** **

**U.S. SECURITIES AND EXCHANGECOMMISSION**

**WASHINGTON, D.C.  20549**

 

**FORM 10-Q**

 

| **(Mark One)**                                                                                                                                          |   |                                                                                          |
|---------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------------------------------------------------------------------------|
|                                                                                                                                                    |   |                                                                                          |
| **ý**                                                                                                                                              |   | **Quarterly report pursuant to  Section 13 or 15(d) of the Securities Exchange Act of 1934**  |
|                                                                                                                                                    |   |                                                                                          |
| **For the quarterly period ended June 27,  2003 or**                                                                                                    |
|                                                                                                                                                    |   |                                                                                          |
| **o**                                                                                                                                                   |   | **Transition report pursuant to  Section 13 or 15(d) of the Securities Exchange Act of 1934** |
|                                                                                                                                                    |   |                                                                                          |
| **For the period from             to            /** |
|                                                                                                                                                    |
| **Commission file number: 000-30575**                                                                                                                   |
|                                                                                                                                                         |        |                                                                                               |  |

 

**AVOCENT CORPORATION**

(Exact Name of Registrant as Specified in ItsCharter)

 

| **Delaware**                                                     |   | **91-2032368**                          |
|------------------------------------------------------------------|--------|-----------------------------------------|
| (State or Other Jurisdiction of  Incorporation or  Organization) |   | (I.R.S. Employer Identification Number) |
|                                                             |   |                                    |
| **4991 Corporate Drive  Huntsville, Alabama**                    |   | **35805**                               |
| (Address of Principal Executive Offices)                         |   | (Zip Code)                              |

 

**256-430-4000**(Registrant’s Telephone Number, Including Area Code)

 

Indicate bycheck mark whether the registrant (1) has filed all reports required to befiled by Section 13 or 15(d) of the Securities Exchange Act of 1934, asamended, during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports) and (2) has been subject to suchfiling requirements for the past 90 days.

 

ý Yes  o No

 

Indicate by check mark whether the registrant is an accelerated filer(as defined in Rule 12b-2 of the Securities Exchange Act of 1934, as amended).

 

ý Yes  o No

 

Asof August 4, 2003, the number of outstanding shares of the Registrant’s CommonStock was 46,357,883.

 

 

----

 

**AVOCENTCORPORATION**

**FORM10-Q**

**JUNE27, 2003**

 

**INDEX**

 
| Part I     | Financial Information |
|------------|-----------------------|
|       |                  |
|       | Item 1.               | Financial  Statements |
|       |                  |   |
|       |                  | Condensed Consolidated Statements of  Operations (unaudited) for the Three and Six Months Ended June 27, 2003 and  June 28, 2002 |
|       |                  | Condensed Consolidated Balance Sheets at  June 27, 2003 (unaudited) and December 31, 2002 |
|       |                  | Condensed Consolidated Statements of Cash  Flows (unaudited) for the Six Months Ended June 27, 2003 and June 28,  2002 |
|       |                  | Notes to Condensed Consolidated Financial  Statements (unaudited) |
|       |                  |   |
|       | Item 2.               | Management’s  Discussion and Analysis of Financial Condition and Results of Operations |
|       |                  |   |
|       | Item 3.               | Quantitative  and Qualitative Disclosures about Market Risks |
|       |                  |   |
|       | Item 4.               | Controls  and Procedures |
|       |                  |   |
| Part II    | Other  Information    |
|       |                  |   |
|       | Item 1.               | Legal Proceedings |
|       | Item 4.               | Submission of Matters to a Vote of Security  Holders |
|       | Item 6.               | Exhibits  and Reports on Form 8-K |
|       |                  |   |
| Signatures |

 

2

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**PART I - FINANCIALINFORMATION**

 

**Item 1****.  Financial Statements**

 

**AVOCENTCORPORATION**

**CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS**

(In thousands, except per share data)

#### ** **

|                                                           |   | **For the  three months ended** |   | **For the  six months ended** |   |
|----------------------------------------------------------------|--------|---------------------------------|--------|-------------------------------|--------|
|                                                           |   | **June 27,  2003**              |   | **June 28,  2002**            |   | **June 27,  2003** |   | **June 28,  2002** |   |
|                                                           |   | **(unaudited)**                 |   | **(unaudited)**               |   | **(unaudited)** |   | **(unaudited)** |   |
|                                                           |   |                            |   |                          |   |   |   |   |   |
| Net sales                                                      |   | $                               | 70,612 |                          | $      | 63,018 |   | $ | 141,774 |   | $ | 125,122 |   |
| Cost of sales                                                  |   | 29,927                          |   | 31,402                        |   | 61,492 |   | 63,243 |   |
| Gross profit                                                   |   | 40,685                          |   | 31,616                        |   | 80,282 |   | 61,879 |   |
|                                                           |   |                            |   |                          |   |   |   |   |   |
| Research and development expenses                              |   | 7,654                           |   | 6,972                         |   | 14,466 |   | 13,409 |   |
| Selling, general and administrative  expenses                  |   | 18,124                          |   | 15,468                        |   | 34,783 |   | 35,391 |   |
| Amortization of intangible assets                              |   | 6,156                           |   | 5,297                         |   | 12,312 |   | 10,594 |   |
| Total operating expenses                                       |   | 31,934                          |   | 27,737                        |   | 61,561 |   | 59,394 |   |
|                                                           |   |                            |   |                          |   |   |   |   |   |
| Income from operations                                         |   | 8,751                           |   | 3,879                         |   | 18,721 |   | 2,485 |   |
|                                                           |   |                            |   |                          |   |   |   |   |   |
| Net investment income                                          |   | 1,281                           |   | 1,479                         |   | 2,507 |   | 2,865 |   |
| Net realized investment losses                                 |   | (123                            | )      | (69                           | )      | (210 | ) | (144 | ) |
| Other income (expense), net                                    |   | (114                            | )      | (166                          | )      | (419 | ) | (113 | ) |
|                                                           |   |                            |   |                          |   |   |   |   |   |
| Income before income taxes                                     |   | 9,795                           |   | 5,123                         |   | 20,599 |   | 5,093 |   |
| Provision for income taxes                                     |   | 2,450                           |   | 1,556                         |   | 5,087 |   | 1,223 |   |
|                                                           |   |                            |   |                          |   |   |   |   |   |
| Net income                                                     |   | $                               | 7,345  |                          | $      | 3,567 |   | $ | 15,512 |   | $ | 3,870 |   |
|                                                           |   |                            |   |                          |   |   |   |   |   |
| Earnings per share:                                            |   |                            |   |                          |   |   |   |   |   |
| Basic                                                          |   | $                               | 0.16   |                          | $      | 0.08 |   | $ | 0.34 |   | $ | 0.09 |   |
| Diluted                                                        |   | $                               | 0.16   |                          | $      | 0.08 |   | $ | 0.33 |   | $ | 0.08 |   |
|                                                           |   |                            |   |                          |   |   |   |   |   |
| Weighted average shares used in computing  earnings per share: |   |                            |   |                          |   |   |   |   |   |
| Basic                                                          |   | 45,917                          |   | 44,947                        |   | 45,671 |   | 44,888 |   |
| Diluted                                                        |   | 47,361                          |   | 45,625                        |   | 47,026 |   | 45,685 |   |

 

See notes accompanying these condensedconsolidated financial statements.

