. In 1996, the Company's average time to design and introduce a product into production improved by 20%, the same rate of improvement achieved in 1994 and 1995. Most of the improvement comes from design standardization and process improvements. In 1995, the Company began a project to use computer simulation to speed the process of original design. The Company expects to realize initial results from this project in late 1997.
Product development is performed by a group of 34 engineers located in Minnesota, 3 in Texas, and 21 in Austria. The Company's total expenditures for research and development were $9.5 million, $8.6 million and $8.1 million in 1996, 1995, and 1994, respectively. Of these amounts, 16.7%, 18.2%, and 30.2%, respectively, were funded by customers in connection with new product designs. Customer reimbursements of research and development expenditures are reported as "other revenue" in the Company's financial statements. Other revenue as a percentage of research and development expenditures is declining, due in part to higher levels of research (which are not reimbursed by customers) and in part to the trend toward lower funding per project.
INTELLECTUAL PROPERTY MATTERS Zytec signed a licensing agreement in September 1992 with Digital Equipment Corporation to complete the design and manufacture of a family of DC/DC converters in the 150 watt to 300 watt range. In addition, Zytec signed a license agreement with Ericsson Components AB (Ericsson), a multinational telecommunications firm headquartered in Sweden, for Ericsson's power division to market Zytec's DC/DC converters in the standard power supply marketplace worldwide. The licensing agreement with Ericsson will expire December 31, 2002.
Zytec also signed a licensing agreement, in December 1994, with Galaxy Power Inc., (Galaxy) Boston, Massachusetts, to develop a "next generation" family of high density DC/DC converters. This agreement is a non-exclusive, perpetual license to make, have made, use, market and sell certain high density DC/DC product lines under Zytec's name and on a private label basis to Ericsson for an up-front license fee plus engineering fees. Zytec also has a first right to acquire a license from Galaxy for certain future products developed by Galaxy. These products were introduced to the market place in 1996.
Zytec currently holds several patents, trademarks, and a service mark. These items of intellectual property are not deemed of significant importance to the Company's business. The Company believes that although the patents and other proprietary information it holds and may obtain will be of value, they will not determine the Company's success, which depends principally on its emphasis on service and value.
EMPLOYEES As of February 28, 1997, the Power Conversion segment had 1,482 full-time employees in the following locations:
Minnesota 635 Austria 381 Colorado 187 Hungary 276 Texas 3
The Company also engaged other personnel on a part-time basis. None of the Company's United States employees are members of a collective bargaining unit. The employees of Zytec Austria are members of a national labor union, as are most employees of Austrian companies. Management believes employee relations are good.
SERVICES AND LOGISTICS
INDUSTRY OVERVIEW OEMs must find ways to repair products which fail in the field. Often, the process involves the logistics of arranging for return of products and, when they have been repaired, arranging for delivery of products to their customers. This function has traditionally been accomplished as part of the OEM's business. In the 1980s and 1990s, as companies have focused their energies on core competencies, electronics manufacturers have often outsourced many activities that they do not consider essential to their business. In the case of Zytec's Services and Logistics operation, the Company was retained by Hewlett-Packard ("HP") in 1992 to manage inbound logistics and outbound logistics for some of its computer products and repair certain products. This business has grown rapidly since 1992 as HP has transferred more products to Zytec. The original products repaired were older computers, special purpose computers, monitors and some power units. Since 1992, Zytec has taken over repair of laserjet and deskjet printers, faxes, scanners and other products. It is this regular transfer of products from HP to Zytec that has been responsible for the high growth rates in the business. Through 1996, nearly all of the Services and Logistics' sales were to HP. In 1997, Zytec plans to expand similar services to other customers.
STRATEGY Zytec's objective is to be a value added supplier to its customers for repair services and logistics by specializing in process design improvement, thus allowing the customers to achieve high quality service on products it sells at a lower cost than the customers could otherwise enjoy. In addition, Zytec's Services and Logistics operation has taken steps to broaden its business base to include some aspects of network systems design and installation as well as service.
It is Zytec's strategy to expand its Services and Logistics facilities within the value chain of manufacturer distribution and repair. For this purpose, Zytec has established a Foreign Trade Zone ("FTZ"), which allows reduced or delayed customs duties on products returned from foreign locations for repair or on component parts shipped to the United States and assembled in the FTZ. The FTZ, together with existing repair processes, allows Zytec to service both domestic and foreign products and, in combination with its process design capability, to perform assembly or light manufacturing operations. Another expansion of the value chain involves network services operations, which plan to target configuration and installation of hardware, as well as provide follow-on maintenance.
PRODUCTS AND SERVICES INBOUND LOGISTICS Zytec receives nearly all of the returned products for the computer-related divisions of HP. The first step in Zytec's process is to determine the nature of repair needed and the supplier to perform the repair. Since HP uses a number of different suppliers for its components, repair of those components may be accomplished by Zytec (about 48% of products returned) or by some 277 other suppliers. Zytec's first task is to accomplish the identification and redirecting of units in an efficient manner.
PRODUCT REPAIR Zytec repairs approximately 3,500 products for HP. Zytec designs processes for repairing both high volume and low volume products. Repair is accomplished using parts specified and supplied by HP. Work teams from Zytec analyze and design the processes for repairing the products.
OUTBOUND LOGISTICS Zytec develops and maintains warehousing space for storage of defective and repaired products. Some products are repaired and shipped back to the original customer; some are repaired to equivalent-to-new (ETN) condition and put in stock, and some products are scrapped for parts value. Ownership of all products is retained by HP throughout these processes.
