UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 6-K
REPORT OF FOREIGN PRIVATE ISSUER PURSUANT TO RULE 13A-16 OR 15D-16
UNDER THE SECURITIES EXCHANGE ACT OF 1934
For the month of December 2002
EXFO ELECTRO-OPTICAL ENGINEERING INC.
(Translation of registrant's name into English)
465 GODIN AVENUE, VANIER, QUEBEC, CANADA G1M 3G7
(Address of principal executive offices)
Indicate by check mark whether the registrant files or will file annual reports
under cover of Form 20-F or Form 40-F.
Form 20-F [X] Form 40-F [_]
Indicate by check mark whether the registrant by furnishing the information
contained in this Form is also thereby furnishing the information to the
Commission pursuant to Rule 12g3-2(b) under the Securities Exchange Act of 1934.
Yes [_] No [X]
If "Yes" is marked, indicate below the file number assigned to the registrant in
connection with Rule 12g3-2(b): 82-______.
In December 2002, EXFO Electro-Optical Engineering Inc., a Canadian corporation,
issued its annual report containing its annual audited financial statements and
management's discussion and analysis thereof for its fiscal year ended August
31, 2002. At the same time, it also issued its notice of annual shareholders'
meeting, its form of proxy, its management proxy circular and a cover letter.
This report on Form 6-K sets forth said documents.
The annual report containing its annual audited financial statements and
management's discussion and analysis for its fiscal year ended August 31, 2002,
its notice of annual shareholders' meeting, its form of proxy, its management
proxy circular and a cover letter are hereby incorporated as documents by
reference to Form F-3 (Registration Statement under the Securities Act of 1933)
declared effective as of July 30, 2001 and to Form F-3 (Registration Statement
under the Securities Act of 1933) declared effective as of March 11, 2002 and to
amend certain material information as set forth in these two Forms F-3.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
EXFO ELECTRO-OPTICAL ENGINEERING INC.
By: /s/ Germain Lamonde
--------------------------------------
Name: Germain Lamonde
Title: President and Chief
Executive Officer
Date: December 9, 2002
2002 ANNUAL REPORT
[GRAPHIC OMITTED]
[PHOTOGRAPHS]
WELL DESIGNED. WELL DIVERSIFIED. WELL POSITIONED.
[GRAPHIC OMITTED]
[LOGO - EXFO]
CORPORATE PROFILE
EXFO is a leading supplier of fiber-optic test, measurement, monitoring and
automation solutions for the global telecommunications industry. We market more
than 90 product families to 2000 customers in 70 countries around the world.
EXFO develops products for two main markets. The Portable and Monitoring
Division provides handheld and modular instruments for the physical-, optical-
and protocol-layer testing needs of telecommunications carriers and network
service providers. The Industrial and Scientific Division offers an extensive
line of high-performance instruments, test automation systems and manufacturing
automation equipment for optical component and transmission system vendors, as
well as for research and development labs.
TABLE OF CONTENTS
Financial Highlights .................................1
Letter to Shareholders ...............................2
Portable and Monitoring Division .....................6
Industrial and Scientific Division ...................8
Management's Discussion and Analysis .................10
Management's Report ..................................24
Auditors' Report .....................................24
Consolidated Financial Statements ....................25
Notes to Consolidated Financial Statements ...........29
Board of Directors ...................................52
Management and Corporate Officers ....................52
Corporate Governance Practices .......................53
Glossary .............................................55
Shareholder Information ..............................56
Worldwide Offices ....................................57
FORWARD-LOOKING STATEMENTS
THIS ANNUAL REPORT MAY CONTAIN FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF
THE U.S. PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 AND WE INTEND THAT
SUCH FORWARD-LOOKING STATEMENTS BE SUBJECT TO THE SAFE HARBORS CREATED THEREBY.
FORWARD-LOOKING STATEMENTS ARE STATEMENTS OTHER THAN HISTORICAL INFORMATION OR
STATEMENTS OF CURRENT CONDITION. WORDS SUCH AS "MAY," "WILL," "EXPECT,"
"BELIEVE," "ANTICIPATE," "INTEND," "COULD," "ESTIMATE" OR "CONTINUE" OR THE
NEGATIVE OR COMPARABLE TERMINOLOGY ARE INTENDED TO IDENTIFY FORWARD-LOOKING
STATEMENTS. IN ADDITION, ANY STATEMENTS THAT REFER TO EXPECTATIONS, PROJECTIONS
OR OTHER CHARACTERIZATIONS OF FUTURE EVENTS OR CIRCUMSTANCES ARE FORWARD-LOOKING
STATEMENTS. FORWARD-LOOKING STATEMENTS ARE NOT GUARANTEES OF FUTURE PERFORMANCE
AND INVOLVE RISKS AND UNCERTAINTIES, AND ACTUAL RESULTS MAY DIFFER MATERIALLY
FROM THOSE IN THE FORWARD-LOOKING STATEMENTS AS A RESULT OF VARIOUS FACTORS,
INCLUDING CONTINUED ECONOMIC UNCERTAINTY, CAPITAL SPENDING IN THE
TELECOMMUNICATIONS SECTOR AND OUR ABILITY TO EXECUTE SUCCESSFULLY IN THESE
UNCERTAIN CONDITIONS; THE EFFECTS OF THE ADDITIONAL ACTIONS WE HAVE TAKEN IN
RESPONSE TO SUCH ECONOMIC UNCERTAINTY (INCLUDING WORKFORCE REDUCTIONS, ABILITY
TO QUICKLY ADAPT COST STRUCTURES TO ALIGN WITH DECREASED LEVELS OF BUSINESS,
ABILITY TO MANAGE INVENTORY LEVELS TO ADAPT TO SLOWDOWNS); MARKET ACCEPTANCE OF
OUR NEW PRODUCTS AND OTHER UPCOMING NEW PRODUCTS; LIMITED VISIBILITY WITH
REGARDS TO CUSTOMER ORDERS AND THE TIMING OF SUCH ORDERS; OUR ABILITY TO
SUCCESSFULLY INTEGRATE OUR ACQUIRED AND TO-BE-ACQUIRED COMPANIES; THE RETENTION
OF KEY TECHNICAL AND MANAGEMENT PERSONNEL; AND FUTURE ECONOMIC, COMPETITIVE AND
MARKET CONDITIONS. ASSUMPTIONS RELATING TO THE FOREGOING INVOLVE JUDGMENTS AND
RISKS, ALL OF WHICH ARE DIFFICULT OR IMPOSSIBLE TO PREDICT ACCURATELY AND MANY
OF WHICH ARE BEYOND OUR CONTROL. OTHER RISK FACTORS THAT MAY AFFECT OUR FUTURE
PERFORMANCE AND OUR OPERATIONS ARE DETAILED IN OUR ANNUAL REPORT ON FORM 20-F
AND OUR OTHER FILINGS WITH THE U.S. SECURITIES AND EXCHANGE COMMISSION AND THE
CANADIAN SECURITIES COMMISSIONS. ALTHOUGH WE BELIEVE THAT THE EXPECTATIONS
REFLECTED IN THE FORWARD-LOOKING STATEMENTS ARE REASONABLE BASED ON INFORMATION
CURRENTLY AVAILABLE TO US, WE CANNOT ASSURE YOU THAT THE EXPECTATIONS WILL PROVE
TO HAVE BEEN CORRECT. ACCORDINGLY, YOU SHOULD NOT PLACE UNDUE RELIANCE ON THESE
FORWARD-LOOKING STATEMENTS. IN ANY EVENT, THESE STATEMENTS SPEAK ONLY AS OF THE
DATE OF THIS DOCUMENT. WE UNDERTAKE NO OBLIGATION TO REVISE OR UPDATE ANY OF
THEM TO REFLECT EVENTS OR CIRCUMSTANCES AFTER THE DATE OF THIS DOCUMENT.
TRADEMARKS AND LOGOS
EXFO AND THE EXFO LOGO ARE REGISTERED TRADEMARKS OF EXFO ELECTRO-OPTICAL
ENGINEERING INC. IN CANADA, THE UNITED STATES AND/OR OTHER COUNTRIES. OTHER EXFO
PRODUCT NAMES OR LOGOS REFERENCED IN THIS DOCUMENT ARE EITHER TRADEMARKS OR
REGISTERED TRADEMARKS OF EXFO ELECTRO-OPTICAL ENGINEERING INC. OR OF ITS
AFFILIATED COMPANIES. ALL OTHER PRODUCT NAMES AND TRADEMARKS MENTIONED HEREIN
ARE TRADEMARKS OF THEIR RESPECTIVE OWNERS. HOWEVER, NEITHER THE PRESENCE NOR
ABSENCE OF THE IDENTIFICATION SYMBOLS (R) OR TM AFFECTS THE LEGAL STATUS OF ANY
TRADEMARK.
ALL DOLLAR AMOUNTS IN THIS ANNUAL REPORT ARE EXPRESSED IN US DOLLARS, EXCEPT AS
OTHERWISE NOTED.
EXFO o 2002 Annual Report o 1
FINANCIAL HIGHLIGHTS
(in thousands of US dollars, except per share data)
-------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF EARNINGS DATA 1998 1999 2000 2001 2002
-------------------------------------------------------------------------------------------------------------
Sales $ 31,605 $ 42,166 $ 71,639 $ 146,013 $ 68,330
-------------------------------------------------------------------------------------------------------------
Gross margin(1) $ 20,260 $ 27,168 $ 46,927 $ 91,067 $ 17,529
64.1% 64.4% 65.5% 62.4% 25.7%
-------------------------------------------------------------------------------------------------------------
Gross research and development $ 4,406 $ 6,390 $ 9,374 $ 17,601 $ 17,005
13.9% 15.2% 13.1% 12.1% 24.9%
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Earnings (loss) from operations(2) $ 6,691 $ 8,676 $ 14,723 $ 14,507 $ (74,783)
21.2% 20.6% 20.6% 9.9% (109.4%)
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Net earnings (loss) $ 4,501 $ 5,814 $ 9,924 $ (15,294) $(308,524)
14.2% 13.8% 13.9% (10.5%) (451.5%)
-------------------------------------------------------------------------------------------------------------
Basic and diluted net earnings (loss)
per share $ 0.12 $ 0.14 $ 0.25 $ (0.29) $ (5.09)
-------------------------------------------------------------------------------------------------------------
OTHER STATEMENTS OF EARNINGS DATA
(UNAUDITED)(3)
-------------------------------------------------------------------------------------------------------------
Pro forma net earnings (loss) $ 4,533 $ 5,843 $ 10,252 $ 24,500 $ (11,248)
14.3% 13.9% 14.3% 16.8% (16.5%)
-------------------------------------------------------------------------------------------------------------
Basic and diluted pro forma net earnings
(loss) per share $ 0.12 $ 0.14 $ 0.26 $ 0.46 $ (0.19)
-------------------------------------------------------------------------------------------------------------
CONSOLIDATED BALANCE SHEETS DATA
-------------------------------------------------------------------------------------------------------------
Cash and cash equivalents and short-term
investments $ 2,600 $ 1,794 $ 163,388 $ 74,590 $ 49,681
-------------------------------------------------------------------------------------------------------------
Working capital $ 9,797 $ 12,745 $ 194,167 $ 130,289 $ 91,374
-------------------------------------------------------------------------------------------------------------
Total assets $ 17,643 $ 22,840 $ 219,723 $ 442,577 $ 177,926
-------------------------------------------------------------------------------------------------------------
Long-term debt (excluding
current portion) $ -- $ -- $ 16 $ 664 $ 564
-------------------------------------------------------------------------------------------------------------
Shareholders' equity $ 12,045 $ 14,679 $ 206,994 $ 414,805 $ 165,406
(1) Including inventory write-offs of $18,463 for the year ended August 31,
2002, and nil for the years ended August 31, 1998, 1999, 2000 and 2001.
Excluding inventory write-offs of $18,463 for the year ended August 31,
2002, gross margin would have reached 52.7% for that year. This latter
information is unaudited and is a non-GAAP measure.
(2) Including charges for inventory write-offs, amortization and write-down of
intangible assets as well as restructuring and other charges of nil, nil,
$47, $13,164 and $56,615 for the years ended August 31, 1998, 1999, 2000,
2001 and 2002, respectively.
(3) Net earnings (loss), excluding amortization and write-down of goodwill and
the after-tax effect of amortization and write-down of intangible assets
and restructuring and other charges as well as inventory write-offs. This
information may not be comparable to similarly titled measures reported by
other companies because it is non-GAAP information.
[GRAPHIC OMITTED]
[PIE CHARTS]
TOTAL SALES
(in thousands of US dollars)
2000 2001 2002
$71,639 $146,013 $68,330
GEOGRAPHIC SALES
o North America
o Europe
o Asia
o Rest of World
DIVISIONAL SALES
o Portable and Monitoring Division
o Industrial and Scientific Division
LETTER TO SHAREHOLDERS
--------------------------------------------------------------------------------
[GRAPHIC OMITTED]
[PHOTOGRAPH}
Dear Fellow Shareholders,
Obstacles are those frightful things you see when you
take your eyes off your goal.
-- Henry Ford, American automotive pioneer
Fiscal 2002 was certainly the most challenging in my 17 years at the helm of
EXFO as the unprecedented downturn swept through all sectors of the global
telecommunications industry, leaving many companies, employees and shareholders
searching for answers. At EXFO, we didn't wait for a market recovery. We swiftly
implemented restructuring plans, focused on market-share gains and expanded our
addressable market, while maintaining a strong balance sheet.
EXFO o 2002 Annual Report o 3
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ACTED DECISIVELY
We took decisive actions in 2002 to align our cost structure to deteriorating
market conditions. We reduced our workforce by approximately 30%, froze employee
salaries and implemented rigorous cost-control measures. We also improved the
efficiency of the organization in terms of management, manufacturing operations
and supply-chain processes to allow us to get down to a leaner level. In short,
we made tough decisions with compassion for departing employees and upheld our
unwavering commitment to fulfill customer expectations.
FOCUSED ON MARKET-SHARE GAINS
As we tackled restructuring responsibilities head-on, we focused on market-share
gains to ultimately carry us back to the road of growth and profitability. I am
encouraged by the fact we bolstered sales sequentially during the last two
quarters of fiscal 2002 and improved net bookings in each of the last three
quarters, while most industry players witnessed their top lines drop or remain
flat. We plan to continue expanding our market share by innovating our way out
of this downturn.
EXPANDED OUR ADDRESSABLE MARKET
With a delicate balance between prudence and risk-taking, we entered the
protocol-layer test market in fiscal 2002 to complement our recognized
leadership in optical- and physical-layer testing. The acquisitions of Avantas
Networks (renamed EXFO Protocol) in November 2001 and of the assets of gnubi
communications in October 2002 not only enhanced our competitive position with
network service providers (NSPs) and system vendors, but they also allowed us to
double our addressable market and expand our presence in the healthier data
communications test market.
MAINTAINED A STRONG BALANCE SHEET
Our financial prudence and sound commercial practices over the years have
allowed us to maintain a solid balance sheet with practically no debt. This
fiscal responsibility, in turn, provides our customers with the assurance that
they can count on EXFO as a solid, long-term partner. This is no small
consideration when selecting a test and measurement supplier and, as such, it
increasingly favors EXFO.
ACTIONS AND RESULTS
EXFO completed fiscal 2002 with sales of $68.3 million compared to $146.0
million in 2001 and $71.6 million in 2000. There's no doubt 2002 proved to be
very demanding for all team members at EXFO, but I remain encouraged by the
following actions:
o We released a record 25 new products in 2002 to enhance our position mainly
with NSPs and system vendors.
o Revenue from new products (i.e., two years or less on the market) accounted
for 48% of total sales.
o We entered the fully complementary, high-margin protocol-layer test sector
with two strategic acquisitions that doubled our addressable market.
o We re-engineered the whole organization to bring us closer to our
break-even level.
o We implemented an enterprise resource planning (ERP) system on-time,
on-scope and on-budget to improve our supply chain and, ultimately,
customer satisfaction.
As a result...
o We increased sales by 12% and 5% sequentially during the last two quarters
of 2002.
o We raised our net bookings in the last three quarters of 2002 with bookings
of $13.3 million, $15.5 million and $17.8 million, respectively.
o We returned to positive cash-flow-from-operations in the fourth quarter in
the amount of $300,000.
o We improved our operating margins in the last three quarters by more than
$4 million on a pro forma basis.
o We reduced inventory levels by 10% (excluding inventory write-offs).
o We maintained a healthy balance sheet with a cash position of approximately
$50 million and practically no debt.
[GRAPHIC OMITTED]
[BAR CHARTS]
2002 QUARTERLY SALES 2002 QUARTERLY NET BOOKINGS
Q1 $20.1 Million Q1 $12.7 Million
Q2 $14.6 Million Q2 $13.3 Million
Q3 $16.6 Million Q3 $15.5 Million
Q4 $17.2 Million Q4 $17.8 Million
As we enter 2003, I am confident that EXFO will be among the first telecom
companies to recover from this downturn. The reason for my cautious optimism can
best be summed up through our theme for this year's annual report: WELL
DESIGNED. WELL DIVERSIFIED. WELL POSITIONED.
--------------------------------------------------------------------------------
WE WILL LEVERAGE OUT BASE OF MORE THAN 10,000 FIELD-TESTING AND MANUFACTURING
PLATFORMS TO OFFER THE MOST COMPLETE TELECOM AND DATACOM TEST SOLUTIONS IN THE
INDUSTRY.
EXFO PRODUCT LINES ARE WELL DESIGNED. EXFO has established a strong reputation
for quality and innovation over the years. For example, we pioneered modular
system designs for optical testing in the mid-1990s, and we continue to build on
our first-mover advantage through the introduction of next-generation platforms
and best-in-class, plug-and-play modules. We recently enhanced our field-testing
and manufacturing platforms to enable NSPs, system vendors and component
manufacturers to lower costs and increase efficiency in their respective
environments. We will leverage our base of more than 10,000 field-testing and
manufacturing platforms to offer the most complete telecom and datacom test
solutions in the industry.
In addition, we will increase our competitive advantages--namely time-to-market
and product breadth--through the efficient design of new test technologies to
meet the emerging requirements of the strategic markets that we address. We will
also broaden our presence in metro and access networks with solutions that help
customers respond to the demand for bandwidth-intensive applications. Our
product offering, among the most advanced and extensive in the industry,
combined with our core expertise in fiber optics, sets us apart for handling
increasing network complexity.
EXFO IS WELL DIVERSIFIED. Our global diversification strategy represented one of
our greatest strengths this year. In terms of our product portfolio, we had more
than 90 product families with no family accounting for more than 5% of sales in
2002. We further diversified our product portfolio into protocol-, optical- and
physical-layer test solutions following our strategic acquisitions. With regard
to our base of 2000-plus customers in 70 countries around the world, our top
three represented 15% of sales last year and our top customer 10% of sales.
Geographically, 43% of sales came from outside North America in 2002, including
19% from Asia, 14% from Europe and 10% from the rest of the world. We intend to
pursue this multi-faceted diversification plan to increasingly capture market
share and expand our global leadership as per our corporate history and mission
statement.
EXFO IS WELL POSITIONED. We significantly improved our competitive positioning
in 2002 with new product introductions, an all-in-one concept for protocol-,
optical- and physical-layer testing and timely acquisitions. In the process, we
fully integrated mission-critical 10 Gb/s SONET/SDH and Gigabit Ethernet
technologies into our FTB-400 field-testing platform to create value-added
solutions that led to several product approvals among Tier 1 NSPs around the
world. Following the year-end, we further strengthened our strategic positioning
with the acquisition of the assets of gnubi communications, a leading supplier
of multi-channel telecom and datacom testing solutions for system manufacturers.
gnubi's EPX systems share a similar modular design to EXFO's since both
platforms are PC-centric, Windows-driven, highly flexible and fully scalable.
Clearly, I am enthusiastic about the synergies that will be generated on the
protocol-testing side between gnubi and EXFO, including the access to gnubi's
products for a larger customer base
--------------------------------------------------------------------------------
DELIVERING ON OUR PROMISES
NOVEMBER 2001
o Completes acquisition of Avantas Networks
[GRAPHIC OMITTED]
[LOGO - AVANTAS NETWORKS]
o Releases FTB-8500 Packet Blazer (TM) test module for Gigabit Ethernet
networks
DECEMBER 2001
o Establishes strategic alliance with ATS Automation Tooling Systems
[GRAPHIC OMITTED]
[LOGO - ATS}
o Implements enterprise resource planning (ERP) system
JANUARY 2002
o Add second-order measurement capability to FPMD-5600 Femtosecond PMD
Analyzer
FEBRUARY 2002
o Launches FTB-5800 Chromatic Dispersion Analyzer
o Releases IQS-500 Intelligent Test System
[GRAPHIC OMITTED]
[PHOTOGRAPH - FPMD-5600 FEMTOSECOND PMD ANALYZER]
[PHOTOGRAPH - FTB-5800 CHROMATIC DISPERSION ANALYZER]
[PHOTOGRAPH - IQS-500 INTELLIGENT TEST SYSTEM]
EXFO o 2002 Annual Report o 5
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through our global sales channels; the possibilities it creates for accelerating
time-to-market of new field-testing solutions; and the new opportunities it
produces for datacom testing. With our global R&D development teams and
award-winning portfolio-review process, we will continue to deliver strategic
and innovative solutions that customers worldwide have come to expect from EXFO.
EXFO INTENDS TO TAKE FULL ADVANTAGE OF THIS CHANGING MARKETPLACE BY PROVIDING
CUSTOMERS AROUND THE WORLD WITH THE COMFORT OF A STABLE AND SOLID PARTNER.
As for the telecommunications industry, the fiber-optic test and measurement
sector will continue to undergo restructuring and consolidation in the near
future. Some competitors will opt for a strategic retreat, redirect their R&D
dollars to other sectors, or consider divestiture and merger-and-acquisition
alternatives. EXFO intends to take full advantage of this changing marketplace
by providing customers around the world with the comfort of a stable and solid
partner. In addition, we plan to make the most of this buyer's market by
continuing to selectively acquire strategic companies or product lines that
further strengthen our competitive position.
WRAP-UP
To summarize, we have reduced our cost structure to fit our operating model and
achieved positive cash-flow-from- operations in the fourth quarter of 2002; we
have gained market share and expanded our addressable market despite a
challenging environment; we have maintained a healthy balance sheet with a
strong cash position and practically no debt; and we have strengthened our
competitive advantages with key product launches and strategic acquisitions. As
a result, I believe we enjoy a privileged situation compared to our industry
peers and, more importantly, we are well positioned to return to profitable
growth and further increase our market share. Certainly, relentless efforts are
being deployed throughout the organization to reach these goals.