 

3

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**AVOCENTCORPORATION**

**CONDENSEDCONSOLIDATED BALANCE SHEETS**

(In thousands, except per share data)

 
|                                                                                                                                                                        |   | **June 27,  2003** |    | **December  31,  2002** |   |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------------------|---------|-------------------------|--------|
|                                                                                                                                                                        |   | **(unaudited)**    |    | **(audited)**           |   |
| **ASSETS**                                                                                                                                                                  |   |               |    |                    |   |
| Current assets:                                                                                                                                                             |   |               |    |                    |   |
| Cash and cash equivalents                                                                                                                                                   |   | $                  | 59,042  |                    | $      | 61,699 |   |
| Investments maturing within one year                                                                                                                                        |   | 104,395            |    | 107,619                 |   |
| Accounts receivable, net                                                                                                                                                    |   | 38,555             |    | 36,313                  |   |
| Income taxes receivable                                                                                                                                                     |   | 381                |    | 609                     |   |
| Other receivables, net                                                                                                                                                      |   | 583                |    | 1,191                   |   |
| Inventories, net                                                                                                                                                            |   | 20,527             |    | 24,422                  |   |
| Other current assets                                                                                                                                                        |   | 3,229              |    | 3,256                   |   |
| Deferred tax assets                                                                                                                                                         |   | 4,752              |    | 5,932                   |   |
| Total current assets                                                                                                                                                        |   | 231,464            |    | 241,041                 |   |
| Investments                                                                                                                                                                 |   | 93,284             |    | 44,849                  |   |
| Property held for lease, net                                                                                                                                                |   | 1,624              |    | 1,723                   |   |
| Property and equipment, net                                                                                                                                                 |   | 32,356             |    | 24,313                  |   |
| Goodwill                                                                                                                                                                    |   | 203,625            |    | 203,625                 |   |
| Other intangible assets, net                                                                                                                                                |   | 40,195             |    | 52,601                  |   |
| Other assets                                                                                                                                                                |   | 552                |    | 455                     |   |
|                                                                                                                                                                        |   | $                  | 603,100 |                    | $      | 568,607 |   |
|                                                                                                                                                                        |   |               |    |                    |   |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                                                               |   |               |    |                    |   |
| Current liabilities:                                                                                                                                                        |   |               |    |                    |   |
| Accounts payable                                                                                                                                                            |   | $                  | 7,935   |                    | $      | 6,416 |   |
| Accrued wages and commissions                                                                                                                                               |   | 6,506              |    | 7,743                   |   |
| Accrued liabilities                                                                                                                                                         |   | 13,613             |    | 13,662                  |   |
| Income taxes payable                                                                                                                                                        |   | 6,750              |    | 6,901                   |   |
| Total current liabilities                                                                                                                                                   |   | 34,804             |    | 34,722                  |   |
| Deferred tax liability                                                                                                                                                      |   | 11,485             |    | 16,213                  |   |
| Total liabilities                                                                                                                                                           |   | 46,289             |    | 50,935                  |   |
| Stockholders’ equity:                                                                                                                                                  |   |               |    |                    |   |
| Preferred stock, $0.001 par value; 5,000  shares authorized, no shares issued and outstanding                                                                               |   | —             |    | —                  |   |
| Common stock, $0.001 par value; 200,000  shares authorized, 46,235 and 45,210 shares issued and outstanding as of June  27, 2003 and  December 31, 2002,  respectively |   | 46                 |    | 45                      |   |
| Additional paid-in capital                                                                                                                                                  |   | 955,571            |    | 936,288                 |   |
| Accumulated other comprehensive income                                                                                                                                      |   | 1,122              |    | 14                      |   |
| Deferred compensation                                                                                                                                                       |   | (3,001             | )       | (6,236                  | )      |
| Accumulated deficit                                                                                                                                                         |   | (396,927           | )       | (412,439                | )      |
| Total stockholders’ equity                                                                                                                                             |   | 556,811            |    | 517,672                 |   |
|                                                                                                                                                                        |   | $                  | 603,100 |                    | $      | 568,607 |   |

 

See notes accompanying these condensedconsolidated financial statements.

 

4

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**AVOCENTCORPORATION**

**CONDENSEDCONSOLIDATED STATEMENTS OF CASH FLOWS**

(Unaudited, in thousands)

 
|                                                                               |   | **For the  six months ended** |       |
|------------------------------------------------------------------------------------|--------|-------------------------------|------------|
|                                                                               |   | **June 27,  2003**            |       | **June 28,  2002** |   |
|                                                                               |   |                          |       |   |   |
| Cash flows from operating activities:                                              |   |                          | * *   |   | * * |
| Net income                                                                         |   | $                             | 15,512     |   | $ | 3,870 |   |
| Adjustments to reconcile net income to net  cash provided by operating activities: |   |                          |       |   |   |
| Depreciation                                                                       |   | 2,350                         |       | 2,137 |   |
| Amortization of intangible assets                                                  |   | 12,312                        |       | 10,595 |   |
| Stock-based compensation                                                           |   | 3,225                         |       | 8,911 |   |
| Amortization of premiums on investments                                            |   | 1,645                         |       | 1,022 |   |
| Net realized investment losses                                                     |   | 210                           |       | 144 |   |
| Income tax benefit from exercise of stock  options                                 |   | 4,787                         |       | — |   |
| Changes in operating assets and  liabilities:                                      |   |                          |       |   |   |
| Accounts receivable, net                                                           |   | (2,242                        | )          | 14,457 |   |
| Other receivables, net                                                             |   | 608                           |       | 561 |   |
| Inventories, net                                                                   |   | 3,895                         |       | 6,912 |   |
| Other assets                                                                       |   | 123                           |       | 1,853 |   |
| Accounts payable                                                                   |   | 1,519                         |       | (657 | ) |
| Accrued wages and commissions                                                      |   | (1,237                        | )          | 312 |   |
| Accrued liabilities                                                                |   | (49                           | )          | (3,623 | ) |
| Income taxes, current and deferred                                                 |   | (4,002                        | )          | (3,418 | ) |
| Net cash provided by operating activities                                          |   | 38,656                        |       | 43,076 |   |
|                                                                               |   |                          | ** ** |   | ** ** |
| Cash flows from investing activities:                                              |   |                          | ** ** |   | ** ** |
| Purchases of property and equipment                                                |   | (10,393                       | )          | (3,491 | ) |
| Purchases of investments                                                           |   | (116,235                      | )          | (102,383 | ) |
| Maturities of investments                                                          |   | 70,687                        |       | 41,899 |   |
| Proceeds from sales of investments                                                 |   | —                        |       | 305 |   |
| Net cash used in investing activities                                              |   | (55,941                       | )          | (63,670 | ) |
|                                                                               |   |                          | ** ** |   | ** ** |
| Cash flows from financing activities:                                              |   |                          | ** ** |   | ** ** |
| Proceeds from employee stock option  exercises                                     |   | 13,851                        |       | 1,810 |   |
| Proceeds from employee stock purchase plan                                         |   | 657                           |       | 625 |   |
| Net cash provided by financing activities                                          |   | 14,508                        |       | 2,435 |   |
|                                                                               |   |                          |       |   |   |
| Effect of exchange rate changes on cash and  cash equivalents                      |   | 120                           |       | 47 |   |
|                                                                               |   |                          |       |   |   |
| Net increase (decrease) in cash and cash  equivalents                              |   | (2,657                        | )          | (18,112 | ) |
| Cash and cash equivalents at beginning of  period                                  |   | 61,699                        |       | 80,506 |   |
| Cash and cash equivalents at end of period                                         |   | $                             | 59,042     |   | $ | 62,394 |   |

 

See notes accompanying these condensedconsolidated financial statements.

 

5

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**AVOCENT CORPORATION**

**NOTES TO CONDENSEDCONSOLIDATED FINANCIAL STATEMENTS**

(Unaudited, in thousands)

 

Note 1.   Basisof Presentation

 

The accompanyingunaudited condensed consolidated financial statements have been prepared inconformity with generally accepted accounting principles and reflect alladjustments consisting of normal recurring adjustments which, in the opinion ofmanagement, are necessary for a fair presentation of the results for theperiods shown.  The results ofoperations for these periods are not necessarily indicative of the resultsexpected for the full fiscal year or for any future periods.  The preparation of financial statements inconformity with generally accepted accounting principles requires management tomake estimates and assumptions that affect the reported amounts of assets andliabilities and disclosure of contingent assets and liabilities at the date ofthe financial statements and the reported amounts of revenues and expensesduring the reporting period.  Actualresults could differ from those estimates and assumptions.  Certain reclassifications have been made tothe prior year financial statements to conform to the current yearpresentation.

 

The accompanyingunaudited condensed consolidated financial statements should be read inconjunction with the audited consolidated financial statements and the relatednotes contained in our Annual Report on Form 10-K for the year ended December31, 2002, which is on file with the Securities and Exchange Commission and isalso available on our website.

 

We report ourannual results based on years ending December 31.  We report our quarterly results for the first three interimperiods based on 13 week periods ending on Fridays and for the fourth interimperiod ending on December 31.