FOREIGN TRADE ZONE The Company has recently completed development of a FTZ, which allows repair and basic manufacture of parts arriving from foreign manufacturers without immediate payment of duty. The FTZ also gives HP some cost advantages in forwarding fees.
EMPLOYEES As of February 28, 1997, the Company had 544 full-time employees in the Services and Logistics segment located in Lincoln, California.
ITEM 2.
ITEM 2. PROPERTIES
The following table identifies the Company's facilities. Management believes that the Company's facilities are adequate for the foreseeable future.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
The Company and its subsidiaries are involved in various legal proceedings arising in the normal course of business, none of which is expected to result in any significant loss to the Company or any of its subsidiaries.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company held a Special Meeting of Stockholders on October 9, 1996 to approve the Zytec Corporation Employee Stock Purchase Plan. The votes of the stockholders on this proposal were as follows:
In Favor Opposed Abstained Broker Non-Vote -------- ------- --------- --------------- 5,071,469 68,581 33,610 -0-
PART II
ITEM 5.
ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Information regarding the market for the Company's Common Stock and related stockholder matters is set forth under "Zytec Common Stock" on page 27 in the Company's Annual Report to Shareholders for the year ended December 31, 1996, and is incorporated herein by reference.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
Selected financial data of the Company is set forth under "Selected Financial Data" on page 10 in the Company's Annual Report to Shareholders for the year ended December 31, 1996, and is incorporated herein by reference.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Management's Discussion and Analysis of Financial Condition and Results of Operations is set forth under "Financial and Operations Review" on pages 11-15 in the Company's Annual Report to Shareholders for the year ended December 31, 1996, and is incorporated herein by reference.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements of the Company as of December 31, 1996 and 1995, and for each of the three years in the period ended December 31, 1996, are set forth on pages 16-27 in the Company's Annual Report to Shareholders for the year ended December 31, 1996, and are incorporated herein by reference. Quarterly consolidated financial data is set forth under "Quarterly Financial Information" on page 27 in the Company's Annual Report to Shareholders for the year ended December 31, 1996, and is incorporated herein by reference.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information regarding directors and executive officers of the Company is set forth under "Information Regarding Directors, Nominees and Executive Officers" on pages 3-9 in the Company's definitive proxy statement for its 1997 Annual Meeting of Shareholders to be held April 28, 1997, and is incorporated herein by reference.
Information regarding compliance with Section 16(a) of the Securities Exchange Act of 1934 is set forth under "Principal Shareholders--Compliance with Section 16(a)" on page 13 in the Company's definitive proxy statement for its 1997 Annual Meeting of Shareholders to be held April 28, 1997, and is incorporated herein by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
Information regarding compensation of directors and executive officers of the Company is set forth under "Information Regarding Directors, Nominees and Executive Officers" on pages 7-10 in the Company's definitive proxy statement for its 1997 Annual Meeting of Shareholders to be held April 28, 1997, and is incorporated herein by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information regarding security ownership of certain beneficial owners and management is set forth under "Principal Shareholders" on pages 12-13 in the Company's definitive proxy statement for its 1997 Annual Meeting of Shareholders to be held April 28, 1997, and is incorporated herein by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information regarding certain relationships and related transactions is set forth under "Information Regarding Directors, Nominees and Executive Officers" on pages 3-9 in the Company's definitive proxy statement for its 1997 Annual Meeting of Shareholders to be held April 28, 1997, and is incorporated herein by reference.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) FINANCIAL STATEMENTS, FINANCIAL STATEMENT SCHEDULES AND EXHIBITS
1. FINANCIAL STATEMENTS.
The following are incorporated herein by reference from pages 16-27 of the Company's Annual Report to Shareholders for the year ended December 31, 1996:
Consolidated Statements of Operations for the years ended December 31, 1996, 1995, and 1994 Consolidated Balance Sheets as of December 31, 1996 and 1995 Consolidated Statements of Cash Flows for the years ended December 31, 1996, 1995, and 1994 Consolidated Statement of Stockholders' Equity for the years ended December 31, 1996, 1995 and 1994 Notes to Consolidated Financial Statements Report of Independent Accountants
2. FINANCIAL STATEMENT SCHEDULES. The following are included herein on pages 24-25 and should be read in conjunction with the consolidated financial statements referred to above:
Report of Independent Accountants Schedule II -- Valuation and Qualifying Accounts
All other schedules are inapplicable to the Registrant, or equivalent information has been included in the consolidated financial statements or the notes thereto, and have therefore been excluded.
3. EXHIBITS. See Index to Exhibits on pages 19-23 of this Report.
(b) REPORTS ON FORMS 8-K
The Company did not file any reports on Form 8-K during the three months ended December 31, 1996.
SIGNATURES
Pursuant to the requirements of Section 13 or Section 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.
Dated: March 17, 1997 ZYTEC CORPORATION (Registrant)
By /s/ John B. Rogers ------------------------------------- John B. Rogers Treasurer and Vice President - Finance
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
REPORT OF INDEPENDENT ACCOUNTANTS
To the Stockholders and Board of Directors of Zytec Corporation:
Our report on the consolidated financial statements of Zytec Corporation has been incorporated by reference in this Form 10-K from page 27 of the 1996 Annual Report to Shareholders of Zytec Corporation. In connection with our audits of such financial statements, we have also audited the related financial statement schedule listed in the index on page 16 of this Form 10-K.
In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information required to be included therein.
/s/ Coopers & Lybrand L.L.P. ----------------------------------- COOPERS & LYBRAND L.L.P.
Minneapolis, Minnesota February 18, 1997
(a) Obsolete inventory written off. (b) Uncollectible accounts written off, net of recovery of accounts previously written off. (c) Amounts charged to other accounts includes foreign currency translation adjustments.