In conclusion, I would like to thank our employees for their commitment to EXFO
and for their quality of execution during this challenging period. I also want
to express my gratitude to customers for their unwavering confidence in EXFO as
the vendor of choice. Finally, I want to thank our shareholders for believing in
a company that has never lost sight of its ultimate goal--becoming the global
leader in the fiber-optic test, measurement, monitoring and automation industry.
Sincerely,
/s/ Germain Lamonde
Germain Lamonde
Chairman, President and CEO
October 30, 2002
--------------------------------------------------------------------------------
MARCH 2002
o Introduces FTB-8000 SONET/SDH Analyzer for 10 Gb/s networks
o Offers Fiber Guardian and Optical Guardian for network reliability and
quality of service
o Launches IQS-12001B Cable Assembly Test System with mandrel-free reflection
measurements
o Releases IQS-1700 High-Performance Power Meter
o Introduces ProAlign (TM) 5000 Component Assembly Workstation
MAY 2002
o Lowers break-even level
JUNE 2002
o Releases Acticure (R) 4000 Ultraviolet/Visible Spot Cure System
AUGUST 2002
o Records sales growth for second consecutive quarter
OCTOBER 2002
o Purchases assets of GNUBI COMMUNICATIONS
[GRAPHIC OMITTED]
[PHOTOGRAPH - FTB-8000 SONET/SDH ANALYZER]
[PHOTOGRAPH - PROALIGN (TM) 5000 COMPONENT ASSEMBLY WORKSTATION]
[PHOTOGRAPH - ACTICURE (R) 4000 ULTRAVIOLET/VISIBLE SPOT CURE SYSTEM
[LOGO - GNUBI COMMUNICATIONS]
PORTABLE & MONITORING DIVISION
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[GRAPHIC OMITTED]
[PHOTOGRAPH]
PROVIDING ADVANTAGES TO
NETWORK SERVICE PROVIDERS
OVER THE PAST 17 YEARS, EXFO HAS EARNED AN ENVIABLE REPUTATION AS A PIONEER AND
INNOVATOR IN THE FIBER-OPTIC TEST AND MEASUREMENT INDUSTRY.
At EXFO, we view our role as enablers. Our products help network service
providers (NSPs) deploy, upgrade and operate their optical telecommunications
infrastructures with the utmost efficiency and cost-effectiveness.
Over the past 17 years, EXFO has earned an enviable reputation as a pioneer and
innovator in the fiber-optic test and measurement industry. Our focus on
ground-breaking innovation is best exemplified through our FTB-400 Universal
Test System (UTS), a PC-based, Windows-driven platform designed for basic and
advanced field-testing operations. This all-in-one test solution is supported by
a comprehensive suite of plug-and-play test modules that cover all physical-,
optical- and protocol-layer test requirements. Our product offering is completed
by rugged handheld instruments, which raise the number of product families in
our Portable and Monitoring Division to 40.
Nowadays, our high-end solutions, such as our optical time-domain reflectometers
(OTDRs), optical spectrum analyzers (OSAs), Gigabit Ethernet testers and
SONET/SDH analyzers, are increasingly gaining product approvals from several
Tier 1 network service providers. NSPs are also relying on our 24/7 real-time
monitoring solutions to meet heightened customer demand for quality of service
and network reliability. By remaining attuned to customer needs, we have quietly
assumed a leadership position in this global competitive marketplace.
EXFO o 2002 Annual Report o 7
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ALL-IN-ONE TESTING
EXFO has all the bases covered when it comes to serving the NSP market. We added
to our long list of industry firsts by combining protocol-, optical- and
physical-layer testing inside a single platform--the FTB-400 UTS--to help our
customers increase revenues and reduce operational costs in a fast-changing
market. This means that field technicians no longer need to fumble with separate
instruments like bit-error-rate testers (BERTs), OSAs and OTDRs to quickly turn
up new services. All they need is the next-generation FTB-400 UTS and the
appropriate modules to handle all their testing, storage and retrieval
requirements. This all-in-one solution--the most complete in its
category--relieves customer headaches and increases our market share. Now,
that's what we like to call a win-win situation.
[GRAPHIC OMITTED - PHOTOGRAPH]
FTB-400 UNIVERSAL TEST SYSTEM
BROADENING OUR PRODUCT PORTFOLIO
We didn't sit on our first-mover advantage following the introduction of the
original modular platform a few years ago. We extended our lead this year by
adding a number of test modules that can characterize protocol and
rate-independent DWDM networks. We launched the FTB-8500 Packet Blazer(TM) to
verify that Gigabit Ethernet capabilities in high-speed optical networks are
working to their fullest potential. We released the FTB-5800 Chromatic
Dispersion (CD) Analyzer, the industry's most advanced instrument for measuring
physical limitations like CD during deployments and upgrades to 10 Gb/s and 40
Gb/s systems. We announced the availability of the FTB-8000 SONET/SDH 10 Gb/s
Analyzer for protocol-layer testing of high-capacity networks. And, subsequent
to the year-end, we delivered the FTB-9310 Channel Selector for commissioning
and lighting channels in DWDM networks. In light of new market realities,
customers are increasingly looking for a one-stop solution for their testing
needs, and EXFO is the place to shop.
[GRAPHIC OMITTED - PHOTOGRAPH]
FTB-8000 SONET/SDH ANALYZER
REAL-TIME NETWORK MONITORING SOLUTIONS
Network reliability and quality of service have become mission-critical for NSPs
who are seeking competitive advantages to attract customers. We have responded
to these growing opportunities with the introduction of the FG-7000 Fiber
Guardian and the OG-5240 Optical Guardian for physical- and optical-layer
monitoring. Through state-of-the-art instrumentation, Fiber Guardian and Optical
Guardian can pinpoint a fault to reduce downtime to a minimum, or they can
locate minor degradations to prevent loss of service. When deployed in tandem
with Network Guardian for protocol-layer monitoring applications, these
autonomous products position EXFO among the leading suppliers of monitoring
solutions in the industry.
[GRAPHIC OMITTED - PHOTOGRAPHS]
FG-7000 FIBER GUARDIAN
NETWORK GUARDIAN G2
INDUSTRIAL & SCIENTIFIC DIVISION
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[GRAPHIC OMITTED]
[PHOTOGRAPH]
MIGRATING PRODUCTS FROM THE R&D PHASE TO FULL-FLEDGED, HIGH-VOLUME PRODUCTION
HAS NEVER BEEN EASIER WITH THE PC-BASED IQS-500 PLATFORM AND RELATED TEST
MODULES.
DELIVERING COST-EFFECTIVE SOLUTIONS
At EXFO, we pride ourselves on developing solutions with direct input from our
customers. And at the present time, we're hearing a common refrain from system
vendors, component makers as well as fiber and cable manufacturers: Help us
lower our manufacturing costs! This is why all 50 product families in our
Industrial and Scientific Division are designed with productivity and
cost-effectiveness in mind.
It all starts with our flagship product, the IQS-500 Intelligent Test System.
This next-generation platform provides the most advanced testing and automation
solutions to help reduce costs, increase efficiency and accelerate
time-to-market throughout the entire manufacturing process. Migrating products
from the R&D phase to full-fledged, high-volume production has never been easier
with the PC-based IQS-500 platform and related test modules.
In addition, our extensive product portfolio for system vendors has been
strengthened with the integration of our newest partners at gnubi
communications. gnubi's protocol-layer test instruments, combined with our
physical- and optical-layer equipment, offer telecom and datacom system
manufacturers among the most complete, one-stop test solutions in the industry.
EXFO o 2002 Annual Report o 9
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LEADERSHIP IN MODULAR DESIGN
EXFO revolutionized the fiber-optic test and measurement industry several years
ago with the first modular test platform for manufacturers and R&D labs. This
year, we pushed the envelope to the very edge with a next-generation platform
that efficiently runs as many as 100 test modules using a single controller
unit. These leading-edge test modules can be stacked to create a
high-performance test station for a number of network elements including DWDM
multiplexers, optical transponders, optical patchcords and VCSEL lasers.
Already, the IQS-500 platform is gaining traction with system and component
vendors worldwide because it provides a flexible, system-based approach to meet
customer needs. This system-based approach--one box, several test
modules--combined with an open architecture (PXI, Windows, LabVIEW, etc.) and
ease of programming, produces a test and automation environment that is
unmatched in the industry. What's the added value to customers? Reduced costs
and improved efficiency. What's the payoff for EXFO? Satisfied customers and
increased market share.
STRETCHING OUR R&D DOLLARS
EXFO's product development strategy is based upon the clever reuse of technology
to maximize R&D investments. We typically develop a best-in-class product with
industry-leading specifications for the laboratory environment, and then adapt
it to other markets for seamless deployment. As a result, from a single R&D
project, we can reach a wide cross-section of customers for R&D, manufacturing,
installation and maintenance as well as network monitoring applications. Our
modular system design further increases our competitive advantage since we don't
have to build a new box every time we design a product. Customers love the quick
time-to-market and product breadth; investors appreciate the added returns.
[GRAPHIC OMITTED]
[PHOTOGRAPH - IQS-505P INTELLIGENT TEST SYSTEM]
HELPING CUSTOMERS LOWER COSTS
THROUGH INNOVATION
The quest to deliver innovative solutions never stops at EXFO. We're
continuously developing new technologies to help manufacturers reduce their
costs and increase their efficiency in a competitive environment. This year, we
launched the IQS-1700 High-Performance Power Meter, with as many as four
ultra-high-power remote heads, to measure increasing power levels in
next-generation optical networks. We introduced the IQS-12001B Cable Assembly
Test System for production testing of patchcord, multi-fiber and other
interconnect assemblies. We released the IQS-5250B Optical Spectrum Analyzer for
characterizing components and sub-systems in narrowly spaced DWDM systems. And
we launched the ProAlign(TM) 5000 Component Assembly Workstation that
automatically assembles complex photonics components like planar lightwave
circuits, switches and transceivers. These solutions represent only a sampling
of the 25 new products that we introduced to the marketplace in 2002, but they
aptly demonstrate EXFO's commitment to innovation and, more importantly, to
helping customers improve their bottom line.
[GRAPHIC OMITTED]
[PHOTOGRAPH - IQS-1700 HIGH-PERFORMANCE POWER METER]
TEAMING UP WITH GNUBI COMMUNICATIONS
Acquiring the assets of gnubi communications has S-T-R-A-T-E-G-I-C written all
over it. This new partnership strongly enhances EXFO's presence within the
telecom and datacom system manufacturer market. System vendors, after all, are
increasingly looking for a full-fledged, one-stop solution for their complex
testing requirements; namely physical-, optical- and protocol-layer testing for
R&D and manufacturing applications.
GNUBI offers significant advantages to system vendors with its leading-edge,
multi-channel testing solutions. Its protocol-layer test instruments handle data
rates from DS1 to OC-192 and E1 to STM-64--as well as Gigabit Ethernet--inside a
PC-based modular platform that is highly comparable to EXFO's. gnubi's product
offering addresses test requirements for multiple communication ports in lambda
routers, optical switches, cross-connects and DWDM systems. Altogether, it has
delivered more than 15,000 test ports to over 50 customers around the world.
[GRAPHIC OMITTED]
[PHOTOGRAPH - GNUBI'S EPX16 (TM) PLATFORM]
10 o 2002 Annual Report o EXFO
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of the consolidated financial condition
and results of operations of EXFO Electro-Optical Engineering Inc. (EXFO) for
the fiscal years ended August 31, 2002, 2001 and 2000 should be read in
conjunction with our consolidated financial statements and the related notes
included elsewhere in this annual report. Our consolidated financial statements
are reported in US dollars and have been prepared in accordance with generally
accepted accounting principles in Canada, or Canadian GAAP. To the extent
applicable to our consolidated financial statements included elsewhere in this
annual report, these principles conform in all material respects with generally
accepted accounting principles in the United States, or U.S. GAAP, except as
described in Note 19 to our consolidated financial statements.
CORPORATE HIGHLIGHTS
EXFO LAUNCHES 25 PRODUCTS IN 2002
EXFO announced in September 2002 that it had launched 25 new products in fiscal
2002. Key product launches included the FTB-8000 SONET/SDH Analyzer for
deployments of 10 Gb/s optical networks; the FTB-8500 Packet Blazer(TM) to
ensure Gigabit Ethernet performance in high-speed optical networking; the
FTB-5800 Chromatic Dispersion Analyzer for high-speed, dense wavelength-division
multiplexing (DWDM); the next-generation IQS-500 Intelligent Test System and
related test modules for automated testing and manufacturing applications; and
the ProAlign(TM) 5000 Component Assembly Workstation for the automated assembly
of array-type devices.
EXFO CARRIES OUT RESTRUCTURING ACTIONS AND REVIEWS ASSETS FOR IMPAIRMENT
As a result of the telecommunications downturn that affected several markets,
EXFO carried out a series of restructuring measures in fiscal 2002 to accelerate
its return to profitability. Several proactive actions were taken to lower the
company's cost structure, including workforce reductions and inventory
write-offs. Overall for fiscal 2002, EXFO reduced its workforce by 350 people
and wrote off $18.5 million in excess and obsolete inventories.
EXFO also performed in May 2002 an assessment of the carrying value of goodwill
and intangible assets recorded in conjunction with the three strategic
acquisitions made during the last two years. Considering the ongoing unfavorable
market conditions, the company recorded a charge of $222.2 million to write down
a significant portion of goodwill and a pre-tax charge of $23.7 million to write
down a significant portion of acquired intangible assets.
EXFO IMPLEMENTS NEW ERP SYSTEM
In December 2001, a new enterprise resource planning (ERP) system was
implemented at EXFO's headquarters in Quebec City, QC. This ERP system will
enable the company to improve the efficiency of its operations and should
provide customers with better and more prompt service.
EXFO COMPLETES ACQUISITION OF AVANTAS NETWORKS
EXFO announced in November 2001 that it had completed its previously announced
acquisition of Avantas Networks Corporation (renamed EXFO Protocol Inc.) for a
total consideration of $95.0 million, or $69.4 million net of $25.6 million of
cash and cash equivalents acquired. This acquisition was accounted for using the
purchase method and has resulted in goodwill of $58.0 million, which is not
amortized under new accounting rules. In May 2002, as part of the assessment of
the carrying value of goodwill recorded in business combinations, EXFO
Protocol's goodwill was written down to its fair value, resulting in an
impairment loss of $49.3 million. EXFO Protocol is a supplier of leading-edge
fiber-optic testing and optical-network-performance management equipment
supporting a wide range of protocols and data transmission rates.
SUBSEQUENT EVENT
Subsequent to the year-end, EXFO announced it had acquired substantially all the
assets of gnubi communications, L.P., including its technology, expertise,
customer base and inventories, in a stock-and-cash deal that ranged between $4.3
million and $7.2 million. Consideration paid consisted of $2.5 million in EXFO
stock, $1.8 million in cash and a cash earn-out based upon sales volume up to a
maximum of $2.9 million. gnubi, a privately held company in Dallas, Texas, is a
leading supplier of multi-channel telecom and datacom testing solutions with an
established customer base of Tier 1 optical transport equipment manufacturers
and R&D labs.
EXFO o 2002 Annual Report o 11
INDUSTRY OVERVIEW
OPTICAL NETWORKING MARKET
The past decade has witnessed growth in the volume of data traffic largely due
to the popularity of the Internet and related bandwidth-intensive applications.
According to the Computer Industry Almanac, the number of Internet users around
the world is expected to increase from 530 million in 2001 to 1.12 billion in
2005. In addition, users are continuously seeking applications that require a
great deal of bandwidth such as virtual private networking (VPN), storage area
networking (SAN) and rich media streaming over the Internet.
The increase in Internet users and in bandwidth-intensive applications created a
need for high-capacity communications networks. To meet this increasing demand
for bandwidth, many telecommunications carriers designed and installed new
networks based on optical fiber, deployed additional fiber within their existing
networks or used advances in optical technology such as dense
wavelength-division multiplexing. DWDM involves combining beams of light of
slightly different wavelengths through a single fiber, with each wavelength
carrying its own stream of information. DWDM gained wide market acceptance
because it incorporates technologies that greatly reduce the cost of optical
transmission over long distances and because it provides network flexibility in
access and metropolitan areas.
Following a period of significant growth, the telecommunications industry is
enduring a market correction. Network service providers (NSPs) have lowered
their capital spending to improve short-term financials and reduce debt-loads
which, in turn, have initiated an industry-wide consolidation period. Despite
these challenging market conditions, new bandwidth-hungry applications are
pushing telecom and datacom demand deeper into metropolitan, access and
enterprise networks. As a result, NSPs are continuously upgrading their existing
networks with higher transmission rates, newer protocols and additional channels
to meet the latest bandwidth and application requirements. The system and
component manufacturing markets, meanwhile, have been sharply affected by the
reduction in capital spending of NSPs. During the past 18 months, NSPs have
repeatedly downsized their capital spending budgets for deploying new networks,
which has resulted in a slowdown among system and component vendors.
OPTICAL TEST, MEASUREMENT AND AUTOMATION EQUIPMENT MARKET
The fiber-optic test, measurement and automation market has not been immune to
the challenging conditions in the optical networking sector. However, vendors
with extensive product portfolios, which include all-in-one protocol-, optical-
and physical-layer test solutions, marketed their products to NSPs, who needed
to upgrade their networks to higher transmission rates, add DWDM channels or
maintain their existing networks. Likewise, test, measurement and automation
vendors, whose products increase efficiency and reduce costs on the production
floor, still attracted the attention of system and optical component
manufacturers, who kept investing in their R&D programs to stay ahead of the
competition.
Fiber-optic test, measurement and automation equipment is essential for research
and development, manufacturing, installation and maintenance as well as network
monitoring. When light travels along optical fiber and through the optical
components and systems that link optical fibers together, it is subject to
unwanted effects such as reflection, attenuation, noise and various types of
dispersion, all of which degrade signal quality and reduce transmission
performance. Fiber-optic test and measurement equipment is critical for
measuring these effects and helping NSPs and manufacturers of optical
components, sub-systems and optical networking systems ensure performance and
reliability.
Fiber-optic test and measurement equipment like a bit-error-rate tester is also
used to ensure data integrity. Data sent along an optical network must respect
transmission protocols, such as ATM, SONET, SDH, Ethernet and Gigabit Ethernet,
and fall within accepted data transmission rates from 64 Kb/s to 10 Gb/s.
Otherwise, the information sent from a transmitter will be incomprehensible to
the receiver.
Automation equipment is necessary to reduce costs and increase productivity on
the manufacturing floor. Optical components and sub-systems, which make up an
optical network, are typically assembled by hand. As a result, optical component
vendors are increasingly looking for ways to increase efficiency and yield as
well as reduce costs by adopting automated manufacturing solutions. They either
build these complex solutions in-house or turn to equipment manufacturers to
help them automate critical steps in the manufacturing process such as
alignment, curing and optical testing. The latter option enables optical
component vendors to devote their technical resources to developing
next-generation products instead of manufacturing tools.
COMPANY OVERVIEW
EXFO was incorporated on September 18, 1985. Our original products were focused
primarily on the needs of installers and operators of fiber-optic networks.
These products are marketed in what is known today as our Portable and
Monitoring Division. This division markets its products mainly to
telecommunications carriers and network service providers around the world.
These customers use Portable and Monitoring Division products for installation
and maintenance, monitoring and troubleshooting applications. In 1996, we
supplemented our product portfolio with an extensive line of Industrial and
Scientific products that are dedicated to the research and development and
manufacturing activities of optical system and component vendors worldwide. Our
Industrial and Scientific products tend to be more complex and higher priced
than our Portable and Monitoring products. In fiscal 1999, we entered the market
for remote fiber test systems. Remote fiber test systems, which are marketed
through our Portable and Monitoring Division, allow carriers to monitor the
integrity of their entire fiber-optic systems by verifying the protocol, optical
and physical layers.
12 o 2002 Annual Report o EXFO
One of our strongest competitive advantages is our modular platform design. EXFO
introduced modular test platforms more than six years ago, and remains the
uncontested leader with all-in-one test sets that provide greater value for
customers seeking enhanced productivity. Our PC-based platforms, which are
supported by an extensive suite of plug-and-play test modules, are widely
accepted among Tier 1 carriers and system manufacturers with an established base
of more than 10,000 units on the market today.
During the last two years, we strengthened our competitive positioning with a
string of acquisitions. In fiscal 2001, we completed two key acquisitions to
bolster growth in our Industrial and Scientific Division. We acquired Burleigh
Instruments, Inc. (renamed EXFO Burleigh Products Group Inc.) for its wavelength
measurement instruments and nanopositioning alignment systems. We also added
EFOS Inc. (renamed EXFO Photonic Solutions Inc.) for its precision light-based,
adhesive spot-curing technology.
In fiscal 2002, we expanded into protocol-layer testing with the closing of the
Avantas Networks Corporation acquisition (renamed EXFO Protocol Inc.), a
supplier of leading-edge, fiber-optic testing and optical-network-performance
management equipment. This acquisition was highly strategic because it enabled
us to combine protocol-, optical- and physical-layer testing inside a single
platform--the FTB-400 Universal Test System--to help our customers increase
revenues and reduce operational costs in a fast-changing market.
Subsequent to the year-end, we also announced that we had purchased
substantially all the assets of gnubi communications, L.P., a leading supplier
of multi-channel telecom and datacom testing solutions. gnubi's protocol-layer
test equipment for optical transport equipment manufacturers fully complements
EXFO Protocol's offering that is targeted at the network service provider
market. As a result, these latest acquisitions enabled us to double our
addressable market, while offering a complete test solution for the entire life
cycle of an optical network: R&D, manufacturing, installation and maintenance,
as well as network monitoring.
SALES
We sell our products to more than 2000 customers in 70 countries around the
world through our direct sales force and, indirectly, through distribution
channels. North America accounted for 57% of our sales in fiscal 2002 compared
to 43% for the rest of the world. With regard to sales distribution, it was a
57-43% split in favor of our Portable and Monitoring products in 2002. In terms
of customer breakdown, we had one 10%-customer in 2002 with our top three
customers representing 15.4% of sales for the year.
COST OF SALES
Cost of sales includes raw materials, salaries and related expenses for direct
and indirect manufacturing personnel and manufacturing overhead. We expense cost
of sales as the related revenue is recognized. Excess, obsolete or scrapped
materials are included in cost of sales.