 

Our financialstatements are consolidated and include the accounts of Avocent Corporation andour wholly owned subsidiaries. Significant inter-company transactions and balances have been eliminatedin consolidation.

 

Note 2.   Inventories

 

Inventoriesconsisted of the following:

 
|             |   | **June 27,  2003** |   | **December  31,  2002** |   |
|------------------|--------|--------------------|--------|-------------------------|--------|
|             |   | **(unaudited)**    |   | **(audited)**           |   |
| Raw materials    |   | $                  | 5,376  |                    | $      | 7,560 |   |
| Work-in-process  |   | 1,634              |   | 851                     |   |
| Finished goods   |   | 13,517             |   | 16,011                  |   |
| Inventories, net |   | $                  | 20,527 |                    | $      | 24,422 |   |

 

Inventories above have been reduced by reserves for excess and obsoleteinventories of $5,293 and $7,502, as of June 27, 2003 and December 31, 2002,respectively.

 

Note 3.   Stock Options andDeferred Compensation

 

Deferredcompensation — We recorded $41,165 of deferred compensation related to Cybexemployee stock options at the time of the merger of Apex and Cybex on July 1,2000.  Additionally, we recorded $2,752of deferred compensation related to the Equinox employee stock options at thetime of the acquisition on January 3, 2001. The deferred compensation is being amortized over the vesting period ofthe options for which it was recorded.

 

Stock optionexercises — Options to purchase 973 shares of our Common Stock were exercisedduring the six months ended June 27, 2003. We received proceeds totaling $13,851 from these option exercises. Also,51 shares of our Common Stock were issued during the six months ending June 27,2003 under our Employee Stock Purchase Plan. We received proceeds totaling $657 from these share issuances.

 

Note 4.   Accumulated OtherComprehensive Income

 

We recordunrealized gains and losses on our foreign currency translation adjustments andunrealized holding gains or losses on our available-for-sale securities asaccumulated other comprehensive income, which is included as a separatecomponent of stockholders’ equity.  Forthe six months ended June 27, 2003 and June 28, 2002, total other comprehensiveincome amounted to $1,108 and $485, respectively.  As of June 27, 2003 and December 31, 2002, total accumulatedother comprehensive income was $1,122 and $14, respectively.

 

6

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Note 5.   Earnings per Share

 
|                                                                 |   | **Income  (Numerator)** |       | **Shares  (Denominator)** |       | **Per-Share  Amount** |       |
|----------------------------------------------------------------------|--------|-------------------------|------------|---------------------------|------------|-----------------------|------------|
|                                                                 |   |                    | ** ** |                      | ** ** |                  | ** ** |
| **For the three months ended June 27, 2003**                         |   |                    |       |                      |       |                  |       |
| **Basic EPS**                                                        |   |                    |       |                      |       |                  |       |
| Net income available to common stockholders                          |   | $                       | 7,345      |                      | 45,917     |                  | $          | 0.16 |   |
| **Effect of Dilutive Securities**                                    |   |                    |       |                      |       |                  |       |
| Stock options                                                        |   | —                  |       | 1,444                     |       | —                |       |
| **Diluted EPS**                                                      |   |                    |       |                      |       |                  |       |
| Net income available to common stockholders and  assumed conversions |   | $                       | 7,345      |                      | 47,361     |                  | $          | 0.16 |   |
|                                                                 |   |                    |       |                      |       |                  |       |
| **For the three months ended June 28, 2002**                         |   |                    |       |                      |       |                  |       |
| **Basic EPS**                                                        |   |                    |       |                      |       |                  |       |
| Net income available to common stockholders                          |   | $                       | 3,567      |                      | 44,947     |                  | $          | 0.08 |   |
| **Effect of Dilutive Securities**                                    |   |                    |       |                      |       |                  |       |
| Stock options                                                        |   | —                  |       | 678                       |       | —                |       |
| **Diluted EPS**                                                      |   |                    |       |                      |       |                  |       |
| Net income available to common stockholders and  assumed conversions |   | $                       | 3,567      |                      | 45,625     |                  | $          | 0.08 |   |
|                                                                 |   |                    |       |                      |       |                  |       |
| **For the six months ended June 27, 2003**                           |   |                    |       |                      |       |                  |       |
| **Basic EPS**                                                        |   |                    |       |                      |       |                  |       |
| Net income available to common stockholders                          |   | $                       | 15,512     |                      | 45,671     |                  | $          | 0.34 |   |
| **Effect of Dilutive Securities**                                    |   |                    |       |                      |       |                  |       |
| Stock options                                                        |   | —                  |       | 1,355                     |       | —                |       |
| **Diluted EPS**                                                      |   |                    |       |                      |       |                  |       |
| Net income available to common stockholders and  assumed conversions |   | $                       | 15,512     |                      | 47,026     |                  | $          | 0.33 |   |
|                                                                 |   |                    |       |                      |       |                  |       |
| **For the six months ended June 28, 2002**                           |   |                    |       |                      |       |                  |       |
| **Basic EPS**                                                        |   |                    |       |                      |       |                  |       |
| Net income available to common stockholders                          |   | $                       | 3,870      |                      | 44,888     |                  | $          | 0.09 |   |
| **Effect of Dilutive Securities**                                    |   |                    |       |                      |       |                  |       |
| Stock options                                                        |   | —                  |       | 797                       |       | —                |       |
| **Diluted EPS**                                                      |   |                    |       |                      |       |                  |       |
| Net income available to common stockholders and  assumed conversions |   | $                       | 3,870      |                      | 45,685     |                  | $          | 0.08 |   |

 

7

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Note 6.   Sales by GeographicRegion

 

We reportoperations as a single operating segment; however, we report sales bygeographic region.  Following is apresentation of sales by geographic region for the three and six month periodsended June 27, 2003 and June 28, 2002:

 
|              |   | **For the  Three Months  Ended** |       | **For the  Six Months  Ended** |       |
|-------------------|--------|----------------------------------|------------|--------------------------------|------------|
|              |   | **June 27,  2003**               |       | **June 28,  2002**             |       | **June 27,  2003** |   | **June 28,  2002** |   |
|              |   | **(unaudited)**                  |       | **(unaudited)**                |       | **(unaudited)** |   | **(unaudited)** |   |
| Net sales:        |   |                             | ** ** |                           | ** ** |   | ** ** |   | ** ** |
| United States     |   | $                                | 44,170     |                           | $          | 40,509 |   | $ | 86,491 |   | $ | 77,856 |   |
| Rest of the World |   | 26,442                           |       | 22,509                         |       | 55,283 |   | 47,266 |   |
|              |   | $                                | 70,612     |                           | $          | 63,018 |   | $ | 141,774 |   | $ | 125,122 |   |

 

As of June 27, 2003, long-lived assets totaled $277,800, which includes$269,913 held in the U.S. and $7,887 held outside of the U.S.  As of December 31, 2002, long-lived assetstotaled $282,262, which includes $280,423 held in the U.S. and $2,305 heldoutside of the U.S.

 

Note 7.   ForwardContracts

** **

We useforward contracts to reduce our foreign currency exposure related to the netcash flows from our international operations. The majority of these contractsare short-term contracts (three months or less) and are marked-to-market eachquarter and included in trade payables, with the offsetting gain or lossincluded in other revenues in the accompanying statements of operations. AtJune 27, 2003, we had a liability related to one open forward contract,maturing in the third quarter of 2003, with a fair value at June 27, 2003 ofapproximately $1.