OPERATING EXPENSES
We classify our operating expenses into three general categories: selling and
administrative expenses, research and development expenses and amortization
expenses.
Selling and administrative expenses consist primarily of salaries and related
expenses for personnel, sales commissions, travel expenses, marketing programs,
professional services, management information systems, human resources and other
corporate expenses.
Gross research and development expenses consist primarily of salaries and
related expenses for engineers and other technical personnel, material component
costs as well as fees paid to third-party consultants. We expense our research
and development costs as they are incurred. We are eligible to receive research
and development tax credits and government grants on research and development
carried out in Canada. Related research and development tax credits and
government grants are recorded as a reduction of gross research and development
expenses.
Operating expenses related to our restructuring plans have been recorded as a
separate component of operating expenses. These expenses consist primarily of
severance expenses, costs to exit leased facilities, a write-off of property,
plant and equipment, as well as a write-down of intangible assets.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Management's discussion and analysis of financial conditions and results of
operations is based on our consolidated financial statements included elsewhere
in this annual report. They have been prepared in accordance with Canadian GAAP.
The preparation of financial statements in accordance with GAAP requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosures of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting periods. On an ongoing basis, we evaluate these
estimates and assumptions, including those related to revenue recognition,
allowance for doubtful accounts, allowance for excess and obsolete inventories,
research and development tax credits and government grants, impairment of
intangible assets and goodwill, future income taxes, warranty obligations,
restructuring charges, contingencies and other obligations. We base our
estimates on historical experience and on other factors that we believe to be
reasonable under the circumstances, the result of which form the basis for
making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results could differ from those
estimates.
EXFO o 2002 Annual Report o 13
The following summarizes our critical accounting policies and those that require
the most significant judgment and estimates in the preparation of our
consolidated financial statements.
Revenue recognition. For products in which software is incidental, we recognize
revenue when persuasive evidence of an arrangement exists, the product has been
delivered, the price is fixed and determinable and collection of the resulting
receivable is reasonably assured. In addition, provisions are made for estimated
returns, warranties and support obligations.
For products in which software is not incidental, revenues are separated into
two categories: product and customer support revenues based upon vendor-specific
objective evidence of fair value. Product revenues for these sales are
recognized as described above. Customer support revenues are deferred and
recognized ratably over the years of the support arrangement. Except when
provided within one year of delivery, costs of providing this support are
insignificant and accrued at the time of delivery and no software upgrades are
provided.
For all sales, we use a binding purchase order as evidence that a sales
arrangement exists.
Delivery generally occurs when the product is shipped to a common carrier.
At the time of the transaction, we assess whether the price associated with our
revenue transactions is fixed and determinable and whether or not collection is
reasonably assured. We assess whether the price is fixed and determinable based
on the payment terms associated with the transaction. We assess collection based
on a number of factors, including past transaction history and the
creditworthiness of the customer. Generally, collateral or other security is not
requested from customers.
Most sales arrangements do not generally include acceptance clauses. However, if
a sales arrangement includes an acceptance provision, acceptance occurs upon the
earliest receipt of a written customer acceptance or expiration of the
acceptance period. For these sales arrangements, the sale is recognized when
acceptance occurs.
ALLOWANCE FOR DOUBTFUL ACCOUNTS. We estimate collectibility of accounts
receivable on an ongoing basis by periodically reviewing balances outstanding
over a certain period of time. We determine our allowance for doubtful accounts
receivable based on our historical accounts receivable collection experience and
on the information that we have about the status of our accounts receivable
balances. If the financial conditions of our customers deteriorate, resulting in
an impairment of their ability to make required payments, additional allowance
may be required, which could adversely affect our future results.
ALLOWANCE FOR EXCESS AND OBSOLETE INVENTORIES. We state our inventories at the
lower of cost and net realizable value and provide reserves for excess and
obsolete inventories. We determine our reserves for excess and obsolete
inventories considering our quantities on hand and our expected needs for these
inventories to support future sales of our products. It is possible that
additional inventory reserves may occur if future sales are less than our
forecasts, which could adversely affect our future results.
RESEARCH AND DEVELOPMENT TAX CREDITS AND GOVERNMENT GRANTS. We record research
and development tax credits and government grants based on our interpretation of
tax laws and grant programs, especially regarding related eligible projects and
expenses, and when there is a reasonable assurance that we have complied and
will continue to comply with all conditions and laws. Also, our judgment and
estimates are based on historical experience. It is possible, however, that the
tax authorities have a different interpretation of laws and application of
conditions related to the programs or that we will not comply with all
conditions related to grants in the future, which could adversely affect our
future results.
IMPAIRMENT OF GOODWILL AND INTANGIBLE ASSETS. We assess impairment of goodwill
and intangible assets when events or circumstances indicate that costs may not
be recoverable. Impairment exists when the carrying value of the asset is
greater than the pre-tax undiscounted future cash flows expected to be provided
by the asset. The amount of impairment loss, if any, is the excess of the
carrying value over the estimated pre-tax undiscounted future cash flows.
Intangible assets and goodwill are written down for any permanent impairment
value of the unamortized portion. In fiscal 2002, we incurred significant
impairment losses on goodwill and intangible assets recorded in conjunction with
our three strategic acquisitions made during the last two years.
On September 1, 2002, upon the adoption of section 3062 of the Canadian
Institute of Chartered Accountants Handbook (CICA), we performed an initial
impairment test of goodwill based on a fair value method. Based on that initial
test, goodwill was not considered impaired. Moving forward, this test will be
performed on an annual basis or more frequently if events or circumstances occur
that more likely than not trigger an impairment.
FUTURE INCOME TAX ASSETS. We account for income taxes using the liability method
of tax allocation. Under this method, future income tax assets and liabilities
are determined based on deductible or taxable temporary differences between
financial statement values and tax values of assets and liabilities using
enacted income tax rates for the years in which the differences are expected to
reverse. In assessing the recoverability of our future income tax assets, we
consider whether it is more likely than not that some or all of the future
income tax assets will not be realized. The ultimate realization of certain
future income tax assets is dependent upon the generation of future taxable
income during the periods in which those temporary differences will become
deductible. If we obtain information that causes our forecast of future taxable
income to change or if actual future taxable income differs from our forecast,
we may have to revise the carrying value of our future income tax assets, which
would affect our net earnings in the period in which the change was made. We
review the recoverability of our future income tax assets on a quarterly basis.
14 o 2002 Annual Report o EXFO
RESULTS OF OPERATIONS
The following table sets forth certain Canadian GAAP consolidated statements of
earnings data in thousands of US dollars, except per share data, and as a
percentage of sales for the years indicated:
YEARS ENDED AUGUST 31, 2000 2001 2002 2000 2001 2002
------------------------------------------------------------------------------------------------------------------
Sales $ 71,639 $ 146,013 $ 68,330 100.0% 100.0% 100.0%
Cost of sales 24,712 54,946 50,801 34.5 37.6 74.3
Gross margin* 46,927 91,067 17,529 65.5 62.4 25.7
Operating expenses
Selling and administrative 24,304 46,236 35,446 33.9 31.7 51.9
Net research and development 6,402 13,601 12,782 8.9 9.3 18.7
Amortization of property, plant
and equipment 1,451 3,559 5,932 2.0 2.4 8.7
Amortization of intangible assets 47 9,876 11,615 0.1 6.8 17.0
Write-down of intangible assets -- -- 23,657 -- -- 34.6
Restructuring and other charges -- 3,288 2,880 -- 2.3 4.2
Total operating expenses 32,204 76,560 92,312 44.9 52.5 135.1
Earnings (loss) from operations 14,723 14,507 (74,783) 20.6 9.9 (109.4)
Interest income, net 1,480 6,098 1,456 2.1 4.2 2.1
Foreign exchange gain (loss) (684) 3,327 (458) (1.0) 2.3 (0.7)
Earnings (loss) before income taxes
and amortization and write-down
of goodwill 15,519 23,932 (73,785) 21.7 16.4 (108.0)
Income taxes 5,298 8,150 (25,451) 7.4 5.6 (37.2)
Earnings (loss) before amortization
and write-down of goodwill 10,221 15,782 (48,334) 14.3 10.8 (70.8)
Amortization of goodwill 297 31,076 38,021 0.4 21.3 55.6
Write-down of goodwill -- -- 222,169 -- -- 325.1
Net earnings (loss) for the year $ 9,924 $ (15,294) $(308,524) 13.9% (10.5)% (451.5)%
Basic and diluted net
earnings (loss) per share $ 0.25 $ (0.29) $ (5.09)
Research and development data:
Gross research and development $ 9,374 $ 17,601 $ 17,005 3.1% 12.1% 24.9%
Net research and development$ 6,402 $ 13,601 $ 12,782 8.9% 9.3% 18.7%
Other data (unaudited):**
Pro forma net earnings (loss) $ 10,252 $ 24,500 $ (11,248) 14.3% 16.8% (16.5)%
Basic and diluted pro forma
net earnings (loss) per share $ 0.26 $ 0.46 $ (0.19)
* Including inventory write-offs of nil, nil and $18,463 for the years
ended August 31, 2000, 2001 and 2002, respectively. Excluding inventory
write-offs of $18,463 for the year ended August 31, 2002, gross margin
would have reached 52.7% for that year. This latter information is
unaudited and is a non-GAAP measure.
** Net earnings (loss) excluding amortization and write-down of goodwill
and the after-tax effect of amortization and write-down of intangible
assets, restructuring and other charges, as well as inventory
write-offs. This information may not be comparable to similarly titled
measures reported by other companies because it is non-GAAP
information. Please refer to page 19 of this annual report for a
detailed quantitative reconciliation.
EXFO o 2002 Annual Report o 15
SALES
Sales totaled $68.3 million, $146.0 million and $71.6 million in fiscal 2002,
2001 and 2000, respectively. Sales decreased 53% in fiscal 2002 compared to 2001
due to a reduced demand for our products and pricing pressure attributable to
the severe downturn in the telecommunications industry. The fiber-optic
telecommunications industry has not rebounded as quickly as many industry
experts forecasted. Established telecommunications carriers have decreased their
capital expenditures to improve short-term financials and reduce debt loads,
while a number of others have filed for bankruptcy. Lower spending levels have
produced a trickle-down effect throughout the fiber-optic industry, including in
research and development, manufacturing, installation and maintenance, as well
as network monitoring companies. Test, measurement, monitoring and automation
equipment vendors, in turn, have been negatively affected due to the dramatic
reduction in the deployment of optical networks. Consequently, both our Portable
and Monitoring products and our Industrial and Scientific products suffered from
this lack of demand and pricing pressure. Our Industrial and Scientific
products, however, were more severely affected by the downturn. With regard to
sales distribution, it was a 57%-43% split in favor of our Portable and
Monitoring products in fiscal 2002 compared to 52%-48% in favor of our
Industrial and Scientific products in 2001.
Net accepted orders decreased 56% to $58.3 million in fiscal 2002 from $132.1
million in 2001. Our book-to-bill ratio decreased to 0.85 in fiscal 2002
compared to 0.90 in 2001. However, our book-to-bill ratio, which began
decreasing in the third quarter of 2001, has been steadily increasing since the
second quarter of 2002. Our book-to-bill ratio for the last quarter of fiscal
2002 was 1.03.
Sales increased 104% in fiscal 2001 compared to 2000 due to increased demand for
our Industrial and Scientific products as well as our Portable and Monitoring
products, market acceptance of several products launched in 2001 and the impact
of the EXFO Burleigh Products Group ("EXFO Burleigh") and EXFO Photonic
Solutions acquisitions completed during the year. In addition, the increase in
sales of our Industrial and Scientific products significantly increased our top
line because these products have a higher average selling price than Portable
and Monitoring products. Altogether, our Industrial and Scientific products
accounted for 52% of sales in fiscal 2001 compared to 31% in 2000.
Net accepted orders increased 53% to $132.1 million in fiscal 2001 from $86.2
million for 2000. Our book-to-bill ratio, however, decreased to 0.90 in fiscal
2001 compared to 1.20 in 2000. The decrease in our book-to-bill ratio reflects
the downturn in the telecommunications industry, which began affecting our
bookings in the third quarter of 2001.
North American sales accounted for 57%, 58% and 62% of global sales in fiscal
2002, 2001 and 2000, respectively. International sales represented 43%, 42% and
38% of global sales in fiscal 2002, 2001 and 2000, respectively. Despite the
relative stability in our international sales between fiscal 2002 and 2001 as a
percentage of total sales, sales to the Asian market reached 19% of global sales
in fiscal 2002 compared to 13% in 2001 as a result of our sustained efforts to
develop this market. On the other hand, sales to the European market decreased
to 14% of global sales in fiscal 2002 compared to 21% of sales in 2001, mainly
because this market has been the most affected by the downturn in the
telecommunications industry.
The increase in international sales in fiscal 2001 compared to 2000 mainly
reflects our sustained efforts to develop the Asian market. We almost tripled
our sales in this region and added service centers in Beijing and Singapore to
better serve our customers.
We sell our products to a broad range of customers including telecommunications
carriers, network service providers, optical component and system manufacturers,
as well as research and development laboratories. No customer accounted for more
than 10.2%, 6.4% and 5.8% of sales in fiscal 2002, 2001 and 2000, respectively.
In fiscal 2002, our three most significant customers represented 15.4% of sales.
[GRAPHIC OMITTED]
[BAR CHART]
YEAR $ IN MILLIONS
98 $ 31.6
99 $ 42.2
00 $ 71.6
01 $146.0
02 $ 68.3
GROSS MARGIN
Gross margin amounted to 25.7%, 62.4% and 65.5% of sales for fiscal 2002, 2001
and 2000, respectively.
In fiscal 2002, we recorded inventory write-offs of $18.5 million for obsolete
and excess inventories. These special charges were recorded due to weaker demand
for our products and our expected needs for the upcoming 24 months at the time
of the write-offs. Excluding these special charges, our gross margin would have
reached 52.7% of sales. Even excluding these special charges, our gross margin
decreased 9.7% in fiscal 2002 from 62.4% in 2001, mainly because of the
significant decrease in our sales in 2002. Weaker demand for our products and
pricing pressure prevented us from a better absorption of our fixed
manufacturing costs. Our manufacturing capacity in Quebec City, QC and Victor,
NY almost doubled in fiscal 2001, while sales decreased significantly in 2002.
[GRAPHIC OMITTED]
[BAR CHART]
YEAR PERCENTAGE
98 64.1%
99 64.4%
00 65.5%
01 62.4%
02 25.7%
02 Pro Forma* 52.7%
* excluding inventory write-offs of $18.5 million
16 o 2002 Annual Report o EXFO
Despite the increase in sales of Industrial and Scientific products in fiscal
2001, which tend to be slightly higher-margin products, gross margin decreased
in fiscal 2001 compared to 2000 due to a number of reasons. First of all, we
significantly increased our manufacturing capacity in 2001 as well as hired and
trained related manufacturing employees to face then and expected demand for our
products. Secondly, we re-engineered our manufacturing processes to be more
cost-effective and to better mitigate the impact of potential pricing pressure
in the future. Thirdly, we acquired EXFO Photonic Solutions, which operates in a
market that has relatively lower-margin products. Finally, the slowdown in the
telecommunications industry, which affected us mostly in the last quarter of
fiscal 2001, prevented us from a better absorption of our fixed manufacturing
costs.
Gross margin can be negatively affected by competitive pricing pressure,
increase in obsolescence costs, shifts in product mix, reductions in government
grants, under-absorption of fixed manufacturing costs and increases in product
offerings by other suppliers in the fiber-optic test, measurement, monitoring
and automation industry.
SELLING AND ADMINISTRATIVE
Selling and administrative expenses reached $35.4 million, $46.2 million and
$24.3 million for fiscal 2002, 2001 and 2000, respectively. As a percentage of
sales, selling and administrative expenses amounted to 51.9%, 31.7% and 33.9%
for fiscal 2002, 2001 and 2000, respectively. The dollar decrease in fiscal 2002
compared to 2001 is directly related to lower expenses resulting from our
restructuring plans implemented since June 2001 and lower commission expenses
since our sales decreased significantly in fiscal 2002. However, this decrease
was offset in part by the impact of the acquisition of EXFO Protocol in November
2001. On the other hand, the significant drop in sales in fiscal 2002 caused the
selling and administrative expenses percentage to increase since these expenses
tend to be fixed and because sales decreased at a faster rate than selling and
administrative expenses.
The dollar increase in fiscal 2001 compared to 2000 is directly related to
higher commissions resulting from increased sales activity, increased
promotional and marketing expenses, expenses to consolidate our sales force in
Asia, expenses related to running a public company and the impact of the EXFO
Burleigh and EXFO Photonic Solutions acquisitions. The percentage decrease is
mainly due to a better absorption of these expenses because sales increased at a
faster rate than selling and administrative expenses.
Considering the challenging market conditions, we will continue to maintain our
selling and administrative expenses at an acceptable level without impeding our
efforts to strategically position our company, improve our sales, as well as
provide quality service to customers and integrate our acquired companies.
[GRAPHIC OMITTED]
[BAR CHART]
YEAR PERCENTAGE
98 31.3%
99 31.5%
00 33.9%
01 31.7%
02 51.9%
RESEARCH AND DEVELOPMENT
Gross research and development expenses totaled $17.0 million, $17.6 million and
$9.4 million for fiscal 2002, 2001 and 2000, respectively. As a percentage of
sales, gross research and development expenses amounted to 24.9%, 12.1% and
13.1% for fiscal 2002, 2001 and 2000, respectively.
The slight decrease in gross research and development dollars in fiscal 2002
compared to 2001 is mainly due to the mix and timing of research and development
projects and the effect of our restructuring plans implemented in 2002; these
factors were partially offset by the impact of the acquisition of EXFO Protocol.
The percentage increase reflects our strong focus on innovation despite the
significant decrease in sales. We firmly believe that innovation and new product
introductions are the key to gaining market share in this current economic
environment and ensuring the long-term growth and profitability of the company.
In fiscal 2002, 48% of sales originated from products that have been on the
market for two years or less. This is a slight improvement compared to 46% of
our sales in fiscal 2001. In fiscal 2002, we released 25 new products compared
to 20 in 2001. These figures confirm our dedication to innovation and our
anticipation of customer needs and expectations.
The increase in gross research and development dollars in fiscal 2001 compared
to 2000 reflects the hiring of additional research and development personnel, as
well as the acquisitions of EXFO Burleigh and EXFO Photonic Solutions. The
decrease, as a percentage of sales, in fiscal 2001 compared to 2000 is mainly
due to the fact that sales increased at a faster rate than research and
development expenses during that period.
Tax credits and grants from federal, provincial and state governments for
research and development activities were $4.2 million, $4.0 million and $3.0
million for fiscal 2002, 2001 and 2000, respectively. Our tax credits and grants
remained relatively flat between fiscal 2002 and 2001 since our gross research
and development expenses were relatively unchanged year-over-year. The increase
in our tax credits and grants in fiscal 2001 compared to 2000 is directly
related to the hiring of additional research and development personnel as well
as the impact of the EXFO Photonic Solutions acquisition.
[GRAPHIC OMITTED]
[BAR CHART]
YEAR PERCENTAGE
98 13.9%
99 15.2%
00 13.1%
01 12.1%
02 24.9%
EXFO o 2002 Annual Report o 17
Tax credits and grants, as a percentage of gross research and development
expenses, were 24.8%, 22.7% and 31.7% for fiscal 2002, 2001 and 2000,
respectively. Tax credits and grants, as a percentage of gross research and
development expenses, increased slightly between 2001 and 2002 since more
research and development activities were carried out in Canada, where such
activities are entitled to research and development tax credits, following the
acquisition of EXFO Protocol. The decrease in fiscal 2001 compared to 2000 is
related to a reduction in the effective tax credit rate and grants on research
and development carried out in Canada. It should be noted that research and
development carried out by US-based EXFO Burleigh is not eligible for tax
credits. As a result, tax credits and grants, as a percentage of gross research
and development expenses, were further reduced in fiscal 2001.
In terms of net research and development expenses, they amounted to 18.7%, 9.3%
and 8.9% of sales for fiscal 2002, 2001 and 2000, respectively. Although we
intend to reduce our research and development expenses as a percentage of sales,
we expect to continue investing heavily in research and development in the
upcoming year, reflecting our focus on innovation, our desire to gain market
share and our goal to exceed customer needs and expectations.
AMORTIZATION OF INTANGIBLE ASSETS
In conjunction with the acquisitions of EXFO Burleigh, EXFO Photonic Solutions
and EXFO Protocol during the last two years, we recorded $61.1 million in
intangible assets, primarily consisting of core technology. These intangible
assets, which are amortized over periods from five months to five years from the
date of acquisitions, resulted in amortization expenses of $11.6 million and
$9.9 million in fiscal 2002 and 2001, respectively.
Intangible assets related to these acquisitions have been reviewed for
impairment as described below and this resulted in a pre-tax write-down charge
of $23.7 million in the third quarter of 2002. Considering this write-down, the
amortization of intangible assets will decrease by approximately $6.5 million in
the upcoming fiscal year.
WRITE-DOWN OF GOODWILL AND INTANGIBLE ASSETS
In May 2002, as part of our review of financial results, we performed an
assessment of the carrying value of goodwill and intangible assets recorded in
conjunction with the acquisitions of EXFO Burleigh, EXFO Photonic Solutions and
EXFO Protocol. The assessment was performed because of the severe and continued
downturn in the telecommunications industry, the persisting unfavorable market
conditions affecting our subsidiaries' industries and the decline in technology
valuations. The growth prospects for our subsidiaries were significantly lower
than previously expected and less than those of historical periods. In addition,
the decline in market conditions affecting the subsidiaries is significant and
other than temporary. As a result, we concluded that the carrying value of
goodwill and certain acquired intangible assets was impaired and we recorded a
charge of $222.2 million to write down a significant portion of goodwill and a
pre-tax charge of $23.7 million to write down a significant portion of acquired
core technology. Of the total impairment loss of $245.8 million, $125.0 million
relates to EXFO Burleigh, $71.5 million relates to EXFO Photonic Solutions and
$49.3 million relates to EXFO Protocol.
The impairment loss was calculated as the excess of the carrying value of the
assets over the pre-tax undiscounted future cash flows. The pre-tax undiscounted
future cash flows were estimated at the subsidiaries' level since we had
distinct cash flows for each of them and because they are not fully integrated
into our activities. The cash flow periods used ranged from three to five years,
using annual growth rates between 15% and 30%.
The assumptions supporting the estimated undiscounted future cash flows,
including the annual growth rates, reflect our best estimates.