 

Note 8.   Goodwilland Other Intangible Assets

 

Acquired other intangible assets subject toamortization are as follows:

 
|                            |   | **June 27,  2003**           |    | **December  31, 2002**        |   |
|---------------------------------|--------|------------------------------|---------|-------------------------------|--------|
|                            |   | **Gross  Carrying  Amounts** |    | **Accumulated  Amortization** |   | **Gross  Carrying  Amounts** |   | **Accumulated  Amortization** |   |
| Developed technology            |   | $                            | 65,740  |                          | $      | 39,340 |   | $ | 65,740 |   | $ | 32,869 |   |
| Patents and trademarks          |   | 17,453                       |    | 7,622                         |   | 17,350 |   | 5,663 |   |
| Customer base and certification |   | 21,113                       |    | 19,532                        |   | 21,113 |   | 16,013 |   |
| Non-compete agreements          |   | 3,273                        |    | 909                           |   | 3,273 |   | 364 |   |
| Other                           |   | 101                          |    | 82                            |   | 101 |   | 67 |   |
|                            |   | $                            | 107,680 |                          | $      | 67,485 |   | $ | 107,577 |   | $ | 54,976 |   |

 

Theapproximate estimated annual amortization for other intangibles is as follows:

** **

| **Years ending December 31:** |   |   |   |
|-------------------------------|--------|--------|--------|
| 2003                          |   | $      | 21,200 |   |
| 2004                          |   | $      | 17,300 |   |
| 2005                          |   | $      | 10,500 |   |
| 2006                          |   | $      | 2,100  |   |
| 2007                          |   | $      | 1,500  |   |

 

Inaccordance with Statement of Financial Accounting Standards No. 142, *Goodwill andOther Intangible Assets*, we test goodwill at least annually for impairment.  Unless conditions warrant earlier review, we perform the annual impairmenttest in the fourth quarter of each year.

 

There were no additions ordeletions to the carrying amount of goodwill for the three and six months endedJune 27, 2003.

 

8

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Note 9.   ShannonBuilding Purchase

 

In June 2003, we purchased a facility in the freetrade zone in Shannon, Ireland, for approximately $6,400. In February 2003, wegave notice of our intent to terminate our current lease upon transfer of ourEuropean headquarters and manufacturing operations to the new facility. We paida lease termination penalty of $514 upon notification to the landlord of ourintention to cancel the lease. This payment was expensed in the first quarterof 2003.  We occupied the new buildingduring mid-July 2003.

 

Note 10. Investment in VIEO, Inc.

 

In the second quarter of 2003 we made a $3,000preferred stock investment in VIEO, Inc. VIEO provides management products forAdaptive Application Infrastructure Management.  VIEO’s products combine application-aware networking hardwarewith intelligent infrastructure management software in a secure, purpose-builtappliance to measure, analyze and control application resources.  Headquartered in Austin, Texas, VIEO hasreceived funding from a wide group of investors, including our investment.  Our investment, which represents less than10% ownership in VIEO, is being accounted for on the cost method.

 

Note 11. Stock Based Compensation

 

We apply the intrinsic value method in AccountingPrinciples Board Opinion No. 25, *Accounting for Stock Issued to Employees*,and related Interpretations in accounting for our stock plans. Had compensationcost for our stock-based compensation plans been determined based on the fairvalue at the grant dates for awards under those plans consistent with themethod prescribed in SFAS No. 123, *Accounting for Stock-Based Compensation*,our net income and earnings per share would have been reduced to the pro formaamounts indicated below:

 
|                                                                                                                                    |   | **Three  Months ended** |   | **Six Months  Ended** |   |
|-----------------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------|--------|-----------------------|--------|
|                                                                                                                                    |   | **June 27,  2003**      |   | **June 28,  2002**    |   | **June 27,  2003** |   | **June 28,  2002** |   |
| Net income — as reported                                                                                                           |   | $                       | 7,345  |                  | $      | 3,567 |   | $ | 15,512 |   | $ | 3,870 |   |
| Add: Stock-based employee compensation  expense included in reported net income, net of related tax effects                             |   | 1,496                   |   | 3,205                 |   | 2,997 |   | 7,788 |   |
| Deduct: Total stock based employee  compensation expense determined under fair value method for all awards, net  of related tax effects |   | 8,318                   |   | 10,083                |   | 15,857 |   | 20,957 |   |
| Net income (loss) — pro forma                                                                                                      |   | $                       | 523    |                  | $      | (3,311 | ) | $ | 2,652 |   | $ | (9,299 | ) |
|                                                                                                                                    |   |                    |   |                  |   |   |   |   |   |
| Basic earnings per share — as reported                                                                                             |   | $                       | 0.16   |                  | $      | 0.08 |   | $ | 0.34 |   | $ | 0.09 |   |
| Basic earnings (loss) per share — pro forma                                                                                        |   | $                       | 0.01   |                  | $      | (0.07 | ) | $ | 0.06 |   | $ | (0.21 | ) |
| Diluted earnings per share — as reported                                                                                           |   | $                       | 0.16   |                  | $      | 0.08 |   | $ | 0.33 |   | $ | 0.08 |   |
| Diluted earnings (loss) per share — pro  forma                                                                                     |   | $                       | 0.01   |                  | $      | (0.07 | ) | $ | 0.06 |   | $ | (0.21 | ) |

 

The pro forma amounts reflected above are notrepresentative of the effects on reported net income in future years because,in general, the options granted typically do not vest for several years andadditional awards are made each year. The fair value of each option grant isestimated on the grant date using the Black-Scholes option-pricing model usingthe following weighted-average assumptions:

 
|                    |   | **Three  Months Ended** |   | **Six Months  Ended** |   |
|-------------------------|--------|-------------------------|--------|-----------------------|--------|
|                    |   | **June 27,  2003**      |   | **June 28,  2002**    |   | **June 27,  2003** |   | **June 28,  2002** |   |
| Dividend yield          |   | 0.0                     | %      | 0.0                   | %      | 0.0 | % | 0.0 | % |
| Expected life (years)   |   | 4.5                     |   | 5.0                   |   | 4.5 |   | 5.0 |   |
| Expected volatility     |   | 60.0                    | %      | 67.5                  | %      | 60.0 | % | 67.5 | % |
| Risk-free interest rate |   | 2.38                    | %      | 4.47                  | %      | 2.38 – 2.69 | % | 4.47 | % |

 

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**Item 2****. Management’s Discussion and Analysis of Financial Condition and Resultsof Operations.**

 

*THEINFORMATION IN THIS ITEM 2 “MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS”CONTAINS FORWARD-LOOKING STATEMENTS, INCLUDING, WITHOUT LIMITATION, STATEMENTSRELATING TO OUR FUTURE BUSINESS PROSPECTS AND ECONOMIC CONDITIONS IN GENERAL,STATEMENTS REGARDING OUR ENGINEERING AND DESIGN ACTIVITIES, PRODUCTDEVELOPMENT, AND NEW PRODUCT INTRODUCTIONS, STATEMENTS RELATING TO FUTUREPRODUCT DEMAND AND OUR FUTURE SALES, EARNINGS, GROSS PROFIT, INCOME, ANDEXPENSES, STATEMENTS REGARDING INTERNATIONAL SALES, STATEMENTS REGARDING MERGERACCOUNTING, ACQUISITION, AND TRANSACTION COSTS AND ADJUSTMENTS, STATEMENTSABOUT THE RATIO OF SALES AMONG OUR DISTRIBUTION CHANNELS, STATEMENTS REGARDINGFUTURE INVENTORY LEVELS, STATEMENTS ABOUT THE TIMING, IMPLEMENTATION, ANDBENEFITS OF OUR NEW ERP SYSTEM, AND STATEMENTS RELATING TO ANTICIPATED CAPITALSOURCES, NEEDS AND USES.*

 

*THESEFORWARD-LOOKING STATEMENTS ARE SUBJECT TO CERTAIN RISKS AND UNCERTAINTIES THATCOULD CAUSE OUR ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE ANTICIPATED INTHE FORWARD-LOOKING STATEMENTS.  FACTORSTHAT MIGHT CAUSE SUCH A DIFFERENCE INCLUDE, BUT ARE NOT LIMITED TO, THE RISKSASSOCIATED WITH GENERAL ECONOMIC CONDITIONS, RISKS ATTRIBUTABLE TO FUTUREPRODUCT DEMAND, SALES, AND EXPENSES, RISKS ASSOCIATED WITH PRODUCT DESIGNEFFORTS, RISKS ASSOCIATED WITH RELIANCE ON A LIMITED NUMBER OF COMPONENTSUPPLIERS AND SINGLE SOURCE COMPONENTS, THE LOSS OF ONE OF OUR OEM CUSTOMERS, AREDUCTION OR FLUCTUATIONS IN SALES OF OUR OEM OR BRANDED PRODUCTS, INTENSECOMPETITION AND NEW PRODUCTS AND TECHNOLOGIES FROM EXISTING AND NEW COMPETITORS,RISKS RELATED TO PROTECTING OUR INTELLECTUAL PROPERTY RIGHTS, FLUCTUATIONS INFOREIGN CURRENCIES, RISKS RELATED TO MERGER INTEGRATION, AND OTHER RISKSDETAILED IN OUR  ANNUAL REPORT ON FORM10-K, WHICH WAS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON MARCH 27,2003.*

 

**Overview**

 

We design, manufacture, and sell analog anddigital KVM (keyboard, video and mouse) switching systems, serial connectivitydevices, extension and remote access products, technologies, software, anddisplay products for the computer industry. Data center managers and networkadministrators have increasingly complex and growing server populations, andour analog, digital, and serial switching solutions, as well as our extensionand remote access products, technologies, and software, help them managemultiple servers and serially controlled devices from a single local or remoteconsole consisting of a keyboard, video monitor, and mouse.  Specifically, our products can providesignificant cost reductions including lower initial investment, reduced utilitycosts, and space savings, as well as more efficient technical supportcapabilities.