On September 1, 2002, upon the adoption of section 3062 of the CICA and under
its transitional provisions, we performed an initial impairment test to identify
potential goodwill impairment using a fair value-based method. Under the new
section, a goodwill impairment loss exists when the carrying value of a
reporting unit exceeds its fair value. For the purposes of the impairment test,
we allocated our existing goodwill to our reporting units and completed an
evaluation of the fair value of such reporting units. Based upon the comparison
of the fair value of the reporting units to their carrying value, goodwill of
the reporting units was not considered impaired.
For a more complete description of this new accounting standard, please refer to
the "New Accounting Standards" section further in this document.
RESTRUCTURING AND OTHER CHARGES
In fiscal 2001, we implemented a structured plan to reduce our costs and
increase our efficiency. Under that plan, we recorded charges of $3.3 million,
including $0.8 million in severance expenses for the 245 employees who were
terminated, $1.5 million for unused assets and $1.0 million for future payments
on exited leased facilities.
18 o 2002 Annual Report o EXFO
In fiscal 2002, we incurred additional charges of $2.9 million to further reduce
our costs. Under additional structured plans, we recorded $2.0 million in
severance expenses for the additional 350 employees who were terminated and $0.9
million for the write-off of property, plant and equipment.
Our cost-cutting measures represent our best efforts to respond to the difficult
market conditions. However, these efforts may be inappropriate or insufficient.
Our actions in this regard may not be successful in achieving the cost
reductions or other benefits expected, may be insufficient to align our cost
structure to market conditions, or may be more costly or extensive than
anticipated.
INTEREST INCOME, NET
Net interest income amounted to $1.5 million, $6.1 million and $1.5 million for
fiscal 2002, 2001 and 2000, respectively. The decrease in our net interest
income in fiscal 2002 compared to 2001 is directly related to the use of
short-term investments to finance our strategic acquisitions, our operating
activities and the purchases of property, plant and equipment, as well as a
general decrease in interest rates.
The increase in our net interest income in fiscal 2001 compared to 2000 results
solely from short-term investments of the remaining net proceeds of our Initial
Public Offering on June 29, 2000.
We expect our net interest income to decrease in the upcoming fiscal year
because of the aforementioned reasons.
FOREIGN EXCHANGE GAIN (LOSS)
Foreign exchange loss amounted to $0.5 million in fiscal 2002 compared to a
foreign exchange gain of $3.3 million in fiscal 2001 and a foreign exchange loss
of $0.7 million in 2000.
The foreign exchange loss in fiscal 2002 is the result of the translation of
operating activities denominated in currencies other than the Canadian dollar.
The foreign exchange gain in fiscal 2001 can be mostly attributed to the
disposal of short-term investments denominated in US dollars and the translation
of operating activities denominated in currencies other than the Canadian
dollar.
We manage our exposure to currency risk with forward exchange contracts and
operating activities of Canadian entities denominated in currencies other than
the Canadian dollar.
INCOME TAXES
Our effective income tax recovery rate was 34.5% in fiscal 2002 compared to
income tax rates of 34.1% for both fiscal 2001 and 2000.
As at August 31, 2002, future income tax assets were $10.0 million and mainly
relate to tax losses, provisions and accruals as well as research and
development expenses, as described in note 15 to our consolidated financial
statements. Our current forecasts demonstrate that most of the future income tax
assets should be recovered over the next three fiscal years. However, if we
obtain information that causes our forecast of future taxable income to change
or if actual future taxable income differs from our forecast, we may have to
revise the carrying value of our future income tax assets, which would affect
our net earnings in the period in which the change was made. We review the
recoverability of our future income tax assets on a quarterly basis.
Research and development expenses and most of the provisions and accruals can be
carried forward indefinitely against future years' taxable income. The Canadian
tax losses, which represent $3.5 million in future income tax assets, expire
over the next seven years while U.S. tax losses, which represent $3.4 million in
future income tax assets, expire in 20 years.
AMORTIZATION OF GOODWILL
In conjunction with the acquisitions of EXFO Burleigh and EXFO Photonic
Solutions, we recorded $248.5 million in goodwill, which is amortized over five
years. These acquisitions resulted in amortization expenses of $38.0 million and
$31.1 million for fiscal 2002 and 2001, respectively. The acquisition of EXFO
Protocol has been accounted for using new accounting standards contained in
sections 1581 and 3062 of the CICA and, consequently, goodwill resulting from
this acquisition was not amortized.
Goodwill related to these acquisitions has been reviewed for impairment, as
described above, and this resulted in a write-down charge of $222.2 million in
the third quarter of 2002. Starting on September 1, 2002, goodwill will no
longer be amortized under new accounting standards.
EXFO o 2002 Annual Report o 19
NET EARNINGS (LOSS)
Net loss amounted to $308.5 million and $15.3 million in fiscal 2002 and 2001,
respectively, compared to net earnings of $9.9 million in 2000. In terms of per
share amounts, we recorded a net loss of $5.09 and $0.29 in fiscal 2002 and
2001, respectively, compared to net earnings of $0.25 in 2000.
PRO FORMA NET EARNINGS (LOSS)
As a measure to assess financial performance, we use pro forma net earnings
(loss) and pro forma net earnings (loss) per share. Pro forma net earnings
(loss) represent net earnings (loss) excluding amortization and write-down of
goodwill and the after-tax effect of amortization and write-down of intangible
assets, restructuring and other charges as well as inventory write-offs.
Pro forma net loss amounted to $11.2 million in fiscal 2002 compared to pro
forma net earnings of $24.5 million and $10.3 million in fiscal 2001 and 2000,
respectively. In terms of pro forma per share amounts, we recorded a loss of
$0.19 in fiscal 2002 compared to net earnings of $0.46 and $0.26 in fiscal 2001
and 2000, respectively.
Pro forma net earnings (loss) is reconciled as follows:
YEARS ENDED AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------------------------------
(unaudited) (unaudited) (unaudited)
Net earnings (loss) in accordance with GAAP $ 9,924 $ (15,294) $(308,524)
Pro forma adjustments:
Amortization of goodwill 297 31,076 38,021
Write-down of goodwill -- -- 222,169
Amortization of intangible assets 47 9,876 11,615
Tax effect of amortization of intangible assets (16) (3,363) (4,007)
Write-down of intangible assets -- -- 23,657
Tax effect of write-down of intangible assets -- -- (8,160)
Restructuring and other charges and inventory write-offs -- 3,288 21,343
Tax effect of restructuring and other charges and
inventory write-offs -- (1,083) (7,362)
--------------------------------------------------------------------------------------------------------
Pro forma net earnings (loss) $ 10,252 $ 24,500 $ (11,248)
--------------------------------------------------------------------------------------------------------
Net earnings (loss) per share $ 0.25 $ (0.29) $ (5.09)
Basic and diluted pro forma net earnings (loss) per share $ 0.26 $ 0.46 $ (0.19)
We provide pro forma financial information to help the investor better
understand our operating results. This information is not in accordance with, or
an alternative to, generally accepted accounting principles and may not be
comparable to similarly titled measures reported by other companies.
LIQUIDITY AND CAPITAL RESOURCES
We finance our operations and major investments and meet our capital expenditure
requirements mainly through the use of cash and cash equivalents, short-term
investments and the issuance of subordinate voting shares.
CASH POSITION AND SHORT-TERM INVESTMENTS
As at August 31, 2002, cash and cash equivalents as well as short-term
investments consisted of $49.7 million. Our working capital was at $91.4
million. Our cash and cash equivalents and short-term investments decreased by
$24.9 million in fiscal 2002, including $8.7 million for financing of operating
activities as well as cash payments of $9.8 million and $5.2 million,
respectively, for the acquisition of EXFO Protocol and the purchases of
property, plant and equipment.
The acquisition of substantially all the assets of gnubi communications, L.P.
will be partially financed with $1.8 million of cash on hand. In fiscal 2003,
however, we expect to recover $13.5 million in income taxes mainly due to the
carry-back of current tax losses and tax credits on our research and development
activities. As at August 31, 2002, total commitments under operating leases and
long-term debt for fiscal 2003 amounted to $1.4 million.
20 o 2002 Annual Report o EXFO
OPERATING ACTIVITIES
Cash flows used by operating activities were $8.7 million in fiscal 2002
compared to cash flows provided of $3.9 million in fiscal 2001 and cash flows
used of $4.0 million in 2000. Cash flows used by operating activities in fiscal
2002 were primarily due to the net loss after items not affecting cash and cash
equivalents of $1.1 million combined with the increase of income taxes
receivable of $19.7 million and the decrease in accounts payable and accrued
liabilities of $7.5 million. These figures were partially offset by the result
of the net decrease in accounts receivable and inventories of $19.7 million. The
increase in our income taxes receivable is related to income tax recovery
following the carry-back to previous years' taxable income of our consolidated
tax loss, while the decrease in our accounts payable and accrued liabilities is
due to the reduction in our purchases following the slowdown in our industry.
The decrease in our accounts receivable is due to the reduction in our sales
level and the improvement in our days of sales outstanding (DSOs), while the
decrease in our inventories is due to our efforts to maintain them at the lowest
acceptable level considering the decrease in sales.
Cash flows provided by operating activities in fiscal 2001 were primarily due to
net earnings after items not affecting cash and cash equivalents of $25.3
million. This figure was mainly offset by the increase of $20.3 million in
inventories required to ensure minimal manufacturing and delivery lead times.
In fiscal 2002, the major items not affecting cash and cash equivalents
consisted of inventory write-offs of $18.5 million, write-down of goodwill and
intangible assets of $245.8 million, amortization expenses of $55.6 million and
future income tax recovery of $13.4 million. In fiscal 2001, the major items not
affecting cash and cash equivalents consisted of amortization expenses of $44.5
million and realized foreign exchange gains on disposal of short-term
investments of $3.4 million.
FINANCING ACTIVITIES
Cash flows used by financing activities were $90,000 and $4.6 million in fiscal
2002 and 2001, respectively, compared to cash flows provided of $172.8 million
in 2000. Cash flows used by financing activities in fiscal 2002 were due to the
repayment of our long-term debt. Cash flows used in financing activities in
fiscal 2001 were mainly due to the repayment of our bank advances and our
long-term debt of $5.4 million.
As at August 31, 2002, we had credit facilities that provide for advances of up
to Cdn$10 million (US$6.4 million) under a line of credit. This line of credit
bears interest at prime rate.
INVESTING ACTIVITIES
Cash flows provided by investing activities were $10.5 million and $8.4 million
in fiscal 2002 and 2001, respectively, compared to cash flows used of $169.0
million in 2000.
In fiscal 2002, we disposed of $25.5 million in short-term investments to
finance our operating activities of $8.7 million as well as the respective cash
payments of $9.8 million and $5.2 million for the acquisition of EXFO Protocol
and the purchases of property, plant and equipment.
In fiscal 2001, we disposed of $92.6 million in short-term investments to
finance the cash payments of $68.3 million and $15.9 million for the
acquisitions of EXFO Burleigh and EXFO Photonic Solutions and the purchases of
property, plant and equipment, respectively. Despite these investments and
purchases, the disposal of short-term investments generated net cash flows of
$8.4 million in fiscal 2001.
OUTLOOK
As described above, we incurred an operating loss of $74.8 million in fiscal
2002 and operating activities used $8.7 million in cash flows. There can be no
assurance as to whether and when we will return to profitability or that our
sales will return to prior levels. However, we believe that our cash balances
and short-term investments, combined with available credit facilities, will be
sufficient to meet our expected liquidity and capital requirements for at least
the next 12 months. On the other hand, possible additional operating losses
and/or possible investments in or acquisitions of complementary businesses,
products or technologies may require additional financing prior to such time.
There can be no assurance that additional debt or equity financing will be
available when required or, if available, it can be secured on satisfactory
terms.
EXFO o 2002 Annual Report o 21
STOCK OPTION PLAN
The aggregate number of subordinate voting shares covered by options granted
under the stock option plan was 2,597,574 as at August 31, 2002. The weighted
average exercise price of those stock options was $22 compared to the market
price of $2.13 per share as at August 31, 2002. The maximum number of
subordinate voting shares issuable under the plan cannot exceed 4,470,961
shares. The following table summarizes information about stock options granted
to the members of the Board of Directors and to Management and Corporate
Officers of the company and its subsidiaries as at August 31, 2002:
% OF WEIGHTED
ISSUED AND AVERAGE
NUMBER OUTSTANDING EXERCISE PRICE
-----------------------------------------------------------------------------------------------------------------------
Chairman of the Board, President and CEO (one individual) 100,482 3.87% $ 14.06
Board of Directors (four individuals) 80,838 3.11% $ 10.95
Management and Corporate Officers (ten individuals) 429,155 16.52% $ 21.82
-----------------------------------------------------------------------------------------------------------------------
610,475 23.50% $ 19.10
-----------------------------------------------------------------------------------------------------------------------
In November 2001, the CICA issued section 3870, "Stock-Based Compensation and
Other Stock-Based Payments", which is effective for fiscal years beginning on or
after January 1, 2002. As described in the "New Accounting Standards" section
below, we will adopt this new standard prospectively on September 1, 2002, and
as permitted by the CICA, we will not account for the stock-based compensation
costs arising from awards to employees, but we will comply with the required pro
forma disclosures with respect to net earnings and net earnings per share.
Like many other companies, we do not believe that the use of the Black-Scholes
option valuation model provides a reliable single measure of the fair value of
our employees' stock options and stock awards. For example, using of the
Black-Scholes model as required under U.S. GAAP, our 2,597,574 outstanding
options with an average exercise price of $22 would have generated aggregate
stock-based compensation costs of $26,589,000. None of the options issued by
EXFO have been exercised because the market price of the company's common shares
as at August 31, 2002, is well below the exercise price.
Please refer to note 19 to our consolidated financial statements for further
explanation of stock-based compensation costs.
NEW ACCOUNTING STANDARDS
In November 2001, the CICA revised section 1650, "Foreign Currency Translation",
which is effective for fiscal years beginning on or after January 1, 2002. The
revised standard, which we will adopt retroactively on September 1, 2002, no
longer permits the deferral and amortization of unrealized exchange gains and
losses that arise on the translation of long-term foreign currency denominated
monetary assets and liabilities. Under the new rules, such gains and losses must
be reported in earnings as they arise. Adopting this revised standard will not
have a significant impact on our financial statements since we currently have no
such long-term monetary items.
In November 2001, the CICA issued Accounting Guideline No. 13, "Hedging
Relationships", which shall be applied to hedging relationships in effect in
fiscal years beginning on or after July 1, 2003. This new accounting guideline,
which we will adopt prospectively on September 1, 2003, establishes basic
criteria that must be met before hedge accounting can be used. It also describes
the types of exposures that can be hedged and the types of instruments that
qualify as hedges, sets detailed designation and documentation requirements and
requires formal effectiveness testing. We have not yet assessed the impact of
the adoption of this new guideline.
In November 2001, the CICA issued section 3870, "Stock-Based Compensation and
Other Stock-Based Payments", which is effective for fiscal years beginning on or
after January 1, 2002. The new section applies to awards granted on or after the
date of adoption, and requires that stock-based payments to non-employees and
direct awards of stock to employees be accounted for using a fair value-based
method. The new section also encourages, but does not require, the use of a fair
value-based method to account for stock-based compensation costs arising from
awards to employees. The new section requires pro forma disclosures with respect
to net earnings and net earnings per share if a fair value-based method of
accounting is not adopted for awards granted to employees. We will adopt this
new standard prospectively on September 1, 2002. We will not account for the
stock-based compensation costs arising from awards to employees. However, we
will provide the required pro forma disclosures with respect to net earnings and
net earnings per share. Consequently, the adoption of this new standard will not
have a significant impact on our financial results.
In August 2001, the CICA issued section 1581 "Business Combinations" and section
3062 "Goodwill and Other Intangible Assets". Section 1581 requires business
combinations initiated after June 30, 2001, or business combinations accounted
for by the purchase method with a date of acquisition after June 30, 2001, to be
accounted for using the purchase method of accounting. This section also
broadens criteria for recording intangible assets separately from goodwill. Upon
the adoption of section 3062, recorded goodwill and intangible assets will be
evaluated against those
22 o 2002 Annual Report o EXFO
new criteria and may result in certain intangible assets being reclassified into
goodwill or, alternatively, amounts initially recorded as goodwill being
separately identified and recognized apart from goodwill as intangible assets.
Section 3062 requires the use of a non-amortization approach to account for
purchased goodwill and indefinite-lived intangibles.
Under transitional provisions of section 3062, we did not amortize the goodwill
resulting from the acquisition of EXFO Protocol, for which the acquisition date
was November 2, 2001.
We adopted section 3062 prospectively on September 1, 2002. Upon the adoption of
this new section, goodwill recorded prior to July 1, 2001, is no longer subject
to amortization. Also, under the transitional provisions of the section, we
performed an initial impairment test to identify goodwill impairment using a
fair value-based method. Under the new section, a goodwill impairment exists
when the carrying value of a reporting unit exceeds its fair value. For the
purposes of the impairment test, we allocated our existing goodwill to our
reporting units and completed an evaluation of the fair value of such reporting
units. Based on the comparison of the fair value of the reporting units to their
carrying value, goodwill of the reporting units was not considered impaired.
Goodwill will also be tested for impairment on an annual basis or more
frequently if events or circumstances occur that more likely than not reduce the
fair value of a reporting unit below its carrying value. Any impairment loss
arising from this test will be charged to earnings in the period in which it is
incurred.
For details on new U.S. accounting standards, please refer to note 19 to our
consolidated financial statements.
RISKS AND UNCERTAINTIES
Over the past few years, we have been able to manage our activities, focus on
research and development of new and innovative products, penetrate international
markets and close important strategic acquisitions. However, we operate in a
highly competitive field that is in constant evolution and, as a result, we
encounter various risks and uncertainties that must be given appropriate
consideration in our strategic management policies.
The main risks and uncertainties related to the fiber-optic test, measurement,
monitoring and automation industry involve the rapid development of new products
that have short life cycles and require extensive research and development; the
difficulty of retaining highly skilled employees as well as offering them
effective training programs; and the ability to quickly adapt our cost structure
to changing market conditions in order to achieve profitability.
In addition, given our strategic goals for growth and competitive positioning in
our industry, we are expanding into international markets. This exposes us to
certain risks and uncertainties related to changes in local laws and
regulations, multiple technological standards, protective legislation and
pricing pressure.
Furthermore, while the important strategic acquisitions we have made are
essential to our long-term growth, they also expose us to certain risks and
uncertainties related to the rapid and effective integration of these companies
as well as their products, technologies and personnel.
We are also exposed to currency risks as a result of the export of our products
manufactured in Canada, substantially all of which are denominated in US
dollars. These risks are partially hedged by the operating expenses of certain
international subsidiaries, the purchase of raw materials in US dollars and
forward exchange contracts.
The economic slowdown in our industry could also result in some of our customers
experiencing difficulties and, consequently, this could have a negative effect
on our results especially in terms of future sales and recoverability of
accounts receivable. However, the sectorial and geographic diversity of our
customer base provides us with a reasonable level of protection in this area.
Finally, other financial instruments, which potentially subject us to credit
risks, consist mainly of cash and cash equivalents, short-term investments and
forward exchange contracts. Our short-term investments consist of debt
instruments issued by high-credit quality corporations. Our cash and cash
equivalents and forward exchange contracts are held with or issued by
high-credit quality financial institutions; therefore, we consider the risk of
non-performance on these instruments to be remote.
For a more complete understanding of risk factors that may affect us, please
refer to the risk factors set forth in our disclosure documents published with
securities commissions.
EXFO o 2002 Annual Report o 23
QUARTERLY SUMMARY FINANCIAL INFORMATION (UNAUDITED)
(in thousands of US dollars, except per share data)
YEARS ENDED
1ST QUARTER 2ND QUARTER 3RD QUARTER 4TH QUARTER AUGUST 31,
----------------------------------------------------------------------------------------------------------
2002
Sales $ 20,138 $ 14,601 $ 16,348 $ 17,243 $ 68,330
Cost of sales $ 12,532 $ 12,885 $ 17,080 $ 8,304 $ 50,801
Gross margin (loss) $ 7,606 $ 1,716 $ (732) $ 8,939 $ 17,529
Loss from operations $ (10,893) $ (16,612) $ (43,396) $ (3,882) $ (74,783)
Net loss $ (19,055) $ (22,675) $(263,826) $ (2,968) $(308,524)
Pro forma net loss* $ (1,937) $ (4,099) $ (3,930) $ (1,183) $ (11,248)
Basic and diluted net loss per share* $ (0.33) $ (0.37) $ (4.29) $ (0.05) $ (5.09)
Basic and diluted pro forma net
loss per share* $ (0.03) $ (0.07) $ (0.06) $ (0.02) $ (0.19)
2001
Sales $ 28,519 $ 36,293 $ 45,781 $ 35,420 146,013
Cost of sales $ 10,308 $ 12,787 $ 17,418 $ 14,433 54,946
Gross margin $ 18,211 $ 23,506 $ 28,363 $ 20,987 91,067
Earnings (loss) from operations $ 6,791 $ 6,912 $ 4,335 $ (3,531) 14,507
Net earnings (loss) $ 7,505 $ 24 $ (8,630) $ (14,193) (15,294)
Pro forma net earnings* $ 7,638 $ 7,511 $ 6,204 $ 3,219 24,500
Basic and diluted net earnings
(loss) per share* $ 0.16 $ -- $ (0.15) $ (0.25) $ (0.29)
Basic and diluted pro forma net
earnings per share* $ 0.16 $ 0.14 $ 0.11 $ 0.06 $ 0.46
2000
Sales $ 11,688 $ 17,423 $ 19,411 $ 23,117 $ 71,639
Cost of sales $ 3,733 $ 5,876 $ 7,347 $ 7,756 $ 24,712
Gross margin $ 7,955 $ 11,547 $ 12,064 $ 15,361 $ 46,927
Earnings from operations $ 2,092 $ 3,640 $ 3,847 $ 5,144 $ 14,723
Net earnings $ 1,300 $ 2,412 $ 2,748 $ 3,464 $ 9,924
Pro forma net earnings* $ 1,306 $ 2,461 $ 2,885 $ 3,599 $ 10,252
Basic and diluted net earnings per share* $ 0.03 $ 0.06 $ 0.07 $ 0.08 $ 0.25
Basic and diluted pro forma net
earnings per share* $ 0.03 $ 0.06 $ 0.07 $ 0.08 $ 0.26
* Pro forma net earnings (loss) and per share data are calculated
independently for each of the quarters presented. Therefore, the sum of
this quarterly information may not equal the corresponding annual
information. Pro forma net earnings (loss) represent net earnings (loss)
excluding amortization and write-down of goodwill and the after-tax effect
of amortization and write-down of intangible assets, restructuring and
other charges as well as inventory write-offs. This information may not be
comparable to similarly titled measures reported by other companies because
it is non-GAAP information.
24 o 2002 Annual Report o EXFO
MANAGEMENT'S REPORT
EXFO's management is responsible for the preparation, integrity and objectivity
of the consolidated financial statements and other financial information
presented in this Annual Report. These consolidated financial statements have
been prepared in accordance with generally accepted accounting principles in
Canada and include some amounts that are based on estimates and judgments.
Management has determined such amounts on a reasonable basis in order to ensure
that the financial statements are presented fairly in all material respects.
EXFO's policy is to maintain a system of internal accounting and administrative
controls designed to provide reasonable assurance that the financial information
is relevant, accurate and reliable, and that assets are appropriately accounted
for and adequately safeguarded.
The Board of Directors is responsible for ensuring that management fulfills its
responsibilities for financial reporting and is ultimately responsible for
reviewing and approving the financial statements. The Board carries out this
responsibility principally through its Audit Committee. The Audit Committee is
appointed by the Board and is composed of outside directors. The Committee meets
periodically with management and external auditors to review accounting,
auditing and internal control matters. These consolidated financial statements
have been reviewed and approved by the Board of Directors on the recommendation
of the Audit Committee.
The consolidated financial statements have been audited by
PricewaterhouseCoopers LLP, the external auditors, in accordance with generally
accepted auditing standards on behalf of the shareholders. The external auditors
have full and free access to the Audit Committee.
/s/ Germain Lamonde /s/ Pierre Plamandon
---------------------------- ----------------------------
GERMAIN LAMONDE PIERRE PLAMANDON, CA
Chairman, President and CEO Vice-President, Finance and Chief
Financial Officer
AUDITORS' REPORT
TO THE SHAREHOLDERS OF EXFO ELECTRO-OPTICAL ENGINEERING INC.
We have audited the consolidated balance sheets of EXFO Electro-Optical
Engineering Inc. as at August 31, 2001 and 2002 and the consolidated statements
of earnings, retained earnings (deficit) and contributed surplus and cash flows
for each of the years in the three-year period ended August 31, 2002. These
financial statements are the responsibility of the company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with Canadian and United States generally
accepted auditing standards. Those standards require that we plan and perform an
audit to obtain reasonable assurance whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation.
In our opinion, these consolidated financial statements present fairly, in all
material respects, the financial position of the company as at August 31, 2001
and 2002 and the results of its operations and its cash flows for each of the
years in the three-year period ended August 31, 2002, in accordance with
Canadian generally accepted accounting principles.
/s/ PriceWaterhouseCoopers LLP
----------------------------------
Chartered Accountants
Quebec, Quebec, Canada
September 23, 2002
EXFO o 2002 Annual Report o 25
CONSOLIDATED BALANCE SHEETS
(in thousands of US dollars)
The accompanying notes are an integral part of these consolidated financial
statements.
AS AT AUGUST 31, 2001 2002
--------------------------------------------------------------------------------
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 7,729 $ 9,128
Short-term investments (notes 8 and 18) 66,861 40,553
Accounts receivable (notes 8 and 18)
Trade 24,531 9,881
Other 3,660 3,267
Income taxes receivable (note 8) -- 13,473
Inventories (notes 4, 5 and 8) 44,345 23,822
Prepaid expenses 1,265 1,280
Future income taxes (note 15) 1,423 1,272
--------------------------------------------------------------------------------
149,814 102,676
INCOME TAXES RECEIVABLE (note 8) -- 6,234
PROPERTY, PLANT AND EQUIPMENT (notes 6 and 8) 27,140 26,246
INTANGIBLE ASSETS AND GOODWILL (notes 4, 7 and 8) 264,242 34,040
FUTURE INCOME TAXES (note 15) 1,381 8,730
--------------------------------------------------------------------------------
$ 442,577 $ 177,926
--------------------------------------------------------------------------------
LIABILITIES
CURRENT LIABILITIES
Accounts payable and accrued liabilities (note 9) $ 16,180 $ 10,699
Income taxes payable 2,623 --
Deferred revenue 616 503
Current portion of long-term debt 106 100
--------------------------------------------------------------------------------
19,525 11,302
DEFERRED GRANTS (note 14) 1,002 654
LONG-TERM DEBT (note 10) 664 564
FUTURE INCOME TAXES (note 15) 6,581 --
--------------------------------------------------------------------------------
27,772 12,520
--------------------------------------------------------------------------------
COMMITMENTS (note 11)
CONTINGENCIES (note 12)
SHAREHOLDERS' EQUITY
SHARE CAPITAL (note 13) 429,995 489,611
CONTRIBUTED SURPLUS 1,457 1,487
CUMULATIVE TRANSLATION ADJUSTMENT (8,333) (8,854)
DEFICIT (8,314) (316,838)
--------------------------------------------------------------------------------
414,805 165,406
--------------------------------------------------------------------------------
$ 442,577 $ 177,926
--------------------------------------------------------------------------------
/s/ Germain Lamonde /s/ Andre Tremblay
----------------------- ------------------------
On behalf of the Board: GERMAIN LAMONDE ANDRE TREMBLAY
Chairman, President Chairman, Audit Committee
and CEO
26 o 2002 Annual Report o EXFO
CONSOLIDATED STATEMENTS OF EARNINGS
(in thousands of US dollars, except share and per share data)
The accompanying notes are an integral part of these consolidated financial
statements.
YEARS ENDED AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------------------
SALES (note 16) $ 71,639 $ 146,013 $ 68,330
COST OF SALES* 24,712 54,946 50,801
--------------------------------------------------------------------------------------------
GROSS MARGIN 46,927 91,067 17,529
--------------------------------------------------------------------------------------------
OPERATING EXPENSES
Selling and administrative 24,304 46,236 35,446
Net research and development (note 14) 6,402 13,601 12,782
Amortization of property, plant and equipment 1,451 3,559 5,932
Amortization of intangible assets 47 9,876 11,615
Write-down of intangible assets (note 4) -- -- 23,657
Restructuring and other charges (note 4) -- 3,288 2,880
--------------------------------------------------------------------------------------------
TOTAL OPERATING EXPENSES 32,204 76,560 92,312
--------------------------------------------------------------------------------------------
EARNINGS (LOSS) FROM OPERATIONS 14,723 14,507 (74,783)
Interest income, net 1,480 6,098 1,456
Foreign exchange gain (loss) (684) 3,327 (458)
--------------------------------------------------------------------------------------------
EARNINGS (LOSS) BEFORE INCOME TAXES AND AMORTIZATION
AND WRITE-DOWN OF GOODWILL (note 15) 15,519 23,932 (73,785)
INCOME TAXES (note 15) 5,298 8,150 (25,451)
--------------------------------------------------------------------------------------------
EARNINGS (LOSS) BEFORE AMORTIZATION
AND WRITE-DOWN OF GOODWILL 10,221 15,782 (48,334)
AMORTIZATION OF GOODWILL 297 31,076 38,021
WRITE-DOWN OF GOODWILL (note 4) -- -- 222,169
--------------------------------------------------------------------------------------------
NET EARNINGS (LOSS) FOR THE YEAR $ 9,924 $ (15,294) $(308,524)
--------------------------------------------------------------------------------------------
BASIC AND DILUTED EARNINGS (LOSS) PER SHARE
Earnings (loss) before amortization
and write-down of goodwill $ 0.26 $ 0.30 $ (0.80)
Net earnings (loss) $ 0.25 $ (0.29) $ (5.09)
BASIC WEIGHTED AVERAGE NUMBER
OF SHARES OUTSTANDING (000'S) 39,951 53,014 60,666
DILUTED WEIGHTED AVERAGE NUMBER
OF SHARES OUTSTANDING (000'S) (note 17) 40,086 53,495 60,966
* Including inventory write-offs of nil, nil and $18,463 for the years ended
August 31, 2000, 2001 and 2002, respectively (see note 4).
EXFO o 2002 Annual Report o 27
CONSOLIDATED STATEMENTS OF RETAINED EARNINGS
(DEFICIT) AND CONTRIBUTED SURPLUS
(in thousands of US dollars, except per share data)
The accompanying notes are an integral part of these consolidated financial
statements.
RETAINED EARNINGS (DEFICIT)
YEARS ENDED AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------
BALANCE - BEGINNING OF YEAR $ 14,592 $ 6,980 $ (8,314)
ADD
Net earnings (loss) for the year 9,924 (15,294) (308,524)
--------------------------------------------------------------------------------
24,516 (8,314) (316,838)
--------------------------------------------------------------------------------
DEDUCT
Dividends
Class A shares 17,216 -- --
Class F shares 320 -- --
--------------------------------------------------------------------------------
17,536 -- --
--------------------------------------------------------------------------------
BALANCE - END OF YEAR $ 6,980 $ (8,314) $(316,838)
--------------------------------------------------------------------------------
DIVIDENDS PER SHARE
Class A shares $ 0.45 $ -- $ --
Class F shares $ 0.45 $ -- $ --
Contributed Surplus
Years Ended August 31, 2000 2001 2002
--------------------------------------------------------------------------------
BALANCE - BEGINNING OF YEAR $ -- $ -- $ 1457
ADD
Premium on resale of share capital -- 1,457 30
--------------------------------------------------------------------------------
BALANCE - END OF YEAR $ -- $ 1,457 $ 1,487
--------------------------------------------------------------------------------
28 o 2002 Annual Report o EXFO
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands of US dollars)
The accompanying notes are an integral part of these consolidated financial
statements.
YEARS ENDED AUGUST 31, 2000 2001 2002
---------------------------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net earnings (loss) for the year $ 9,924 $ (15,294) $(308,524)
Add (deduct) items not affecting cash and
cash equivalents
Discount on short-term investments (807) 191 271
Inventory write-offs -- -- 18,463
Amortization 1,795 44,511 55,568
Write-down of goodwill and intangible assets -- -- 245,826
Foreign exchange gains on disposal of
short-term investments -- (3,437) (74)
Restructuring and other charges -- 1,083 741
Future income taxes (33) (1,779) (13,397)
Change in non-cash operating working capital items
Accounts receivable (10,476) 447 15,406
Income taxes 2,149 2,237 (19,736)
Inventories (10,732) (20,308) 4,332
Prepaid expenses (519) (67) 356
Accounts payable and accrued liabilities 3,917 (3,736) (7,470)
Deferred revenue 215 100 (106)
Deferred grants 567 (57) (335)
---------------------------------------------------------------------------------------------
(4,000) 3,891 (8,679)
---------------------------------------------------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES
Bank advances (357) (2,046) --
Repayment of mandatorily redeemable preferred shares -- (354) --
Repayment of loan from a company under common control (1,349) -- --
Repayment of long-term debt (812) (3,355) (106)
Issuance of share capital 209,690 -- --
Redemption of share capital -- (33) (6)
Resale of share capital -- 1,490 36
Share issue expenses (16,743) (331) (14)
Dividends paid (17,587) -- --
---------------------------------------------------------------------------------------------
172,842 (4,629) (90)
---------------------------------------------------------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES
Additions to short-term investments (519,645) (772,808) (506,228)
Proceeds from disposal of short-term investments 359,886 865,373 531,733
Additions to property, plant and equipment and
intangible assets (7,180) (15,911) (5,245)
Business combinations (note 3) (2,108) (68,255) (9,756)
---------------------------------------------------------------------------------------------
(169,047) 8,399 10,504
---------------------------------------------------------------------------------------------
CHANGE IN CASH AND CASH EQUIVALENTS (205) 7,661 1,735
EFFECT OF FOREIGN EXCHANGE RATE CHANGES
ON CASH AND CASH EQUIVALENTS 511 (661) (336)
CASH AND CASH EQUIVALENTS - BEGINNING OF YEAR 423 729 7,729
---------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS - END OF YEAR $ 729 $ 7,729 $ 9,128
---------------------------------------------------------------------------------------------
SUPPLEMENTARY INFORMATION
Interest paid $ 480 $ 377 $ 269
Income taxes paid $ 3,761 $ 8,171 $ 4,172
EXFO o 2002 Annual Report o 29
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars, except share and per share data and
as otherwise noted)
1 o INCORPORATION AND NATURE OF ACTIVITIES
The company, incorporated in 1985 under the Canada Business Corporations Act,
designs, manufactures and markets a full line of fiber-optic test, measurement,
monitoring and automation solutions for the global telecommunications industry.
These solutions measure the physical-, optical- and protocol-layers of optical
fiber and related hardware and help automate manufacturing processes. The
company derives substantially all of its revenue from customers located in the
United States, Canada, Europe and Asia. The company's customers consist
primarily of telecommunications carriers, network service providers, optical
component and system manufacturers, as well as research and development
laboratories.
2 o SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
These consolidated financial statements have been prepared in accordance with
generally accepted accounting principles in Canada. These principles conform, in
all material respects, with accounting principles generally accepted in the
United States, except for the differences and additional disclosures provided in
note 19. The principal accounting policies of the company, which have been
consistently applied, are summarized as follows:
ACCOUNTING ESTIMATES
The preparation of financial statements in accordance with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosures of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting years. Actual
results could differ from those estimates.
CONSOLIDATION
These consolidated financial statements include the accounts of the company and
its domestic and international subsidiaries. Intercompany accounts and
transactions have been eliminated.
REPORTING CURRENCY
The functional currency of the company is the Canadian dollar. However, the
company has adopted the US dollar as its reporting currency. The financial
statements are translated into the reporting currency using the current rate
method. Under this method, the financial statements are translated into the
reporting currency as follows: assets and liabilities are translated at the
exchange rate in effect at the date of the balance sheet and revenues and
expenses are translated at the monthly average exchange rates. All gains and
losses resulting from the translation of the financial statements into the
reporting currency are included in the cumulative translation adjustment in
shareholders' equity.
In the event that management decides to declare dividends, such dividends would
be declared in Canadian dollars.
FOREIGN CURRENCY TRANSLATION
FOREIGN CURRENCY TRANSACTIONS
Transactions denominated in currencies other than the functional currency are
translated into the functional currency as follows: monetary assets and
liabilities are translated at the exchange rate in effect at the balance sheet
date and revenues and expenses are translated at the exchange rate in effect on
the date of the transaction. Non-monetary assets and liabilities are translated
at historical rates. Gains and losses arising from such translation are
reflected in the statements of earnings.
FOREIGN SUBSIDIARIES
The financial statements of integrated foreign operations are remeasured into
the functional currency using the temporal method. Under this method, monetary
assets and liabilities are remeasured at the exchange rate in effect at the
balance sheet date. Non-monetary assets and liabilities are remeasured at
historical rates. Revenues and expenses are remeasured at the monthly average
exchange rates. Gains and losses resulting from remeasurement are reflected in
the statements of earnings.
FORWARD EXCHANGE CONTRACTS
The company enters into forward exchange contracts in order to hedge against
potential exchange rate fluctuations on cash flows related to anticipated future
revenue streams denominated in foreign currencies. Unrealized gains and losses
on these forward exchange contracts are deferred and recognized upon settlement
of the related transactions. Accordingly, cash flows resulting from forward
exchange contract settlements are classified as cash flows from operating
activities along with the corresponding cash flows being hedged.
30 o 2002 Annual Report o EXFO
CASH AND CASH EQUIVALENTS
Cash and cash equivalents consist of cash on hand and balances with banks and
highly liquid short-term investments with original maturities of three months or
less.
SHORT-TERM INVESTMENTS
Short-term investments are valued at the lower of cost and market value. Cost is
composed of acquisition cost plus amortization of discount or less amortization
of premium.
INVENTORIES
Inventories are valued at the lower of cost and net realizable value. The cost
of raw materials and work in progress is determined using the first-in,
first-out method. The cost of finished goods is determined using the average
cost method.
PROPERTY, PLANT AND EQUIPMENT AND AMORTIZATION
Property, plant and equipment are recorded at cost less related government
grants and research and development tax credits. Amortization is provided on a
straight-line basis over their estimated useful lives as follows:
TERM
Buildings 15 and 25 years
Equipment 2 to 10 years
Leasehold improvements Remaining lease term
The carrying value of property, plant and equipment is evaluated for impairment
whenever significant events or circumstances occur which may indicate an
impairment in value, based upon a comparison of the carrying value to the net
recoverable amount.
INTANGIBLE ASSETS, GOODWILL AND AMORTIZATION
Intangible assets include the cost of acquired in-process research and
development, core technology, workforce and trademark, net of accumulated
amortization. Core technology represents the existing technology acquired in
business combinations that has reached technological feasibility while acquired
in-process research and development represents the existing technology that has
not reached technological feasibility and has no future alternative use.
Intangible assets are amortized on a straight-line basis over their estimated
useful lives ranging from five to ten months for in-process research and
development, five years for core technology, one year for workforce and two
years for trademark.
Goodwill represents the excess of the purchase price of acquired businesses over
the estimated fair value of net identifiable assets acquired. Goodwill related
to business combinations with a date of acquisition prior to July 1, 2001, is
amortized on a straight-line basis over the estimated useful life of five years
until August 31, 2002. Goodwill related to business combinations with a date of
acquisition after June 30, 2001, is not amortized but is reviewed for
impairment.
Intangible assets and goodwill are reviewed for impairment when events or
circumstances indicate that costs may not be recoverable. Impairment exists when
the carrying value of the asset is greater than the pre-tax undiscounted future
cash flows expected to be provided by the asset. The amount of impairment loss,
if any, is the excess of the carrying value over the estimated pre-tax
undiscounted future cash flows. Intangible assets and goodwill are written down
for any permanent impairment in value of the unamortized portion.
REVENUE RECOGNITION
For products in which software is incidental, the company recognizes revenue
when persuasive evidence of an arrangement exists, the product has been
delivered, the price is fixed and determinable and collection of the resulting
receivable is reasonably assured. In addition, provisions are made for estimated
returns, warranties and support obligations.
For products in which software is not incidental, revenues are separated into
two categories: product and customer support revenues, based upon
vendor-specific objective evidence of fair value. Product revenues for these
sales are recognized as described above. Customer support revenues are deferred
and recognized ratably over the years of the support arrangement. Except when
provided within one year of delivery, costs of providing this support are
insignificant and accrued at the time of delivery and no software upgrades are
provided.
For all sales, the company uses a binding purchase order as evidence that a
sales arrangement exists.
Delivery generally occurs when the product is shipped to a common carrier.
At the time of the transaction, the company assesses whether the price
associated with its revenue transactions is fixed and determinable and whether
or not collection is reasonably assured. The company assesses whether the price
is fixed and determinable based on the payment terms associated with the
transaction. The company assesses collection based on a number of factors,
including past transaction history with the customer and the creditworthiness of
the customer. Generally, collateral or other security is not requested from
customers.
Most sales arrangements do not generally include acceptance clauses. However, if
a sales arrangement includes an acceptance provision, acceptance occurs upon the
earliest of receipt of a written customer acceptance or expiration of the
acceptance period. For these sales arrangements, the sale is recognized when
acceptance occurs.
EXFO o 2002 Annual Report o 31
ADVERTISING COSTS
Advertising costs are expensed as incurred.
GOVERNMENT GRANTS
Government grants are accrued as a receivable when there is reasonable assurance
that the company has complied and will continue to comply with all the
conditions related to the grant. Grants related to operating expenses are
included in earnings when the related expenses are incurred. Grants related to
capital expenditures are deducted from the related assets. Grants related to job
creation and training programs for extended periods are deferred and amortized
on a straight-line basis over the minimum period for which the created job must
be maintained or training provided.
RESEARCH AND DEVELOPMENT EXPENSES
All expenses related to development activities, which do not meet generally
accepted criteria for deferral, and research, are expensed as incurred, net of
related tax credits and government grants. Development expenses which meet
generally accepted criteria for deferral are capitalized, net of related tax
credits and government grants, and amortized against earnings over the estimated
period of benefit.
As at August 31, 2002, the company had not deferred any development costs.
INCOME TAXES
The company provides for income taxes using the liability method of tax
allocation. Under this method, future income tax assets and liabilities are
determined based on deductible or taxable temporary differences between
financial statement values and tax values of assets and liabilities using
enacted income tax rates for the years in which the differences are expected to
reverse.
The company establishes a valuation allowance against future income tax assets
if, based on available information, it is more likely than not that some or all
of the future income tax assets will not be realized.
EARNINGS (LOSS) PER SHARE
Basic earnings (loss) and dividends per share are determined using the weighted
average number of common shares outstanding during the year.
Diluted earnings per share are determined using the weighted average number of
common shares outstanding during the year, plus the effects of dilutive
potential common shares outstanding during the year. This method requires that
diluted earnings per share be calculated, using the treasury stock method, as if
all dilutive potential common shares had been exercised at the later of the
beginning of the year or the date of issuance, as the case may be, and that the
funds obtained thereby be used to purchase common shares of the company at the
average fair value of the common shares during the year.
STOCK-BASED COMPENSATION PLANS
The company maintains stock-based compensation plans, which are described in
note 13. Under accounting principles generally accepted in Canada, no
compensation cost is recognized when stock, stock options or stock awards are
issued to plan participants. Any consideration received from plan participants
upon the purchase of stock or the exercise of stock options or stock awards is
credited to share capital. The costs related to the stock appreciation rights
are accrued and charged to earnings.
NEW ACCOUNTING STANDARDS
In November 2001, The Canadian Institute of Chartered Accountants (CICA) revised
section 1650, "Foreign Currency Translation", which is effective for fiscal
years beginning on or after January 1, 2002. The revised standard, which the
company will adopt retroactively on September 1, 2002, no longer permits the
deferral and amortization of unrealized exchange gains and losses that arise on
the translation of long-term foreign currency denominated monetary assets and
liabilities. Under the new rules, such gains and losses must be reported in
earnings as they arise. Adopting this revised standard will not have a
significant impact on the company's financial statements since the company
currently has no such long-term monetary items.
In November 2001, the CICA issued Accounting Guideline No. 13, "Hedging
Relationships", which shall be applied to hedging relationships in effect in
fiscal years beginning on or after July 1, 2003. This new accounting guideline,
which the company will adopt prospectively on September 1, 2003, establishes
basic criteria that must be met before hedge accounting can be used. It also
describes the types of exposures that can be hedged and the types of instruments
that qualify as hedges, sets detailed designation and documentation requirements
and requires formal effectiveness testing. The company has not yet assessed the
impact of the adoption of this new guideline.