 

We provide “plug and play” switching systemsfor many network administration, management, and storage problems faced bycorporate customers, data centers, and server farms. Our switching solutionsinclude products, technologies, and software sold or licensed under theAvocent, Apex, Cybex, Equinox, and 2C brands, including our *AMXTM*,*AutoViewTM,DS SeriesTM, SwitchView, OutLook®, and XP®4000 Series* products. Ourswitching systems and solutions help facilities managers and networkadministrators access multiple servers and serially controlled devices from oneor more centralized or remote consoles, consolidate hardware requirements, andprovide direct hardwired connections between the switch and the attachedservers to facilitate access to those servers, even when the network is down. OurEquinox branded products add high-performance, reliable, and affordableserver-based products for serial and dial-up access applications.  The Equinox *SuperSerialTM* product line provides serial communications forsecurity, commercial point-of-sale, process control, industrial automation,data collection, remote access, fax servers, Internet access, and customapplications. Our Digital Desktops product line includes the *CstationTM* product.  Initial applications for Cstation includefinancial trading floors where space is at a premium, industrial plant controlenvironments that benefit from remote computers due to harsh or unsecuredenvironments, and government installations that require high security affordedthrough the remote location of the computer and hard disk.

 

A substantial portion of our revenue is derived from sales to a limitednumber of OEMs who purchase our switching systems on a private-label or brandedbasis for integration and sale with their own products, sales through ourreseller and distributor network, and sales to a limited number of directcustomers. For the six months ended June 27, 2003, sales to our OEM customerswere 46% of net sales, sales to our reseller and distributor network were 51%of net sales, and sales to our direct customers were 3% of net sales. We do nothave contracts with many of these customers, and in general, they are obligatedto purchase products from us only pursuant to binding purchase orders.  The loss of, or material decline in ordersfrom, our OEM customers would have a material adverse effect on our business,financial

 

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condition, results of operation, and cash flow.  Our top five customers, including OEMs anddistributors, accounted for approximately 56% of our sales for the six monthsended June 27, 2003.

 

We sell our products in the United States, Canada, Europe, and Asia aswell as in other foreign markets.  Saleswithin the United States accounted for approximately 61% of sales in the sixmonths ended June 27, 2003, while sales outside of the United States accountedfor 39% of sales in the six months ended June 27, 2003.

 

With continued industry-wide initiatives toreduce all channel inventories and to shorten lead times, trends with our majorcustomers are generally to reduce the number of weeks of forward-committed firmorders. This trend is currently affecting our business with certaindistributors, OEMs, and other server manufacturers.  We believe that it will make our futuresales more difficult to predict and inventory levels more difficult to manage.

 

We are currentlyexperiencing increased price competition in the market for all of our products,and we expect that pricing pressures will continue to increase in thefuture.  In addition,general economic conditions are not as favorable as they were in prior years,and our revenue growth rate has slowed. Depending on future general economic conditions and other factors, ourrevenue could decline in the future.

 

We received ISO 9000:2000 accreditation forour global business processes during the first quarter of 2003.  We believe ISO accreditation will become arequirement for doing business with several of our OEM customers.

 

Many of our executive officers and directorsare vested in significant amounts of options to purchase shares of our commonstock and continue to vest in additional shares on a regular basis.  These officers and directors have informedus that they have sold and may sell additional shares of our common stock toprovide personal liquidity and diversify their portfolios.

 

Our stockholders approved the adoption of theAvocent Corporation 2003 Stock Option Plan at the 2003 stockholders meetingheld in June 2003.  Under the 2003 StockOption Plan, 2.0 million shares of our common stock are reserved forissuance.  We expect to file aregistration statement on Form S-8 to register the shares authorized forissuance under this plan during the third quarter of 2003.

#### ** **

**Results of Operations**

 

The following table sets forth, for the periods indicated selectedstatement of operations data expressed as a percentage of net sales: 

 
|                                         |   | **Three Months Ended** |   | **Six Months Ended** |   |
|----------------------------------------------|--------|------------------------|--------|----------------------|--------|
|                                         |   | **June 27,  2003**     |   | **June 28,  2002**   |   | **June 27,  2003** |   | **June 28,  2002** |   |
|                                         |   |                   |   |                 |   |   |   |   |   |
| Net sales                                    |   | 100.0                  | %      | 100.0                | %      | 100.0 | % | 100.0 | % |
| Cost of sales                                |   | 42.4                   |   | 49.8                 |   | 43.4 |   | 50.5 |   |
| Gross profit                                 |   | 57.6                   |   | 50.2                 |   | 56.6 |   | 49.5 |   |
| Operating expenses:                          |   |                   |   |                 |   |   |   |   |   |
| Research and development expenses            |   | 10.8                   |   | 11.1                 |   | 10.2 |   | 10.7 |   |
| Selling, general and administrative expenses |   | 25.7                   |   | 24.5                 |   | 24.5 |   | 28.3 |   |
| Amortization of intangible assets            |   | 8.7                    |   | 8.4                  |   | 8.7 |   | 8.5 |   |
| Total operating expenses                     |   | 45.2                   |   | 44.0                 |   | 43.4 |   | 47.5 |   |
| Income from operations                       |   | 12.4                   |   | 6.2                  |   | 13.2 |   | 2.0 |   |
| Net investment income                        |   | 1.8                    |   | 2.4                  |   | 1.8 |   | 2.3 |   |
| Net realized investment losses               |   | (0.2                   | )      | (0.1                 | )      | (0.2 | ) | (0.1 | ) |
| Other income (expense), net                  |   | (0.2                   | )      | (0.3                 | )      | (0.3 | ) | (0.1 | ) |
| Income before income taxes                   |   | 13.9                   |   | 8.2                  |   | 14.5 |   | 4.1 |   |
| Provision for income taxes                   |   | 3.5                    |   | 2.5                  |   | 3.6 |   | 1.0 |   |
| Net income                                   |   | 10.4                   | %      | 5.7                  | %      | 10.9 | % | 3.1 | % |

 

*Net sales.* Net sales increased 12% to $70.6 million for the second quarter of 2003from $63.0 million for the second quarter of 2002.  The increase in sales resulted primarily from the strength of ourOEM and our reseller and

 

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distributor channels in the second quarter of 2003 as compared to thesecond quarter of 2002.  Both thereseller and distributor channel and the OEM channel benefited from revenuefrom new products introduced during the second half of 2002 and the firstquarter of 2003. Our OEM channel revenue also benefited from modestcontributions of royalty revenue from our embedded solutions. The new productsinclude the AMX, the AVR, and OEM versions of our digital product family.  Additionally, sales of our SwitchViewproduct line increased due to shipments of new products, as well as increasedsales of our SwitchView SC products. Overall, new products accounted for approximately $15.0 million ofsecond quarter 2003 net sales.  Royaltyrevenue for the second quarter of 2003 was nearly $500,000.

 

Sequentially, our sales decreased approximately $600,000 from the firstquarter of 2003.  The sequentialdecrease in sales can be attributed primarily to weakness in portions of ourinternational business.  Sales in theAsia Pacific region were down approximately $1.2 million sequentially, whileour OEM business in Europe was down approximately $1.1 million from the firstquarter of 2003.  During the secondquarter of 2003, strength in both our branded and OEM U.S. sales helped offsetlower OEM sales in Europe and the lower overall sales in the Asia Pacificregion. Together, our branded and OEM U.S. sales were up nearly $2.0 millionfrom the first quarter of 2003.

 

On a year-over-year basis, salesthrough our reseller and distributor channel increased 9% from $33.3 million inthe second quarter of 2002 to $36.4 million in the second quarter of 2003. OEMsales increased 17% from $27.1 million in the second quarter of 2002 to $31.7million in the second quarter of 2003. Direct sales decreased 4% from $2.6million in the second quarter of 2002 to $2.5 million in the second quarter of2003. Reseller and distributor sales were 52% of sales for the second quarterof 2003 compared to 53% of sales for the second quarter of 2002.  OEM sales were 45% of sales for the secondquarter of 2003 compared to 43% of sales for the second quarter of 2002.  Direct sales were 3% of sales for the secondquarter of 2003 compared to 2% of sales for the second quarter of 2002.

 

On a year-over-year basis, we experienced anincrease in sales both within the United States and internationally. Saleswithin the United States increased 9% to $44.2 million in the second quarter of2003 from $40.5 million in the second quarter of 2002.  International sales increased 17% to $26.4million in the second quarter of 2003 from $22.5 million in the second quarterof 2002.  Sales within the United Stateswere 63% of sales for the second quarter of 2003 and were 64% of sales in thesecond quarter of 2002.   Internationalsales were 37% and 36% of sales for the second quarter of 2003 and 2002,respectively.

 

Net sales increased 13% to $141.8 million for the first six months of2003 from $125.1 million for the first six months of 2002.  As with the second quarter, the increase insales resulted from new product introductions and royalty revenue from ourembedded solutions.  The strength insales on a year-to-date basis was evident both in the U.S. andinternationally.  Sales within theUnited States increased by approximately 11% to $86.5 million in the first sixmonths of 2003 from $77.8 million in the first six months of 2002.  International sales increased approximately 17% from $47.3 million in the first sixmonths of 2002 to $55.3 million in the first six months of 2002.  In the future, we anticipate growth of ourdigital, AMX and SwitchView product lines, and we anticipate a recovery in ourAsian business.

 

*Gross profit.*Gross profit may be affected by a variety offactors, including: the ratio of sales among our distribution channels, as OEMsales typically have lower gross margins than our reseller and distributorsales and direct sales; absorption of fixed costs as sales levels fluctuate;product mix, raw materials, and labor costs; new product introductions by usand by our competitors; and the level of our outsourcing of manufacturing andassembly services.  Gross margin increased to 57.6% in the secondquarter of 2003 as compared to 50.2% in the second quarter of 2002.  The primary reasons for strong margins in2003 were cost reductions attained from our suppliers and a favorable customerand product mix.  Our costs declined inthe second quarter of 2003 primarily due to improved pricing from ourvendors.  Our U.S. branded sales were upsignificantly from last year, and these sales carry a higher gross margin thanour OEM and international sales.  Ourdigital products have higher gross margins than our other products andaccounted for approximately 35% of total sales for the second quarter of 2003,compared to 20% of sales for the second quarter of 2002.  Gross margin increased to 56.6% for thefirst six months of 2003 from 49.5% for the first six months of 2002, also as aresult of the factors discussed above. In the third quarter of 2003, we expect gross margin to be in the 55% to58% range as we anticipate OEM and international sales will increase as a percentageof our sales mix.

 

*Research and development expenses.*  Researchand development expenses include compensation for engineers, support personnel,outside contracted services and materials costs, and are expensed as they areincurred.  Research anddevelopment expenses were $7.7 million, or 10.8% of net sales, in the secondquarter of 2003 compared to $7.0 million, or 11.1% of net sales, for the secondquarter of 2002.  The increase in theamount spent on research and development can be attributed to an increase inheadcount, and an increase in materials, certification, and testing of productscurrently in development. The increase inheadcount is the result of the 2C purchase in the third quarter of 2002and the hiring of software engineers to support software embedded within ourexpanding suite of digital offerings.  Year-to-date research and development expenses for2003 increased to $14.5 million from $13.4 million year-to-date in 2002 for thereasons listed

 

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above.  As a percentage of net sales, year-to-dateresearch and development expenses decreased slightly to 10.2% from 10.7%.  We believe that the timelydevelopment of innovative products and enhancements to existing products isessential to maintaining our competitive position.  We expect research and development expenditures to be slightlyhigher in the third quarter of 2003 as compared to the second quarter of 2003.

 

*Selling,general and administrative expenses.*  Selling, general and administrative expensesinclude personnel costs for administration, finance, information systems, humanresources, sales and marketing, and general management, as well as some mergerand acquisition related expenses, rent, utilities, legal and accountingexpenses, bad debts, advertising, promotional material, trade show expenses,and related travel costs.  Selling, general and administrative expenseswere $18.1 million, or 25.7% of net sales, for the second quarter of 2003compared to $15.5 million, or 24.5% of net sales, for the second quarter of2002.  The increase in selling, generaland administrative expenses was due to increased labor cost as a result ofadditions to headcount, higher tradeshow costs, and higher advertising costs.  Our additions to headcount were the result of the 2C purchase in the thirdquarter of 2002, the hiring of sales staff in Europe, Asia, and certain regionsof the U.S. to strengthen our sales force in key regions and the hiring ofadditional information technology staff to support our enterprise resourceplanning project.   In the secondquarter of 2003, we also experienced a high level of tradeshow costs as the result ofparticipating in over 25 trade shows in several countries during thequarter.  The increased advertisingexpense was the result of expenses related to the rollout of new productsduring the quarter. Year-to-dateselling, general, and administrative expenses decreased to $34.8 million, or24.5% of net sales for 2002, from $35.4 million, or 28.3% of year-to-date netsales in 2002.  The first quarter of 2002 was heavilyaffected by $2.7 million in legal fees related to patent litigation, as well as$2.0 million of compensation expense recorded as the result of a cashlessoption exercise.  Although we expect trade show and advertisingexpenses to decline in the third quarter of 2003 from the second quarter in2003, we expect legal costs related to Sarbanes-Oxley governance initiativesand continued defense of our intellectual property rights to increase.  Accordingly, we expect selling, general andadministrative expenditures to increase slightly in the third quarter of 2003from the level we experienced in the second quarter of 2003.

 

*Amortizationof intangible assets.*  Amortization of $6.2 million in the secondquarter of 2003 is comprised of the amortization of the identifiable intangibleassets created as a result of the merger transaction between Apex and Cybex andthe acquisitions of Equinox and 2C, while amortization of $5.3 million in thesecond quarter of 2002 includes the amortization of the identifiable intangibleassets created as a result of the merger transaction between Apex and Cybex andthe acquisition of Equinox.  Theincrease in amortization expense relates primarily to the additional expensefor intangible assets recorded in connection with the acquisition of 2C.  Year-to-date, amortization expense increasedfrom $10.6 million in the first half of 2002 to $12.3 million in the first halfof 2003 as a result of the factors mentioned above.

 

*Net investment income.**** *Net******investment incomedecreased to $1.3 million in the second quarter of 2003 from $1.5 million inthe second quarter of 2002.  For thefirst six months, net investment income decreased to $2.5 million in 2003 from$2.9 million in 2002.  Although we had more cash and investments duringthe second quarter and in the first half of 2003 than in 2002, interest income declined due to lower interest rates.

 

*Net realized investment losses. *Net realized investment losses increased from$69,000 in the second quarter of 2002 to $123,000 in second quarter of 2003.  For thefirst six months, net realized investment losses increased from $144,000in 2002 to $210,000 in 2003.   The netrealized investment losses result primarily from early pay-downs of mortgagesunderlying our investments in mortgage-backed securities.

 

*Other income (expense), net.*  Netother income (expense) improved from an expense of $166,000 in the secondquarter of 2002, to an expense of $114,000 in the second quarter of 2003. Thedecline in expense related primarily to an improvement in foreign exchangelosses recorded in the second quarter of 2003 as compared to the lossesrecorded in the second quarter of 2002. This improvement relates primarily tothe change in the exchange rate of the dollar versus the euro. Due to largerforeign exchange losses in the first quarter of 2003 as compared to the firstquarter of 2002, net other income (expense) increased from an expense of$113,000 in the first six months of 2002 to an expense of $419,000 in the firstsix months of 2003.