In November 2001, the CICA issued section 3870, "Stock-Based Compensation and
Other Stock-Based Payments", which is effective for fiscal years beginning on or
after January 1, 2002. The new section applies to awards granted on or after the
date of adoption, and requires that stock-based payments to non-employees and
direct awards of stock to employees be accounted for using a fair value-based
method. The new section also encourages, but does not require, the use of a fair
value-based method to account for stock-based compensation costs arising from
awards to employees. The new section requires pro forma disclosures with respect
to net earnings and net earnings per share if a fair value-based method of
accounting is not adopted for awards granted to employees. The company will
adopt this new standard prospectively on September 1, 2002. The company will not
account for the stock-based compensation costs arising from awards to employees.
However, it will provide the required pro forma disclosures with respect to net
earnings and net earnings per share. Consequently, the adoption of this new
standard will not have a significant impact on the company's financial results.
32 o 2002 Annual Report o EXFO
In August 2001, the CICA issued section 1581 "Business Combinations" and section
3062 "Goodwill and Other Intangible Assets". Section 1581 requires business
combinations initiated after June 30, 2001 or business combinations accounted
for by the purchase method with a date of acquisition after June 30, 2001, to be
accounted for using the purchase method of accounting. This section also
broadens criteria for recording intangible assets separately from goodwill. Upon
the adoption of section 3062, recorded goodwill and intangible assets will be
evaluated against those new criteria and may result in certain intangible assets
being reclassified into goodwill or, alternatively, amounts initially recorded
as goodwill being separately identified and recognized apart from goodwill as
intangible assets. Section 3062 requires the use of a non-amortization approach
to account for purchased goodwill and indefinite-lived intangibles.
Under the transitional provisions of section 3062, the company did not amortize
the goodwill resulting from the acquisition of EXFO Protocol Inc., for which the
acquisition date was November 2, 2001.
The company adopted section 3062 prospectively from September 1, 2002. Upon the
adoption of this new section, goodwill recorded prior to July 1, 2001, is no
longer subject to amortization. Also, under the transitional provisions of the
section, the company performed an initial impairment test to identify goodwill
impairment using a fair value-based method. Under the new section, a goodwill
impairment exists when the carrying value of a reporting unit exceeds its fair
value. For the purposes of the impairment test, the company allocated its
existing goodwill to its reporting units and completed an evaluation of the fair
value of such reporting units. Based on the comparison of the fair value of the
reporting units to their carrying value, goodwill of the reporting units was not
considered impaired.
Goodwill will also be tested for impairment on an annual basis or more
frequently if events or circumstances occur that more likely than not reduce the
fair value of a reporting unit below its carrying value. Any impairment loss
arising from this test will be charged to earnings in the period in which it is
incurred.
3 o BUSINESS COMBINATIONS
The company made a number of business combinations in 2000, 2001 and 2002. The
fair value allocated to intangible assets acquired was based upon independent
valuations performed in conjunction with the business combinations. Also,
acquired goodwill is not deductible for income tax purposes.
BUSINESS COMBINATION DURING 2002
AVANTAS NETWORKS CORPORATION (RENAMED EXFO PROTOCOL INC.)
On November 2, 2001, the company acquired a 100% interest in EXFO Protocol Inc.
("EXFO Protocol"), a Canadian company specializing in fiber-optic protocol
testing, in exchange for a total consideration valued at $94,952,000 or
$69,381,000 net of $25,571,000 of cash and cash equivalents acquired. The total
consideration includes acquisition-related costs of $1,272,000.
The consideration paid consisted of $9,756,000 in cash, net of cash and cash
equivalents acquired of $25,571,000 and the issuance of 4,374,573 subordinate
voting shares valued at $59,625,000. The fair value of the subordinate voting
shares issued was determined based on the market price of the shares beginning
three days before and ending three days after the terms of the acquisition were
agreed upon and announced, being August 20, 2001.
This acquisition has been accounted for using the purchase method and,
consequently, the results of operations of EXFO Protocol have been included in
the consolidated statement of earnings of the company since November 2, 2001,
being the date of acquisition.
The purchase price, including acquisition-related costs, has been allocated
based on the estimated fair value of net assets at the date of acquisition as
follows:
Assets acquired
Current assets $ 6,040
Property, plant and equipment 2,003
In-process research and development 1,400
Core technology 5,050
Future income tax assets 476
Current liabilities assumed (3,575)
--------------------------------------------------------------------------------
Net identifiable assets acquired 11,394
Goodwill (note 4) 57,987
--------------------------------------------------------------------------------
Purchase price 69,381
Less: Subordinate voting shares issued 59,625
--------------------------------------------------------------------------------
Cash paid, net of cash and cash equivalents acquired $ 9,756
--------------------------------------------------------------------------------
EXFO o 2002 Annual Report o 33
BUSINESS COMBINATIONS DURING 2001
BURLEIGH INSTRUMENTS, INC. (RENAMED EXFO BURLEIGH PRODUCTS GROUP INC.)
On December 20, 2000, the company acquired a 100% interest in EXFO Burleigh
Products Group Inc. ("EXFO Burleigh"), a U.S. company which manufactures
precision scientific instruments used in basic and applied research, engineering
and production test applications in a variety of fields, in exchange for a total
consideration valued at $189,270,000, including acquisition-related costs of
$2,461,000.
The consideration paid consisted of $42,461,000 in cash and the issuance of
6,488,816 subordinate voting shares valued at $146,809,000.
Furthermore, as part of this acquisition, the company established a restricted
stock award plan for employees of EXFO Burleigh (note 13). This plan provides
that in the event of an employee's departure, shares to be issued to this
employee under the plan will be issued to EXFO Burleigh's former shareholders.
In such circumstances, this issuance of shares will be recorded as additional
goodwill.
EFOS INC. (RENAMED EXFO PHOTONIC SOLUTIONS INC.)
On March 15, 2001, the company acquired a 100% interest in EXFO Photonic
Solutions Inc. ("EXFO Photonic Solutions"), a Canadian company specializing in
precision light-based adhesive spot-curing technologies as well as curing
process control for the global optical component manufacturing market. This
acquisition was settled for a total consideration valued at $110,146,000,
including acquisition-related costs of $194,000. The consideration paid
consisted of $25,194,000 in cash and the issuance of 3,700,000 subordinate
voting shares valued at $84,952,000.
These two acquisitions have been accounted for using the purchase method and,
consequently, the net earnings of EXFO Burleigh and EXFO Photonic Solutions have
been included in the consolidated statement of earnings of the company from the
date of acquisition of these subsidiaries, being December 20, 2000, for EXFO
Burleigh and March 15, 2001, for EXFO Photonic Solutions.
The fair value of subordinate voting shares issued as part of these business
combinations was determined based on the market price of the shares beginning
three days before and ending three days after the dates of acquisition of the
subsidiaries.
The purchase price, including acquisition-related costs, has been allocated
based on the estimated fair value of net assets at the dates of acquisition as
follows:
EXFO
EXFO PHOTONIC
BURLEIGH SOLUTIONS
--------------------------------------------------------------------------------
Assets acquired
Current assets $ 7,092 $ 9,195
Property, plant and equipment 4,457 1,054
In-process research and development 1,800 972
Core technology (note 4) 24,000 25,324
Work force 1,250 907
Trademark -- 421
Liabilities assumed (9,068) (7,169)
Future income tax liabilities (8,342) (983)
--------------------------------------------------------------------------------
Net identifiable assets acquired 21,189 29,721
Goodwill (note 4) 168,081 80,425
--------------------------------------------------------------------------------
Purchase price 189,270 110,146
Less: Subordinate voting shares issued 146,809 84,952
--------------------------------------------------------------------------------
Cash paid, net of cash and cash equivalents acquired $ 42,461 $ 25,194
--------------------------------------------------------------------------------
VANGUARD TECHNICAL SOLUTIONS, INC.
On March 16, 2001, the company, through one of its subsidiaries, Burleigh
Automation Inc., acquired substantially all the assets of Vanguard Technical
Solutions, Inc., a U.S. company specializing in the design and manufacturing of
ultra-precision assembly equipment for sensitive process and critical assembly
challenges on the production floor. This acquisition, which was settled for a
total cash consideration of $600,000 allocated to property and equipment, has
been accounted for using the purchase method.
BUSINESS COMBINATIONS DURING 2000
NORTECH FIBRONIC INC.
On February 4, 2000, the company acquired a 100% interest in Nortech Fibronic
Inc. ("Nortech"), a Canadian company specializing in fiber-optic testing and
temperature sensing, in exchange for total consideration valued at $2,799,000.
The consideration paid consisted of $2,108,000 in cash, the issuance of 800,000
Class G shares, which were mandatorily redeemable, for cash or subordinate
voting shares at the option of the company, for an amount of $553,000, and a
non-interest-bearing debenture in the amount of $138,000, repaid in 2001.
This acquisition has been accounted for using the purchase method. The estimated
fair value of assets and liabilities acquired amounted to $2,488,000 and
$2,231,000, respectively, resulting in goodwill of $2,542,000 related to the
telecommunications core business.
34 o 2002 Annual Report o EXFO
The net earnings of Nortech have been included in the consolidated statement of
earnings of the company from the date of acquisition, being February 4, 2000.
The mandatorily redeemable preferred shares were settled in 2001 for $354,000,
resulting in a purchase price adjustment of $189,000, which has been applied
against goodwill.
GAP OPTIQUE S.A.
On June 1, 2000, the company acquired the 85% interest in GAP Optique S.A. held
by its parent company for a cash consideration of $16,000. The carrying value of
the net assets of GAP Optique S.A. was $19,000 as at December 31, 1999. Since
the exchange occurred between entities under common control, the exchange has
been accounted for in a manner similar to a pooling of interests. The assets,
liabilities and shareholders' equity of the company and GAP Optique S.A. have
been combined using their respective carrying amounts, and financial statements
of prior years have been restated as if the companies had always been combined.
4 o SPECIAL CHARGES
WRITE-DOWN OF GOODWILL AND INTANGIBLE ASSETS
In May 2002, as part of its review of financial results, the company performed
an assessment of the carrying value of goodwill and intangible assets recorded
in conjunction with the acquisitions of EXFO Burleigh, EXFO Photonic Solutions
and EXFO Protocol. The assessment was performed because of the severe and
continued downturn in the telecommunications industry, the persisting
unfavorable market conditions affecting the subsidiaries' industries and the
decline in technology valuations. The growth prospects for those subsidiaries
were significantly lower than previously expected and less than those of
historical periods and the decline in market conditions affecting the
subsidiaries is significant and other than temporary. As a result, the company
concluded that the carrying value of goodwill and certain acquired intangible
assets was impaired and it recorded a charge of $222,169,000 to write down a
significant portion of goodwill and a pre-tax charge of $23,657,000 to write
down a significant portion of acquired core technology. Of the total impairment
loss of $245,826,000, $125,017,000 relates to EXFO Burleigh, $71,508,000 relates
to EXFO Photonic Solutions and $49,301,000 relates to EXFO Protocol.
The impairment loss was calculated as the excess of the carrying value of the
assets over the pre-tax undiscounted future cash flows. The pre-tax undiscounted
future cash flows were estimated at the subsidiaries' level since the company
had distinct cash flows for each of them and because they are not fully
integrated into the company's activities. The cash flow periods used ranged from
three to five years, using annual growth rates between 15% and 30%.
The assumptions supporting the estimated undiscounted future cash flows,
including the annual growth rates, reflect management's best estimates.
RESTRUCTURING AND OTHER CHARGES AND INVENTORY WRITE-OFFS
During 2001, the company implemented a structured plan to reduce costs and
increase efficiency. Under that plan, the company recorded charges of
$3,288,000, including $844,000 in severance expenses for the 245 employees who
were terminated, $1,476,000 for unused assets and $968,000 for future payments
on exited leased facilities. These charges have been included in the
restructuring and other charges in the statement of earnings for the year ended
August 31, 2001. As at August 31, 2002, the accrued liabilities related to this
restructuring plan amounted to $483,000 and consisted of future payments on
exited leased facilities.
During 2002, the company incurred additional charges of $21,343,000 to further
reduce its costs. Under additional structured plans, the company recorded
$2,012,000 in severance expenses for the additional 350 employees who were
terminated and $868,000 for the write-off of property, plant and equipment.
These charges are included in the restructuring and other charges in the
statement of earnings for the year ended August 31, 2002. Also, the company
recorded $18,463,000 in inventory write-offs for excess and obsolete
inventories, which are included in the cost of sales in the statement of
earnings for the year ended August 31, 2002. As at August 31, 2002, the accrued
liabilities related to the severance expenses incurred in 2002 amounted to
$299,000.
5 o INVENTORIES
AS AT AUGUST 31, 2001 2002
--------------------------------------------------------------------------------
Raw materials $ 29,891 $ 13,507
Work in progress 3,507 1,382
Finished goods 10,947 8,933
--------------------------------------------------------------------------------
$ 44,345 $ 23,822
--------------------------------------------------------------------------------
EXFO o 2002 Annual Report o 35
6 o PROPERTY, PLANT AND EQUIPMENT
AS AT AUGUST 31, 2001 2002
--------------------------------------------------------------------------------
ACCUMULATED ACCUMULATED
COST AMORTIZATION COST AMORTIZATION
--------------------------------------------------------------------------------
Land $ 2,735 $ -- $ 2,124 $ --
Buildings 9,077 326 8,043 695
Equipment 23,906 9,286 29,177 14,662
Leasehold improvements 2,390 1,356 4,121 1,862
--------------------------------------------------------------------------------
38,108 $10,968 43,465 $17,219
------ ------
Less:
Accumulated
amortization 10,968 17,219
--------------------------------------------------------------------------------
$27,140 $26,246
--------------------------------------------------------------------------------
7 o INTANGIBLE ASSETS AND GOODWILL
AS AT AUGUST 31, 2001 2002
--------------------------------------------------------------------------------
In-process research and development, net of
accumulated amortization of $4,195 ($2,769 in 2001) $ -- $ --
Core technology, net of accumulated amortization
of $14,815 ($5,678 in 2001) 43,805 16,270
Work force, net of accumulated amortization
of $2,148 ($1,281 in 2001) 874 --
Other assets, net of accumulated amortization
of $305 ($246 in 2001) 391 194
--------------------------------------------------------------------------------
45,070 16,464
Goodwill, net of accumulated amortization
of $69,449 ($31,325 in 2001) 219,172 17,576
--------------------------------------------------------------------------------
$264,242 $ 34,040
--------------------------------------------------------------------------------
In 2002, the company recorded charges of $23,657,000 and $222,169,000 to write
down intangible assets and goodwill, respectively (note 4).
8 o CREDIT FACILITIES
The company has available credit facilities under a line of credit, which
provide for advances of up to Cdn$10,000,000 (US$6,415,000). These facilities
which are renewable annually, bear interest at prime rate (prime rate in 2001).
Short-term investments, accounts receivable, inventories and all tangible and
intangible assets of the company have been pledged as collateral against these
facilities. As at August 31, 2001 and 2002, these credit facilities were unused.
9 o ACCOUNTS PAYABLE AND ACCRUED LIABILITIES
AS AT AUGUST 31, 2001 2002
--------------------------------------------------------------------------
Trade $ 7,732 $ 4,738
Salaries and social benefits 3,917 2,638
Commissions 1,307 283
Tax on capital 463 856
Warranty 901 849
Restructuring charges (note 4) 1,230 782
Other 630 553
--------------------------------------------------------------------------
$ 16,180 $ 10,699
--------------------------------------------------------------------------
36 o 2002 Annual Report o EXFO
10 o LONG-TERM DEBT
AS AT AUGUST 31, 2001 2002
--------------------------------------------------------------------------------
Loans collateralized by equipment, bearing interest at 9.6%,
repayable in monthly installments of $13,000 including
principal and interest, maturing in 2008 $754 $664
Unsecured non-interest-bearing loan, repaid during the year 16 --
--------------------------------------------------------------------------------
770 664
--------------------------------------------------------------------------------
Less: Current portion 106 100
--------------------------------------------------------------------------------
$664 $564
--------------------------------------------------------------------------------
As at August 31, 2002, minimum principal repayments required in each of the next
five years are $100,000 in 2003, $110,000 in 2004, $122,000 in 2005, $136,000 in
2006 and $146,000 in 2007.
11 o COMMITMENTS
The company has entered into operating leases for certain of its premises and
equipment, which expire at various dates through May 2011. Minimum rentals
payable under these operating leases amount to $6,800,000 as at August 31, 2002.
For the years ended August 31, 2000, 2001 and 2002, rental expense amounted to
$579,000, $1,580,000 and $1,936,000, respectively, of which $163,000, $238,000
and $234,000, respectively, were paid to a company owned by the President of the
company.
12 o CONTINGENCIES
On November 27, 2001, a class action suit was filed in the United States
District Court for the Southern District of New York against the company, four
of the underwriters of its Initial Public Offering and some of its executive
officers pursuant to the Securities Exchange Act of 1934 and Rule 10b-5
promulgated thereunder and sections 11, 12 and 16 of the Securities Act of 1933.
This class action alleges that the company's registration statement and
prospectus filed with the Securities and Exchange Commission on June 29, 2000,
contained material misrepresentations and/or omissions resulting from (i) the
underwriters allegedly soliciting and receiving additional, excessive and
undisclosed commissions from certain investors in exchange for which they
allocated material portions of the shares issued in connection with the
company's Initial Public Offering; and (ii) the underwriters allegedly entering
into agreements with customers whereby shares issued in connection with the
company's Initial Public Offering would be allocated to those customers in
exchange for which customers agreed to purchase additional amounts of shares in
the after market at pre-determined prices.
On April 19, 2002, the plaintiffs filed an amended complaint containing master
allegations against all of the underwriters in all of the 310 cases included in
this class action and, also filed an amended complaint containing allegations
specific to four of the company's underwriters, the company and two of its
executive officers. In addition to the allegations mentioned above, the amended
complaint alleges that the underwriters (i) used their analysts to manipulate
the stock market; and (ii) implemented schemes that allowed issuer insiders to
sell their shares rapidly after an Initial Public Offering and benefit from high
market prices. As concerns the company and its two executive officers in
particular, the amended complaint alleges that (i) the company's registration
statement was materially false and misleading because it failed to disclose the
additional commissions and compensation to be received by underwriters; (ii) the
two named executive officers learned of or recklessly disregarded the alleged
misconduct of the underwriters; (iii) the two named executive officers had
motive and opportunity to engage in alleged wrongful conduct due to personal
holdings of the company's stock and the fact that an alleged artificially
inflated stock price could be used as currency for acquisitions; and (iv) the
two named executive officers, by virtue of their positions with the company,
controlled the company and the contents of the registration statement and had
the ability to prevent its issuance or cause it to be corrected. The plaintiffs
in this suit seek an unspecified amount for damages suffered.
In July 2002, the issuers filed a motion to dismiss the plaintiffs' amended
complaint.
Management believes that the company and its executive officers have fully
complied with all applicable securities laws and that the claims against it and
its officers are without merit. The company has referred this matter to its
insurers and is vigorously defending its position in this litigation. However,
at this time, it is not possible to predict the outcome of this case, nor
determine the amount of possible losses. Accordingly, no provision for this case
has been made in the consolidated financial statements as of August 31, 2002.
As at August 31, 2002, the company has outstanding letters of guarantee of
Cdn$741,000 (US$475,000), which expire at various dates through 2011.
As at August 31, 2002, the company has guaranteed the repayment of third-party
loans totaling Cdn$214,000 (US$137,000) detained by certain employees with
respect to the purchase of Class F shares under the stock purchase plan (note
13).
EXFO o 2002 Annual Report o 37
13 o SHARE CAPITAL
Authorized - unlimited as to number, without par value
Subordinate voting and participating, bearing a non-cumulative dividend
to be determined by the Board of Directors, ranking pari passu
with multiple voting shares
Multiple voting and participating, entitling to ten votes each, bearing
a non-cumulative dividend to be determined by the Board of
Directors, convertible at the holder's option into subordinate
voting shares on a one-for-one basis, ranking pari passu with
subordinate voting shares
Prior to June 29, 2000, the company's authorized share capital consisted of
Class A, D and F shares.
On June 29, 2000, the company filed articles of amendment pursuant to which
subordinate and multiple voting shares were created, the 38,000,000 issued and
outstanding Class A shares were converted into 38,000,000 multiple voting
shares, the 707,264 issued and outstanding Class F shares were converted into
707,264 subordinate voting shares and the Class A, D and F shares were canceled.
The following tables summarize the share capital activity since August 31, 1999:
CLASS A SHARES CLASS F SHARES
---------------------------------------------------------------------------------------------------------------
TOTAL
NUMBER AMOUNT NUMBER AMOUNT AMOUNT
---------------------------------------------------------------------------------------------------------------
Balance as at August 31, 1999 38,000,000 $ 1 197,588 $ 86 $ 87
Issued for cash under stock
purchase plan -- -- 509,676 390 390
Conversion of Class F shares into
subordinate voting shares -- -- (707,264) (476) (476)
Conversion of Class A
shares into multiple
voting shares (38,000,000) (1) -- -- (1)
---------------------------------------------------------------------------------------------------------------
Balance as at August 31, 2000,
2001 and 2002 -- $ -- -- $ -- $ --
---------------------------------------------------------------------------------------------------------------
MULTIPLE VOTING SHARES SUBORDINATE VOTING SHARES
---------------------------------------------------------------------------------------------------------------
TOTAL
NUMBER AMOUNT NUMBER AMOUNT AMOUNT
---------------------------------------------------------------------------------------------------------------
Balance as at August 31, 1999 -- $ -- -- $ -- $ --
Conversion of Class F
shares into subordinate
voting shares -- -- 707,264 476 476
Conversion of Class A shares
into multiple voting shares 38,000,000 1 -- -- 1
Issued pursuant to the initial
public offering -- -- 8,050,000 209,300 209,300
Share issue expenses, net of
related income taxes
of $5,425,000 -- -- -- (11,318) (11,318)
---------------------------------------------------------------------------------------------------------------
Balance as at August 31, 2000 38,000,000 1 8,757,264 198,458 198,459
Business combinations (note 3) -- -- 10,188,816 231,761 231,761
Conversion of multiple voting
shares into subordinate
voting shares (100,000) -- (100,000) -- --
Redemption -- -- (43,999) (33) (33)
Resale -- -- 43,999 33 33
Share issue expenses, net of related
income taxes of $106,000 -- -- -- (225) (225)
---------------------------------------------------------------------------------------------------------------
Balance as at August 31, 2001 37,900,000 1 19,046,080 429,994 429,995
Business combination (note 3) -- -- 4,374,573 59,625 59,625
Exercise of stock awards -- -- 144,532 -- --
Redemption -- -- (7,022) (6) (6)
Resale -- -- 7,022 6 6
Share issue expenses, net of
related income taxes of $5,000 -- -- -- (9) (9)
---------------------------------------------------------------------------------------------------------------
Balance as at August 31, 2002 37,900,000 $ 1 23,565,185 $ 489,610 $ 489,611
---------------------------------------------------------------------------------------------------------------
38 o 2002 Annual Report o EXFO
STOCK PURCHASE PLAN
The company's stock purchase plan terminated at the time of the Initial Public
Offering, being June 29, 2000. In accordance with that plan, officers, directors
and key employees could purchase Class F shares up to a maximum of 5% of all
participating, issued and outstanding shares of the company. The purchase price
of shares under that plan was determined as a multiple of the company's equity
as at the end of the preceding fiscal year. Shares issued under that plan are
restricted as to sale and transferability for a period of at least five years
from the date of acquisition. Prior to its Initial Public Offering, the company
issued 707,264 Class F shares in exchange for a weighted average cash
consideration of Cdn$0.98 (US$0.67) per share.