 

*Provision forincome taxes.*  The provision for income taxes wasapproximately $2.5 million for the second quarter of 2003 compared to $1.6million in the second quarter of 2002. The change in taxes resulted from the impact of merger related expenseson lower sales volume and taxable income in the second quarter of 2002 ascompared to higher sales volume and higher taxable income in 2003. Alsoaffecting our tax rate was the mix of our pre-tax profit among our U.S. andinternational subsidiaries.  For theyear, the provision for income taxes was approximately $5.1 million for thefirst six months of 2002, compared to $1.2 million for the first sixmonths of 2002, as a result of the factors mentioned above.

 

*Net income.*  Netincome for the second quarter of 2003 was $7.3 million compared to $3.6 millionfor the second quarter of 2002 as a result of the above factors, including theincrease in our revenues and our margins, offset by an increase

 

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inselling, general and administrative charges. Net income as a percentage of sales for the second quarter of 2003 was10.4%, compared to 5.7% for the second quarter of 2002. Our net income for thefirst six months of 2003 was $15.5 million compared to $3.9 millionfor the first six months of 2002, again as a result of the above factors.  Net income as a percentage of sales for thefirst six months of 2003 was 10.9%, compared to 3.1% for the first six monthsof 2002.

 

**Liquidity and Capital Resources**

 

As of June 27, 2003, our principal sources of liquidity consisted ofover $257 million in cash, cash equivalents, andinvestments.  We have no outstandingdebt or available credit facilities as of this filing.

 

Our operating activities generated cash of over $38 million in thefirst six months of 2003 compared to approximately $43 million in the first sixmonths of 2002.  The cash flow from operations in the first halfof 2003 is primarily the result of increased net income and our continued focuson managing our receivables and inventory that carried over from 2002.  Inventories declined from $24.4 million atDecember 31, 2002 to $20.5 million at June 27, 2003.  The decline in inventory was the result of the continued effortsof our global operations group to increase turnover by consuming existingsupplies while maintaining adequate inventory to meet customer demands.  We anticipate that inventories will continueto trend downward slightly during 2003. Additionally, we recorded a tax benefit from the exercise of stockoptions of almost $4.8 million in the first six months of 2003.  We experienced significant exercises ofstock options in the first six months of 2003 as our stock achieved new 52-weekhighs at several points during 2003.  Anincrease in receivables partially offset the impact of the decline in inventoryand the tax benefit from options.  Theincrease in receivables was a result of the timing and volume of sales in thelatter part of the second quarter of 2003. A decline in accrued compensation also affected cash flow from operationsfor 2003.  Overall, our annual employeebonuses were larger for 2002 than for 2001 and we paid these bonuses to ouremployees shortly after year-end in an effort to tie the reward to the improvedresults of 2002.

 

During 2003 we commenced implementation of anew enterprise resource planning system which we expect to have fullyoperational in 2004. We have capitalized costs related to the ERP project ofover $4.2 million through June 27, 2003. We expect the total project cost of implementing the system to be in therange of $11.0 million to $12.2 million. We expect the new system will provide many benefits, including moredetailed information to improve the ways we manage inventory, customerrelationships and operating expenses on more a timely basis.  The implementation of the new systeminvolves a number of risks, as detailed in our Risk Factors contained in ourForm 10-K for December 31, 2002.

 

Duringthe second quarter of 2003, we purchased a facility in Shannon, Ireland forapproximately $6.4 million.  We occupiedthe building during mid-July 2003.

 

We intend to use a portion of our cash andinvestments for strategic acquisitions of technologies and companies that willenhance and complement our existing technologies and help increase our sales.

 

**Investments**

 

Our investments consist of corporate bonds, municipal bonds, commercialpaper, mortgage backed securities guaranteed by U.S. government agencies, andcommon stock. Debt securities that we have the positive intent and ability tohold to maturity are classified as held-to-maturity securities and are reportedat amortized cost. Debt and equity securities not classified asheld-to-maturity securities and that have readily determinable fair values areclassified as available-for-sale securities and are reported at fair value,with unrealized gains and losses excluded from earnings and reported as aseparate component of stockholders’ equity. We periodically review ourinvestment portfolio for investments considered to have sustained an other-than-temporarydecline in value.   Upon review of ourinvestment portfolio as of June 27, 2003, no investment was considered to havesustained an other-than-temporary decline, and no charge was recorded.

 

In the second quarter of 2003, we made a $3.0 million preferred stockinvestment in VIEO, Inc. VIEO provides management products for AdaptiveApplication Infrastructure Management. VIEO’s products combine application-aware networking hardware withintelligent infrastructure management software in a secure, purpose-builtappliance to automatically measure, analyze, and control applicationresources.  Headquartered in Austin,Texas, VIEO has received funding from a wide group of investors.  Our investment, which represents less than10% ownership in VIEO, is being accounted for on the cost method.

 

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**Critical AccountingPolicies**

 

We believe the following critical accounting policies affect the moresignificant judgments and estimates used in the preparation of our consolidatedfinancial statements:

 
| • | We review customer contracts to determine if all of the requirements  for revenue recognition have been met prior to recording revenues from sales  transactions.  We generally record  sales revenue upon shipment of our products, net of any discounts, since we  generally do not have significant post delivery obligations, the product  price is fixed and determinable, collection of the resulting receivable is  probable, and product returns are reasonably estimable.  We generally ship products upon receipt of  a purchase order from a customer.  We  record revenue in accordance with the applicable terms of each respective  customer contract.  Accordingly, revenue  on products shipped FOB destination is recorded when the customer takes possession  of the goods, and revenue on products shipped FOB shipping point is recorded  when the goods leave our facilities.   Shipping and handling fees are included in net sales, and the related  costs are included in cost of sales in the accompanying consolidated  statements of operations |
|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|   | We accrue for sales returns as a reduction of sales and cost of sales  based on our experience from historical customer returns, which we believe  provides a reasonable estimate of future returns.  Our sales agreements generally include a one-month  unconditional return policy.  We also  allow additional rights of return to certain distributors, which generally  extend the return period to 90 days.   If actual future customer returns are less favorable than those  projected by management, additional sales return costs may be incurred.  The reserve is included as a reduction in  the carrying value of accounts receivable in the accompanying consolidated  balance sheets.                                                                                                                                                                                                                                                                                                                                                                            |
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|   | Prior to extending credit to a new customer, we perform a detailed  credit review of the customer and establish credit limits based on the  results of our credit review.  We  review collection experience periodically to determine if the customer’s  payment terms and credit limits need to be revised.  We maintain allowances for doubtful accounts for estimated  losses resulting from the inability of our customers to make required  payments.  If the financial condition  of our customers were to deteriorate, resulting in an impairment of their  ability to make payments, additional allowances may be required.  If circumstances change with regard to  individual receivable balances that had previously been determined to be  uncollectible (and for which a specific reserve had been established), a  reduction in our allowance for doubtful accounts may be required.                                                                                                                                                                         |
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| • | We carry our inventory at the lower of cost or market, with cost  being determined using the first-in, first-out method.  We use standard costs for material, labor,  and manufacturing overhead to value our inventory.  We review and revise our standard costs on a quarterly  basis.  Therefore, our inventory costs  approximate actual costs at the end of each reporting period.  We  write down our inventory for estimated obsolescence or unmarketable inventory  to the estimated market value based upon assumptions about future demand and  market conditions.  If actual future  demand or market conditions are less favorable than those projected by  management, additional inventory write-downs may be required.                                                                                                                                                                                                                                                                                                                                      |
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| • | We provide for the estimated cost of product warranties at the time  revenue is recognized.  While we  engage in extensive product quality programs and processes, including  actively monitoring and evaluating the quality of our component suppliers and  contract manufacturers, our warranty obligation is affected by product  failure rates, failure rates of purchased components integrated into our  products, material usage, and other rework costs incurred in correcting a  product failure.  Should actual  product failure rates, material usage, or other rework costs differ from our  estimates, revisions to our estimated warranty liability may be required.                                                                                                                                                                                                                                                                                                                                                                                                        |
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| • | We hold investments in various publicly-traded equity and debt  securities, including mortgaged-backed and other asset-backed securities.  We record an investment impairment charge  when we believe an investment has experienced a decline in value that is  other than temporary.  Future adverse  changes in market conditions or poor operating results of underlying  investments could result in losses or an inability to recover the carrying  value of the investments that may not be reflected in an investment’s current  carrying value, thereby possibly requiring an impairment charge in the  future.                                                                                                                                                                                                                                                                                                                                                                                                                                                              |
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|   | We also invest in privately held entities and generally record our  investments in these entities at cost or we use the equity method if we have  the ability to exercise significant influence over the entity.  We review our investments in these  entities periodically to determine if circumstances (both financial and                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |

 

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|   |   | non-financial) exist that indicate that we will not recover our  initial investment.  We record  impairment charges on investments having a carrying value that is greater  than the value that we would reasonably expect to receive in an arm’s length  sale of the investment.                                                                                                                                            |
|--------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                   |
|   | • | During the first quarter of 2003 we began implementing a new ERP  system.  In accordance with SOP  98-1, “Accounting for the Costs of Computer Software Developed or Obtained  for Internal Use,” we are capitalizing the direct costs incurred during the  application development stage of the implementation.  The costs capitalized to date for the new  system totaled $4.2 million as of June 27, 2003. |

 

**Item 3****.**  **Quantitative and QualitativeDisclosures About Market Risks.**

 

Our primary market risk is the potential lossarising from increases in interest rates, which could have an adverse impact onthe fair value of our investment securities. Our investment policy is to manageour investment portfolio to preserve principal and liquidity while maximizingthe return on our investment portfolio through the investment of availablefunds. We diversify our investment portfolio by investing in a variety ofhighly-rated investment-grade securities and through the use of differentinvestment managers. Our investment securities portfolio is primarily investedin securities with maturities (or interest rate resets) of two years or lesswith at least an investment grade rating to minimize interest rate and creditrisk as well as to provide for an immediate source of funds. Market risk,calculated as the potential change in fair value in our investment portfolioresulting from a hypothetical 10% change in interest rates, was not material atJune 27, 2003. We generally hold investment securities until maturity.

 

We are also exposed to equity price risks onour investments in publicly traded equity securities. These investments aregenerally in companies having operations or technology in areas within ourstrategic focus. We do not attempt to reduce or eliminate our market exposureon these securities. As of June 27, 2003, the fair value of our equityinvestments was $5.2 million. A 20% adverse change in equity prices wouldresult in a decrease of approximately $1.0 million in the fair value of ourequity securities as of June 27, 2003.

 

We also face foreign currency exchange raterisk to the extent that the value of certain foreign currencies relative to theU.S. dollar affects our financial results. Our international operations transact a portion of our business incurrencies other than the U.S. dollar, predominantly the euro, and changes inexchange rates may positively or negatively affect our revenues, gross margins,operating expenses, and retained earnings since these transactions are reportedby us in U.S. dollars.  We occasionallypurchase foreign currency forwards aimed at limiting the impact of foreigncurrency fluctuations.  Theseinstruments provide only limited protection against currency exchange risks,and there can be no assurance that such an approach will be successful,especially if a significant and sudden decline occurs in the value of localcurrencies. At June 27, 2003, we had one open forward contract, maturing in thethird quarter of 2003, with a fair value at June 27, 2003 of approximately$1,000.

 

**Item 4****.**  **Controls and Procedures.**

 

(a) *Evaluation of disclosurecontrols and procedures.* Based on their evaluation as of the end of the period covered by thisQuarterly Report on Form 10-Q, our Chief Executive Officer and Chief FinancialOfficer have concluded that our disclosure controls and procedures (as definedin Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) areeffective to ensure that information required to be disclosed by us in reportsthat we file or submit under the Exchange Act is recorded, processed,summarized and reported within the time periods specified in Securities andExchange Commission rules and forms.

 

(b) *Changes in internal control overfinancial reporting*.  Therewas no significant change in our internal control *over financial reporting* that occurred during the periodcovered by this Quarterly Report on Form 10-Q that has materially affected, oris reasonably likely to materially affect, our internal control and financialreporting.

 

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**PART II****– OTHERINFORMATION**

 

**Item1.  LegalProceedings.**

 

In May 2001, AvocentRedmond Corp. (formerly Apex Inc.), our wholly-owned subsidiary, filed a complaintfor patent infringement in the United States District Court for the SouthernDistrict of New York against Raritan Computer Inc. The Raritan complaint soughtinjunctive relief, damages, attorneys’ fees and costs under three Apex patents.  After a seven day bench trial in New York inJanuary of 2002, U.S.District Judge Milton Pollack found that there was no infringement of thesepatents by Raritan and ordered that judgment be entered in favor of Raritan.

 

In April 2003, the United States Court of Appeals for the FederalCircuit issued its ruling on our appeal in this patent litigation.  The Court of Appeals ruled in favor ofAvocent Redmond Corp. by vacating the non-infringement decision of the DistrictCourt for the Southern District of New York and remanding the case for furtherproceedings consistent with the Court of Appeals’ opinion.

 

**Item 4.  Submission of Mattersto a Vote of Security Holders.**

 

On June12, 2003, we held our Annual Meeting of Stockholders.  The matters voted on at the meeting and the results of thesevotes are as follows:

 

1.     Election of ClassII Directors.

 
|                      |   | **Votes for** |   | **Votes Withheld** |
|---------------------------|--------|---------------|--------|--------------------|
| 1.  Francis A. Dramis Jr. |   | 40,087,428    |   | 352,689            |
| 2.  Stephen F. Thornton   |   | 40,047,413    |   | 392,704            |

 

2.     Approval of  the adoption of the Avocent Corporation 2003Stock Option Plan and the reservation of two million shares of common stock forissuance under the 2003 Stock Option Plan.

 
| **Votes For** |   | **Votes Against** |   | **Votes Abstained** |
|---------------|--------|-------------------|--------|---------------------|
| 34,126,753    |   | 6,290,443         |   | 22,921              |

 

2.     Ratification ofthe appointment of  PricewaterhouseCoopersLLP as our independent auditors for the fiscal year ending December 31, 2003.

 
| **Votes For** |   | **Votes Against** |   | **Votes Abstained** |
|---------------|--------|-------------------|--------|---------------------|
| 38,432,660    |   | 2,002,142         |   | 5,316               |

 

**Item 6****.    Exhibits and Reports on Form 8-K.**

 

(a)   Exhibits

 

**31.1         Sarbanes-Oxley Act Section 302 Certificationof Chief Executive Officer**

**31.2         Sarbanes-Oxley Act Section 302Certification of Chief Financial Officer**

**32.1         Sarbanes-Oxley Act Section 906Certifications of Chief Executive Officer and Chief Financial Officer**

 

(b)   Reports on Form 8-K

 

On April 3,2003, we filed a Report on Form 8-Kwith the SEC regarding the public dissemination of a press releaseannouncing that the United States Court of Appeals for the Federal Circuit hadruled in favor of Avocent by vacating the non-infringement decision of theDistrict Court for the Southern District of New York and remanding the case forfurther proceedings consistent with the Court of Appeals’ opinion.

 

On April 16, 2003, we filed aReport on Form 8-K with the SEC regarding the public dissemination of apress release announcing the financial results for our first quarter endedMarch 28, 2003 and announcing the election by our Board of Directors of John R.Cooper as Chairman of the Board of Directors and Edwin L. Harper as our LeadIndependent Director.

 

ITEMS 2, 3, AND 5 ARE NOT APPLICABLE AND HAVE BEEN OMITTED.

 

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### **SIGNATURES**

 

Pursuant tothe requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.

 
|                       | AVOCENT CORPORATION.                                                                                                         |
|----------------------------|------------------------------------------------------------------------------------------------------------------------------|
|                       | (Registrant)                                                                                                                 |
|                       |
|                       |
| Date:  August 6, 2003 | /s/ Douglas E.  Pritchett                                                                                                    |   |
|                       | Douglas E. Pritchett                                                                                                         |
|                       | Senior Vice President  of Finance, Chief Financial Officer,  Treasurer and Assistant Secretary (Principal Financial Officer) |

 

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