STOCK OPTION PLAN
In May 2000, the company established a stock option plan for directors,
executive officers, employees and consultants and those of the company's
subsidiaries, as determined by the Board of Directors.
The maximum number of subordinate voting shares issuable under the plan cannot
exceed 4,470,961 shares. The maximum number of subordinate voting shares that
may be granted to any individual cannot exceed 5% of the number of outstanding
subordinate voting shares. The exercise price is the market price of the common
shares on the date of grant. Options granted under the plan generally expire ten
years from the date of grant. Options granted under the plan generally vest over
a four-year period, with 25% vesting on an annual basis commencing on the first
anniversary of the date of grant. Up to October 10, 2000, the number of options,
which ultimately would become exercisable in any given year, and in aggregate,
was dependent on the degree to which the company's financial performance
objectives were met. Nevertheless, on October 10, 2000, the Board of Directors
of the company amended the vesting terms for options granted pursuant to the
option plan to remove the financial performance criterion. Accordingly, options
granted vest over the four-year period. The Board of Directors may accelerate
the vesting of any or all outstanding options upon the occurrence of a change of
control.
The following table summarizes the stock option activity since May 2000:
YEARS ENDED AUGUST 31, 2000 2001 2002
----------------------------------------------------------------------------------------------------------------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
NUMBER EXERCISE PRICE NUMBER EXERCISE PRICE NUMBER EXERCISE PRICE
----------------------------------------------------------------------------------------------------------------------------------
Outstanding - Beginning of year -- $ -- 609,734 $ 26 2,414,231 $ 28
Granted 609,734 26 2,153,352 29 1,039,805 10
Forfeited -- -- (348,855) (29) (856,462) (25)
----------------------------------------------------------------------------------------------------------------------------------
Outstanding - End of year 609,734 $ 26 2,414,231 $ 28 2,597,574 $ 22
----------------------------------------------------------------------------------------------------------------------------------
Exercisable - End of year -- $ -- 127,561 $ 26 512,161 $ 28
----------------------------------------------------------------------------------------------------------------------------------
The following table summarizes information about stock options as at August 31,
2002:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
AS AT AUGUST 31, 2002 AT AUGUST 31, 2002
------------------------------------------------------------------------------------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
REMAINING REMAINING
EXERCISE PRICE NUMBER CONTRACTUAL LIFELIFE NUMBER CONTRACTUAL LIFELIFE
------------------------------------------------------------------------------------------------
$2.59 5,550 3.8 years -- --
$5.65 53,479 3.5 years -- --
$9.13 to $12.69 849,746 3.2 years -- --
$19.19 to $27.80 1,325,170 2.3 years 421,253 2.2 years
$34.07 to $45.94 303,079 2.1 years 75,770 2.1 years
$56.75 60,550 2.0 years 15,138 2.0 years
------------------------------------------------------------------------------------------------
2,597,574 2.6 years 512,161 2.1 years
------------------------------------------------------------------------------------------------
EXFO o 2002 Annual Report o 39
RESTRICTED STOCK AWARD PLAN
On December 20, 2000, the company established a restricted stock award plan for
employees of EXFO Burleigh. Each stock award entitles employees to receive one
subordinate voting share at a purchase price of nil. Stock awards granted under
the plan vest over a four-year period, with 25% vesting on an annual basis
commencing on the first anniversary of the date of grant. According to the plan,
upon the involuntary termination of a member of the defined management team, all
outstanding restricted stock awards granted to such employees automatically
vest. The plan will expire on December 20, 2004.
The following table summarizes the restricted stock award activity since
December 2000:
YEARS ENDED AUGUST 31, 2001 2002
-------------------------------------------------------------------
Outstanding - Beginning of year -- 359,781
Granted 359,781 --
Exercised -- (144,532)
-------------------------------------------------------------------
Outstanding - End of year 359,781 215,249
-------------------------------------------------------------------
Exercisable - End of year -- --
-------------------------------------------------------------------
As of August 31, 2002, the weighted average remaining contractual life of the
outstanding restricted stock awards was 2.3 years.
STOCK APPRECIATION RIGHTS PLAN
On August 4, 2001, the company established a stock appreciation rights plan for
certain of its employees. Under that plan, eligible employees are entitled to
receive a cash amount equivalent to the difference between the market price of
the common shares on the date of exercise and the exercise price determined on
the date of grant. Stock appreciation rights granted under the plan generally
expire ten years from the date of grant. Stock appreciation rights generally
vest over a four-year period, with 25% vesting on an annual basis commencing on
the first anniversary of the date of grant.
Considering the market price of the common shares of US$2.13 as at August 31,
2002, no compensation expense has been recorded in 2002 under that plan.
The following table summarizes the stock appreciation rights activity since
August 2001:
YEARS ENDED AUGUST 31, 2001 2002
---------------------------------------------------------------------------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
NUMBER EXERCISE PRICE NUMBER EXERCISE PRICE
---------------------------------------------------------------------------------------
Outstanding - Beginning of year -- $ -- 22,400 $ 30
Granted 22,400 30 1,000 12
Forfeited -- -- (13,400) (31)
---------------------------------------------------------------------------------------
Outstanding - End of year 22,400 $ 30 10,000 $ 26
---------------------------------------------------------------------------------------
Exercisable - End of year -- $ -- 2,250 $ 27
---------------------------------------------------------------------------------------
The following table summarizes information about stock appreciation rights as at
August 31, 2002:
STOCK APPRECIATION RIGHTS STOCK APPRECIATION RIGHTS
OUTSTANDING EXERCISABLE
AS AT AUGUST 31, 2002 AS AT AUGUST 31, 2002
--------------------------------------------------------------------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
REMAINING REMAINING
EXERCISE PRICE NUMBER CONTRACTUAL LIFE NUMBER CONTRACTUAL LIFE
--------------------------------------------------------------------------------
$12.22 1,000 3.3 years -- --
$19.19 to $22.25 6,500 2.3 years 1,625 2.3 years
$45.94 2,500 2.1 years 625 2.1 years
--------------------------------------------------------------------------------
10,000 2.3 years 2,250 2.2 years
--------------------------------------------------------------------------------
40 o 2002 Annual Report o EXFO
14 o OTHER DISCLOSURES
NET RESEARCH AND DEVELOPMENT EXPENSES
Net research and development expenses comprise the following:
YEARS ENDED AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------
Gross research and development expenses $ 9,374 $ 17,601 $ 17,005
Research and development tax credits (2,436) (3,369) (3,890)
Government grants (536) (631) (333)
--------------------------------------------------------------------------------
$ 6,402 $ 13,601 $ 12,782
--------------------------------------------------------------------------------
OTHER GRANTS AND TAX CREDITS
During 1998, the company entered into an agreement with the Quebec Minister of
Industry, Commerce, Science and Technology (the "Minister"). Pursuant to this
agreement, the Minister agreed to contribute, in the form of grants, up to a
maximum of Cdn$600,000 (US$385,000) toward interest costs incurred over the
period from January 1, 1998, through December 31, 2002. In addition, the
Minister agreed to provide grants up to a maximum of Cdn$2,220,000
(US$1,424,000) over the period from January 1, 1998, through December 31, 2002,
payable based on the number of full-time jobs created during the period.
The above grants are subject to the condition that the company maintains its
Canadian principal place of business within the Province of Quebec until at
least December 31, 2002, and that jobs created pursuant to the agreement be
maintained for a period of at least five years from the date of creation. Should
these conditions not be met by the company, the Minister may enforce various
recourse options, which include suspension or cancellation of the agreement or
requiring the repayment of amounts received by the company. During the period
from January 1, 1998, to August 31, 2002, the company recognized a total of
Cdn$2,820,000 (US$1,809,000) under this program, of which Cdn$1,801,000
(US$1,155,000) have been credited to earnings with the balance of Cdn$1,019,000
(US$654,000) having been included in deferred grants in the balance sheet.
Furthermore, in 1999, the company entered into another agreement with the
Minister. Pursuant to this agreement, the Minister agreed to provide grants over
the period from February 1998 to June 2002, payable based on the number of jobs
created and certain specific training expenses related to such jobs. The above
grant is subject to the condition that the new employees continue to participate
in the specific training program for a period of at least ten consecutive
months. Should this condition not be met by the company, the Minister may
enforce various recourse, which include suspension or cancellation of the
agreement or requiring the repayment of amounts received by the company. Since
1998, the company has recognized a total of Cdn$2,965,000 (US$1,902,000) under
this program, which has been credited to earnings.
Should any repayments of amounts received pursuant to these agreements be
required, such repayments will be charged to earnings as the amounts of any
repayments become known.
Finally, since 2000, companies operating in the Quebec City area are eligible
for a refundable tax credit granted by the Province of Quebec government. This
credit is earned on the increase of production and marketing salaries incurred
in the Quebec City area at a rate of 40%. Since 2000, the company has recognized
a total of Cdn$3,911,000 (US$2,509,000) under this program, which has been
credited to earnings.
The reduction in the company's work force described in note 4 had no effect on
amounts already recognized in the statements of earnings under these programs.
Following is a summary of the classification of these and certain other grants
and tax credits (government grants) in the statements of earnings.
Interest income for the years ended August 31, 2000, 2001 and 2002, is net of
related government grants of $196,000, $15,000 and nil, respectively.
Cost of sales for the years ended August 31, 2000, 2001 and 2002, is net of
government grants of $915,000, $1,742,000 and $546,000, respectively.
Selling and administrative expenses for the years ended August 31, 2000, 2001
and 2002, are net of government grants of $386,000, $260,000 and $213,000,
respectively.
Research and development expenses for the years ended August 31, 2000, 2001 and
2002, are net of government grants of $536,000, $631,000 and $333,000,
respectively.
EXFO o 2002 Annual Report o 41
DEFINED CONTRIBUTION PLANS
The company maintains separate defined contribution plans for certain eligible
employees. These plans, which are accounted for on an accrual basis, are
summarized as follows:
DEFERRED PROFIT-SHARING PLAN
The company maintains a plan for certain eligible Canadian resident employees,
under which the company may elect to contribute an amount equal to 1% of an
employee's gross salary, provided that the employee has contributed at least 2%
of gross salary to a tax-deferred registered retirement savings plan. Since June
2002, the company has suspended its contributions to the plan as part of its
cost-reduction efforts. Contributions to this plan during the years ended August
31, 2000, 2001 and 2002, amounted to Cdn$202,000 (US$137,000), Cdn$407,000
(US$266,000) and Cdn$136,000 (US$88,000), respectively.
401K PLAN
The company maintains a 401K plan for eligible U.S. resident employees. Under
this plan, the company may elect to contribute an amount of up to 50% of the
first 6% of an employee's current compensation, subject to certain legislated
maximum contribution limits. During the years ended August 31, 2000, 2001 and
2002, the company recorded contributions totaling $23,000, $285,000 and
$317,000, respectively.
15 o INCOME TAXES
The reconciliation of the income tax provision calculated using the combined
Canadian federal and provincial statutory income tax rate to the provision for
income taxes per the financial statements is as follows:
YEARS ENDED AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------------------
Income taxes at combined Canadian federal and
provincial statutory tax rate (38% in 2000, 37%
in 2001 and 36% in 2002) $ 5,897 $ 8,855 $(26,563)
Increase (decrease) due to:
Manufacturing and processing deduction (645) (1,201) 525
Non-taxable income -- (144) (143)
Non-deductible expenses 57 274 334
Higher rate on interest income 133 480 --
Lower rate on foreign exchange gain -- (283) --
Difference between combined Canadian federal and
provincial statutory tax rate and foreign
subsidiaries statutory tax rates -- 60 (1,101)
Reduction of Canadian federal statutory tax rate -- -- 168
Effect of consolidation of subsidiaries -- (276) 1,325
Tax deductions -- (136) (518)
Other (144) 159 522
Change in valuation allowance -- 362 --
--------------------------------------------------------------------------------------------
$ 5,298 $ 8,150 $(25,451)
--------------------------------------------------------------------------------------------
The provision for income taxes consist of the following:
Current
Canadian $ 5,227 $ 8,416 $(10,816)
United States 61 1,305 (1,232)
Other 43 208 (6)
--------------------------------------------------------------------------------------------
5,331 9,929 (12,054)
Future
Canadian (16) 940 (4,475)
United States (17) (2,719) (8,694)
Other -- -- (228)
--------------------------------------------------------------------------------------------
(33) (1,779) (13,397)
--------------------------------------------------------------------------------------------
$ 5,298 $ 8,150 $(25,451)
--------------------------------------------------------------------------------------------
Details of the company's income taxes:
Earnings (loss) before income taxes and amortization
and write-down of goodwill
Canadian $ 15,317 $ 28,202 $(47,431)
United States 115 (5,356) (28,228)
Other 87 1,086 1,874
--------------------------------------------------------------------------------------------
$ 15,519 $ 23,932 $(73,785)
--------------------------------------------------------------------------------------------
42 o 2002 Annual Report o EXFO
Significant components of the company's future tax assets and liabilities are as
follows:
AS AT AUGUST 31, 2001 2002
------------------------------------------------------------------------------
Future income tax assets
Property, plant and equipment and intangible assets $ 107 $ 3,725
Provisions and accruals 1,208 1,339
Government grants 247 206
Deferred revenue 198 --
Share issue expenses 3,128 1,069
Restructuring charges 930 715
Research and development expenses 86 1,178
Losses carried forward 272 6,904
Other 39 7
------------------------------------------------------------------------------
6,215 15,143
Valuation allowance (362) (359)
------------------------------------------------------------------------------
$ 5,853 $ 14,784
------------------------------------------------------------------------------
Future income tax liabilities
Property, plant and equipment and intangible assets $ (8,640) $ (4,566)
Research and development tax credits (680) (150)
Provisions and accruals -- (66)
Government grants (310) --
------------------------------------------------------------------------------
(9,630) (4,782)
------------------------------------------------------------------------------
Future income tax assets (liabilities), net $ (3,777) $ 10,002
------------------------------------------------------------------------------
As at August 31, 2002, a company subsidiary has accumulated losses for income
tax purposes of approximately $896,000 and research and development expenses of
approximately $955,000 at the provincial level for which a valuation allowance
of $359,000 has been established. These losses can be carried forward against
the subsidiary's future years' taxable income until 2008. These accumulated
research and development expenses can be carried forward indefinitely against
the subsidiary's future years' provincial taxable income.
16 o SEGMENT INFORMATION
Management has organized the company under one operating segment, being the
development, manufacturing and marketing of fiber-optic test, measurement,
monitoring and automation solutions. This operating segment is composed of
Portable and Monitoring products and Industrial and Scientific products.
Product sales are detailed as follows:
YEARS ENDED AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------
Portable and Monitoring products $ 49,075 $ 69,399 $ 38,887
Industrial and Scientific products 22,564 76,614 29,443
--------------------------------------------------------------------------------
$ 71,639 $ 146,013 $ 68,330
--------------------------------------------------------------------------------
Sales to external customers by geographic region are detailed as follows:
YEARS ENDED AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------
United States $ 36,139 $ 72,604 $ 35,129
Canada 8,006 12,531 3,971
Europe 14,503 30,568 9,539
Asia 6,486 19,059 12,971
South America 2,221 5,838 2,581
Other 4,284 5,413 4,139
--------------------------------------------------------------------------------
$ 71,639 $ 146,013 $ 68,330
--------------------------------------------------------------------------------
Sales have been allocated to geographic regions based on the country of
residence of the related customers. During 2002, the company derived 10.2% of
its sales ($6,965,000) from one customer. The three most significant customers
represented 15.4% of sales for that same year. During 2000 and 2001, there were
no customers from which 10% or more of total sales were derived.
EXFO o 2002 Annual Report o 43
Long-lived assets by geographic region are detailed as follows:
AS AT AUGUST 31, 2001 2002
--------------------------------------------------------------------------------
United States $ 171,450 $ 16,141
Canada 119,932 44,145
--------------------------------------------------------------------------------
$ 291,382 $ 60,286
--------------------------------------------------------------------------------
Long-lived assets consist of property, plant and equipment, intangible assets
and goodwill.
17 o EARNINGS (LOSS) PER SHARE
The following table summarizes the reconciliation of the basic weighted average
number of shares outstanding and the diluted weighted average number of shares
outstanding used in the diluted earnings per share calculations:
YEARS ENDED AUGUST 31, 2000 2001 2002
------------------------------------------------------------------------------
Basic weighted average number of shares
outstanding (000's) 39,951 53,014 60,666
Conversion of preferred shares Series I 26 -- --
Stock options 109 231 31
Restricted stock awards -- 250 269
------------------------------------------------------------------------------
Diluted weighted average number of shares
outstanding (000's) 40,086 53,495 60,966
------------------------------------------------------------------------------
Stock options excluded from the calculation of
diluted earnings per share because the exercise
price was greater than the average market price
of the common shares (000's) -- 953 2,734
------------------------------------------------------------------------------
The diluted loss per share for the years ended August 31, 2001 and 2002, was the
same as the basic loss per share since the dilutive effect of stock options and
restricted stock awards was not included in the calculation; otherwise, the
effect would be anti-dilutive. Accordingly, diluted loss per share for those
years was calculated using the basic weighted average number of shares
outstanding.
18 o FINANCIAL INSTRUMENTS
SHORT-TERM INVESTMENTS
Short-term investments consist of the following:
AS AT AUGUST 31, 2001 2002
--------------------------------------------------------------------------------
Commercial paper denominated in Canadian dollars,
bearing interest at annual rates of 4.35% to
4.60% in 2001 and 2.61% to 2.93% in 2002,
maturing on different dates between September
2001 and November 2001 in 2001 and September
2002 and November 2002 in 2002 $52,000 $40,553
Mutual fund denominated in Canadian dollars 14,861 --
--------------------------------------------------------------------------------
$66,861 $40,553
--------------------------------------------------------------------------------
FAIR VALUE
Cash and cash equivalents, accounts receivable, accounts payable and accrued
liabilities and long-term debt are financial instruments whose fair values
approximate their carrying values.
The fair value of short-term investments, determined based on market value,
amounted to $66,861,000 and $40,553,000 as at August 31, 2001 and 2002,
respectively.
44 o 2002 Annual Report o EXFO
CREDIT RISK
Financial instruments which potentially subject the company to credit risk
consist principally of cash and cash equivalents, short-term investments,
accounts receivable and forward exchange contracts. The company's short-term
investments consist of debt instruments issued by high-credit quality
corporations. The company's cash and cash equivalents and forward exchange
contracts are held with or issued by high-credit quality financial institutions;
therefore, the company considers the risk of non-performance on these
instruments to be remote.
Due to the geographic distribution of the company's customers, there is no
particular concentration of credit risk. Generally, the company does not require
collateral or other security from customers for trade accounts receivable;
however, credit is extended to customers following an evaluation of
creditworthiness. In addition, the company performs ongoing credit reviews of
all its customers and establishes an allowance for doubtful accounts receivable
when accounts are determined to be uncollectible. Allowance for doubtful
accounts amounted to $893,000 and $520,000 as at August 31, 2001 and 2002,
respectively.
INTEREST RATE RISK
As at August 31, 2002, the company's exposure to interest rate risk is
summarized as follows:
Cash and cash equivalents Non-interest bearing
Short-term investments As described above
Accounts receivable Non-interest bearing
Accounts payable and accrued liabilities Non-interest bearing
Long-term debt As described in note 10
FORWARD EXCHANGE CONTRACTS
The company is exposed to currency risks as a result of its export sales of
products manufactured in Canada, substantially all of which are denominated in
US dollars. These risks are partially hedged by forward exchange contracts and
certain operating expenses. As at August 31, 2001 and 2002, the company held
contracts to sell US dollars at various forward rates, which are summarized as
follows:
WEIGHTED AVERAGE
CONTRACTUAL AMOUNTS CONTRACTUAL FORWARD RATES
--------------------------------------------------------------------------------
As at August 31, 2001
September 2001 to August 2002 $15,200 1.4969
September 2002 to February 2003 1,800 1.5184
As at August 31, 2002
September 2002 to August 2003 $ 6,400 1.5464
September 2003 to June 2004 2,200 1.5679
As at August 31, 2001 and 2002, these contracts generated deferred unrealized
losses of US$533,000 and US$39,000, respectively, which have not been reflected
in the statements of earnings.
19 o UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES
As a registrant with the Securities and Exchange Commission in the United
States, the company is required to reconcile its financial results for
significant differences between generally accepted accounting principles as
applied in Canada (Canadian GAAP) and those applied in the United States (U.S.
GAAP). Additional significant disclosures required under U.S. GAAP have also
been provided in the accompanying financial statements and notes. The following
summarizes the significant differences between Canadian and U.S. GAAP and other
required disclosures under U.S. GAAP not already provided in the accompanying
financial statements.
EXFO o 2002 Annual Report o 45
RECONCILIATION OF NET EARNINGS (LOSS) TO CONFORM WITH U.S. GAAP
The following summary sets out the significant differences between the company's
reported net earnings (loss) and net earnings (loss) per share under Canadian
GAAP and as compared to U.S. GAAP:
YEARS ENDED AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------------------------
Net earnings (loss) for the year in accordance
with Canadian GAAP $ 9,924 $ (15,294) $ (308,524)
Non-cash stock-based compensation costs related
to stock option plan a) (1,464) (954) 49
Non-cash stock-based compensation costs related
to stock purchase plan a) (538) (477) (661)
Non-cash stock-based compensation costs related
to restricted stock award plan a) -- (3,481) (3,038)
Unrealized gains on forward exchange contracts c) -- 97 444
Future income taxes on forward exchange contracts c) -- 20 (212)
Future income taxes on acquired in-process
research and development d) -- (936) (444)
Amortization of intangible assets e) -- -- 239
Future income taxes on amortization
of intangible assets e) -- -- (80)
Amortization of goodwill d), e) -- (8,453) (9,263)
Write-down of goodwill and intangible assets e) -- -- (62,557)
Future income taxes on write-down
of intangible assets e) -- -- (1,154)
--------------------------------------------------------------------------------------------------
Net earnings (loss) for the year in
accordance with U.S. GAAP 7,922 (29,478) (385,201)
Other comprehensive income (loss)
Foreign currency translation adjustments b) 1,555 (9,888) (521)
Unrealized holding gains on available-for-sale
securities, net of related future income taxes f) 37 -- --
Reclassification of holding gains on
available-for-sale securities included in net
earnings (loss), net of related future
income taxes f) (36) (37) --
--------------------------------------------------------------------------------------------------
Comprehensive income (loss) $ 9,478 $ (39,403) $ (385,722)
--------------------------------------------------------------------------------------------------
Basic and diluted net earnings (loss) per share
in accordance with U.S. GAAP g) $ 0.20 $ (0.56) $ (6.35)
SHAREHOLDERS' EQUITY
As a result of the aforementioned adjustments to net earnings (loss),
significant differences with respect to shareholders' equity under U.S. GAAP are
as follows:
SHARE CAPITAL
AS AT AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------------------------
Share capital in accordance with Canadian GAAP $ 198,459 $ 429,995 $ 489,611
Stock-based compensation costs related
to stock purchase plan a), h)
Current year 2,647 (150) (64)
Cumulative effect of prior years 45 2,692 2,542
Reclassification from other capital upon
exercise of restricted stock awards -- -- 3,270
Shares issued upon business combinations d) -- 65,584 65,584
--------------------------------------------------------------------------------------------------
Share capital in accordance with U.S. GAAP $ 201,151 $ 498,121 $ 560,943
--------------------------------------------------------------------------------------------------
46 o 2002 Annual Report o EXFO
DEFERRED STOCK-BASED COMPENSATION COSTS
AS AT AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------------------------
Deferred stock-based compensation
costs in accordance with Canadian GAAP $ -- $ -- $ --
Stock-based compensation costs related to
stock-based compensation plans a), h)
Current year (21,396) (8,145) --
Cumulative effect of prior years (35) (19,429) (7,968)
Amortization for the year 2,002 4,912 4,698
Reduction of stock-based compensation costs -- 14,694 403
--------------------------------------------------------------------------------------------------
Deferred stock-based compensation costs
in accordance with U.S. GAAP $ (19,429) $ (7,968) $ (2,867)
--------------------------------------------------------------------------------------------------
OTHER CAPITAL
AS AT AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------------------------
Other capital in accordance with Canadian GAAP $ -- $ -- $ --
Stock-based compensation costs related to
stock-based compensation plans a), h)
Current year 18,749 8,145 -
Cumulative effect of prior years -- 18,749 12,350
Reduction of stock-based compensation costs -- (14,544) (1,387)
Reclassification to share capital upon exercise
of restricted stock awards -- -- (3,270)
--------------------------------------------------------------------------------------------------
Other capital in accordance with U.S. GAAP $ 18,749 $ 12,350 $ 7,693
--------------------------------------------------------------------------------------------------
RETAINED EARNINGS (DEFICIT)
AS AT AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------------------------
Retained earnings (deficit) in accordance
with Canadian GAAP $ 6,980 $ (8,314) $ (316,838)
Stock-based compensation costs related
to stock-based compensation plans a)
Current year (2,002) (4,912) (3,650)
Cumulative effect of prior years (10) (2,012) (6,924)
Unrealized gains on forward exchange
contracts, net of related future income taxes c)
Current year -- 117 232
Cumulative effect of prior years -- -- 117
Future income taxes on acquired in-process
research and development d)
Current year -- (936) (444)
Cumulative effect of prior years -- -- (936)
Write-down of goodwill and intangible assets e)
Current year -- -- (62,557)
Future income taxes on write-down
of intangible assets e)
Current year -- -- (1,154)
Amortization of intangible assets e)
Current year -- -- 239
Future income taxes on amortization
of intangible assets e)
Current year -- -- (80)
Amortization of goodwill d), e)
Current year -- (8,453) (9,263)
Cumulative effect of prior years -- -- (8,453)
Change in reporting currency b)
Cumulative effect of prior years 1,016 1,016 1,016
--------------------------------------------------------------------------------------------------
Retained earnings (deficit) in accordance
with U.S. GAAP $ 5,984 $ (23,494) $ (408,695)
--------------------------------------------------------------------------------------------------
EXFO o 2002 Annual Report o 47
ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)
AS AT AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------------------------------
Foreign currency translation adjustments b)
Balance - Beginning of year $ (1,016) $ 539 $ (9,349)
Change during the year 1,555 (9,888) (521)
--------------------------------------------------------------------------------------------------------
Balance - End of year 539 (9,349) (9,870)
--------------------------------------------------------------------------------------------------------
Unrealized holding gains on
available-for-sale securities,
net of future income taxes f)
Balance - Beginning of year 36 37 --
Unrealized gains arising during the year, net
of related future income taxes 37 -- --
Reclassification adjustment for amounts
included in net earnings (loss), net of
related future income taxes (36) (37) --
--------------------------------------------------------------------------------------------------------
Balance - End of year 37 - --
--------------------------------------------------------------------------------------------------------
Accumulated other comprehensive
income (loss) $ 576 $(9,349) $ (9,870)
--------------------------------------------------------------------------------------------------------
BALANCE SHEETS
The following table summarizes the significant differences in balance sheet
items between Canadian GAAP and U.S. GAAP:
AS AT AUGUST 31, 2001 AS AT AUGUST 31, 2002
---------------------------------------------------------------------------------------------------------------
AS REPORTED U.S. GAAP AS REPORTED U.S. GAAP
Intangible assets e)
Cost $ 55,044 $ 55,044 $ 37,927 $ 30,301
Accumulated amortization (9,974) (9,974) (21,463) (17,030)
---------------------------------------------------------------------------------------------------------------
$ 45,070 $ 45,070 $ 16,464 $ 13,271
---------------------------------------------------------------------------------------------------------------
Goodwill d), e)
Cost $250,497 $315,547 $ 87,025 $ 92,747
Accumulated amortization (31,325) (39,762) (69,449) (87,251)
---------------------------------------------------------------------------------------------------------------
$219,172 $275,785 $ 17,576 $ 5,496
---------------------------------------------------------------------------------------------------------------
Shareholders' equity
Share capital a), d), h) $429,995 $498,121 $489,611 $560,943
Contributed surplus 1,457 1,457 1,487 1,487
Cumulative translation
adjustment b) (8,333) -- (8,854) --
Deferred stock-based
compensation costs a), h) -- (7,968) -- (2,867)
Other capital a) -- 12,350 -- 7,693
Deficit a), b), c), d), e)(8,314) (23,494) (316,838) (408,695)
Accumulated other
comprehensive loss b), f) -- (9,349) -- (9,870)
---------------------------------------------------------------------------------------------------------------
$414,805 $471,117 $165,406 $148,691
---------------------------------------------------------------------------------------------------------------
STATEMENTS OF CASH FLOWS
For the years ended August 31, 2000, 2001 and 2002, there are no significant
differences between the statements of cash flows under Canadian GAAP as compared
to U.S. GAAP.
RECONCILIATION ITEMS
a) ACCOUNTING FOR STOCK-BASED COMPENSATION
To conform with U.S. GAAP, the company measures stock-based compensation costs
using the intrinsic value method (APB 25 "Accounting for Stock Issued to
Employees").
48 o 2002 Annual Report o EXFO
STOCK PURCHASE PLAN
Under APB 25, compensation cost related to the stock purchase plan is measured
as the difference between the fair value of the purchased stock and the purchase
price paid by plan participants. Compensation cost is amortized to expense over
a period of five years, being the restriction period. This plan terminated at
the time of the Initial Public Offering on June 29, 2000.
STOCK OPTION PLAN
In accordance with APB 25, the company's stock option plan was considered to be
a variable plan until October 10, 2000. As a result of the amendment to the
stock option plan described in note 13, the performance criterion was removed
and the number of shares to be issued under the plan was fixed and the company
recorded, in 2001, a net reduction of the compensation cost and deferred
compensation cost previously recognized of $467,000 and $14,544,000,
respectively. Compensation cost under this plan is measured as the difference
between the fair value of the underlying stock at the date of grant and the
exercise price of the option. Compensation cost is amortized to expense over the
estimated vesting period up to a maximum of four years.
RESTRICTED STOCK AWARD PLAN
Under APB 25, compensation cost related to the restricted stock award plan is
measured as the difference between the fair value of the underlying stock at the
date of grant and the exercise price, which is nil. Compensation cost is
amortized to expense over the estimated vesting period up to a maximum of four
years, being the acquisition period.
Under Canadian GAAP, no compensation cost is recognized for these stock-based
compensation plans.
b) CHANGE IN REPORTING CURRENCY
On September 1, 1999, the company adopted the US dollar as its reporting
currency. Under U.S. GAAP, the financial statements, including prior years, are
translated according to the current rate method. Under Canadian GAAP, at the
time of change in reporting currency, the historical financial statements are
presented using a translation of convenience.
Under Canadian GAAP, the statement of earnings for the year ended August 31,
1999, was translated into US dollars using an exchange rate of US$1.00 =
Cdn$1.4958. Under U.S. GAAP, revenues and expenses would be translated at
exchange rates prevailing at the respective transaction dates. Average exchange
rate for the year ended August 31, 1999, was US$1.00 = Cdn$1.5068. The exchange
rate as at August 31, 1999, was US$1.00 = Cdn$1.4958.
As a result, a permanent difference of $1,016,000 was created on September 1,
1999, affecting the cumulative translation adjustment and the retained earnings
under both Canadian GAAP and U.S. GAAP.
c) FORWARD EXCHANGE CONTRACTS
On September 1, 2000, the company prospectively adopted Statement of Financial
Accounting Standard No. 133, "Accounting for Derivative Instruments and Hedging
Activities" (SFAS 133) and its amendments (SFAS 138), which require all
derivatives to be carried on the balance sheet at fair value. The forward
exchange contracts used by the company have not qualified for hedging accounting
treatment during the years ended August 31, 2001 and 2002; accordingly, changes
in the fair value of the derivatives have been charged to earnings during these
years.
Under Canadian GAAP, the company's forward exchange contracts held for the
purpose of hedging anticipated sales qualified for hedge accounting and any
unrealized gains or losses were deferred and recognized in the statement of
earnings upon settlement of the related transactions.
d) BUSINESS COMBINATIONS
Under Canadian GAAP, until June 30, 2001, the value of shares issued upon a
business combination was determined based on the market price of the shares over
a reasonable period of time before and after the date of acquisition while under
U.S. GAAP, the value of shares was determined based on the market price of the
shares over a reasonable period of time before and after the companies have
reached an agreement on the purchase price, the significant terms of the
agreement are known and the proposed transaction is announced.
Consequently, the measurement dates of the acquisitions of EXFO Burleigh and
EXFO Photonic Solutions for U.S. GAAP purposes occurred on December 14, 2000 and
on March 6, 2001, respectively, the dates on which all significant terms of the
agreements were known. The average market price of the shares a few days before
and after those dates was $31.09 and $25.84, respectively. Considering the
number of shares issued upon those acquisitions, the total consideration for
U.S. GAAP purposes amounts to $244,198,000 ($189,270,000 under Canadian GAAP)
for EXFO Burleigh and $120,802,000 ($110,146,000 under Canadian GAAP) for EXFO
Photonic Solutions, thus increasing share capital and goodwill under U.S. GAAP.
However, since July 1, 2001, the shares issued upon a business combination are
valued under Canadian GAAP using the same method as used under U.S. GAAP.
Furthermore, under U.S. GAAP, in-process research and development acquired in a
business combination is written off at the time of acquisition and no future
income taxes are recognized on this asset in the purchase price allocation
process. Under Canadian GAAP, in-process research and development acquired in a
business combination is capitalized and amortized over its estimated useful
life. Future income taxes are recognized on the acquisition date on that asset
in the purchase price allocation process. As at August 31, 2001 and 2002,
in-process research and development recorded under Canadian GAAP was fully
amortized.
EXFO o 2002 Annual Report o 49
e) WRITE-DOWN OF GOODWILL AND INTANGIBLE ASSETS
Under U.S. GAAP, when assets being tested for recoverability were acquired in
business combinations accounted for by the purchase method, the goodwill that
arose in that transaction shall be included as part of the assets grouping in
determining recoverability. The intangible assets tested for recoverability in
2002 were acquired in business combinations accounted for using the purchase
method and, consequently, the company allocated goodwill to those assets on a
pro rata basis using the relative fair values of the long-lived assets and
identifiable intangible assets acquired as determined at the date of
acquisition. The carrying value of goodwill identified with the impaired
intangible assets was written down before any reduction was made to the impaired
intangible assets. Intangible assets were then written down to their fair value.
The fair value of intangible assets was determined based on discounted future
cash flows. The cash flows periods used were ten and eleven years, using annual
growth rates ranging between 10% and 30% and discount rates ranging between 15%
and 18%. The assumptions supporting discounted cash flows, including the cash
flow periods, the annual growth rates and the discount rates, reflect
management's best estimates. The discount rates were based upon the company's
weighted average cost of capital as adjusted for the risks associated with
operations.
The unallocated portion of goodwill was tested for recoverability at the
subsidiaries' level based on the related pre-tax undiscounted future cash flows
using the same assumptions and methodology as used for Canadian GAAP purposes.
Under U.S. GAAP, the company recorded a charge of $281,278,000 to write down a
significant portion of goodwill and a pre-tax charge of $27,105,000 to write
down a significant portion of acquired core technology. Of the total charge of
$308,383,000, $170,079,000 relates to EXFO Burleigh, $83,637,000 relates to EXFO
Photonic Solutions and $54,667,000 relates to EXFO Protocol.
Under Canadian GAAP, no allocation of goodwill is required and each asset is
tested for recoverability separately based on its pre-tax undiscounted cash
flows over its expected period of use.
Also, under Canadian GAAP, the impairment loss for intangible assets is measured
as the difference between the carrying value and the pre-tax undiscounted future
cash flows.
Finally, under U.S. GAAP, the carrying value of goodwill reviewed for impairment
was $46,380,000 higher than the carrying value of the same goodwill tested under
Canadian GAAP because the measurement dates used to account for the business
combinations were different between Canadian GAAP and U.S. GAAP as explained in
item d).
f) SHORT-TERM INVESTMENTS
Under U.S. GAAP, the short-term investments would be classified as
"available-for-sale" securities. Consequently, these securities would be carried
at fair value, with any unrealized holding gains or losses at each balance sheet
date being reflected in other comprehensive income (loss) on a net-of-tax basis.
Under Canadian GAAP, short-term investments are carried at the lower of cost and
market value and cost is composed of acquisition cost plus amortization of
discount or less amortization of premium.
g) EARNINGS (LOSS) PER SHARE
Under U.S. GAAP, the presentation of per share figures for earnings (loss)
before amortization and write-down of goodwill is not permitted. In addition,
under U.S. GAAP, amortization and write-down of goodwill would be included in
the computation of earnings from operations.
h) SHARE CAPITAL
Under Canadian GAAP, restricted shares reacquired from employees under the stock
purchase plan are treated as arm's length repurchases of shares whereas under
U.S. GAAP, the reacquisition of shares would be accounted for as a forfeiture by
the employee, resulting in any difference between the amount originally credited
to share capital and the remaining deferred compensation cost being credited to
compensation expense in the current period. The subsequent resale of the shares
would be treated as an issuance of shares for the proceeds received.
i) NEW ACCOUNTING STANDARDS
In July 2001, the Financial Accounting Standards Board (FASB) issued SFAS 141
"Business Combinations" and SFAS 142 "Goodwill and Other Intangible Assets".
SFAS 141 requires business combinations initiated after June 30, 2001, or
business combinations accounted for by the purchase method with a date of
acquisition after June 30, 2001, to be accounted for using the purchase method
of accounting. SFAS 141 also broadens criteria for recording intangible assets
separately from goodwill. Upon the adoption of SFAS 142, recorded goodwill and
intangible assets will be evaluated against those new criteria and may result in
certain intangible assets being reclassified into goodwill or, alternatively,
amounts initially recorded as goodwill being separately identified and
recognized apart from goodwill as intangible assets. SFAS 142 requires the use
of a non-amortization approach to account for purchased goodwill and
indefinite-lived intangibles.
Under transitional provisions of SFAS 142, the company did not amortize the
goodwill resulting from the acquisition of EXFO Protocol Inc., for which the
acquisition date was November 2, 2001.
The company adopted SFAS 142 prospectively on September 1, 2002. Upon the
adoption of this new section, goodwill recorded prior to July 1, 2001, is no
longer subject to amortization. Also, under the transitional provisions of the
SFAS 142, the company performed an initial impairment test to identify goodwill
impairment using a fair value-based method. Under SFAS 142, a goodwill
impairment exists when the carrying value of a reporting unit exceeds its fair
value. For the purposes of the impairment test, the company allocated its
existing goodwill to its reporting units and completed an evaluation of the fair
value of such reporting units. Based on the comparison of the fair value of the
reporting units to their carrying value, goodwill of the reporting units was not
considered impaired.
50 o 2002 Annual Report o EXFO
Goodwill will also be tested for impairment on an annual basis or more
frequently if events or circumstances occur that more likely than not reduce the
fair value of a reporting unit below its carrying value. Any impairment loss
arising from this test will be charged to earnings in the period in which it is
incurred.
In June 2001, the FASB issued SFAS 143 "Accounting for Asset Retirement
Obligation", which is effective for fiscal years beginning on or after June 15,
2002. This standard requires that the fair value of a liability for an asset
retirement obligation be recognized in the period in which it is incurred if a
reasonable estimate of fair value can be made. The company will adopt this new
standard prospectively on September 1, 2002, and its adoption will not have a
significant impact on the company's financial statements.
In October 2001, the FASB issued SFAS 144 "Accounting for Impairment or Disposal
of Long-Lived Assets", which supersedes SFAS 121 and the provisions of APB 30,
"Reporting the Results of Operations - Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring
Events and Transactions" with regard to reporting the effects of a disposal of a
segment of a business. SFAS 144 retains many of the provisions of SFAS 121, but
significantly changes the criteria that would have to be met to classify an
asset as held for disposal such that long-lived assets to be disposed of other
than by sale are considered held and used until disposed of. In addition, SFAS
144 retains the basic provisions of APB 30 for presentation of discontinued
operations in the statement of earnings but broadens that presentation to a
component of an entity. This new standard is effective for fiscal years
beginning on or after December 15, 2001. The company will adopt this new
standard prospectively on September 1, 2002, and its adoption will not have a
significant impact on the company's financial statements.
In April 2002, the FASB issued SFAS 145 "Rescission of FASB Statements No. 4, 44
and 64, Amendment of FASB Statement No. 13 and Technical Corrections". This new
standard is effective for fiscal years beginning on or after May 15, 2002, or
for transactions occurring after May 15, 2002, related to SFAS 13, paragraph 8
and 9 (c). This statement rescinds SFAS 4 "Reporting Gains and Losses from
Extinguishment of Debt" and an amendment of that Statement, SFAS 64
"Extinguishments of Debt Made to Satisfy Sinking-Funds Requirements". This
Statement also rescinds SFAS 44 "Accounting for Intangible Assets of Motor
Carriers". This Statement amends SFAS 13 "Accounting for Leases" to eliminate an
inconsistency between the required accounting for sale-leaseback transactions.
This Statement also amends other existing authoritative pronouncements to make
various technical corrections, clarify meanings, or describe their applicability
under changed conditions. The company will adopt this new standard prospectively
on September 1, 2002, and its adoption will not have a significant impact on the
company's financial statements.
In June 2002, the FASB issued SFAS 146 "Accounting for Costs Associated with
Exit or Disposal Activities". This Statement addresses financial accounting and
reporting for costs associated with exit or disposal activities and nullifies
EITF No. 94-3, "Liability Recognition of Certain Employee Termination Benefits
and Other Costs to Exit an Activity". This Statement improves financial
reporting by requiring that a liability for a cost associated with an exit or
disposal activity be recognized and measured initially at fair value only when
the liability is incurred. This Statement specifies that a liability for a cost
associated with an exit or disposal activity is incurred when the definition of
a liability in SFAS 6 is met. This Statement is effective for exit or disposal
activities that are initiated after December 31, 2002. The company will adopt
this new standard prospectively on January 1, 2003, and has not yet assessed the
impact of its adoption.
UNAUDITED PRO FORMA INFORMATION ON BUSINESS COMBINATIONS
Under U.S. GAAP, pro forma information must be provided as though the business
combinations had occurred at the beginning of the reported periods.
The following unaudited pro forma information reflects the results of operations
as if the 2002 acquisition had been completed on September 1, 2001 and 2000; the
2001 acquisitions had been completed on September 1, 2000.
Such information is not necessarily indicative of the actual results which would
have been achieved, nor is it necessarily indicative of future consolidated
results of the company.
YEARS ENDED AUGUST 31, 2001 2002
--------------------------------------------------------------------------------
(unaudited)
Sales $ 166,083 $ 683,371
Net loss $ (63,203) $(385,870)
Basic and diluted net loss per share $ (1.03) $ (6.29)
ACCOUNTING FOR STOCK-BASED COMPENSATION
Under U.S. GAAP, the company has elected to measure compensation costs related
to grants of stock options and stock awards using the intrinsic value method of
accounting. In this instance, however, under SFAS 123, "Accounting for
Stock-Based Compensation", the company is required to make pro forma disclosures
of net earnings (loss), basic and diluted net earnings (loss) per share as if
the fair value-based method of accounting had been applied.
EXFO o 2002 Annual Report o 51
The fair value of options or awards granted was estimated using the
Black-Scholes options pricing model with the following weighted average
assumptions:
YEARS ENDED AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------
Risk-free interest rate 6.04% 5.36% 4.50%
Expected volatility 75% 75% 80%
Dividend yield Nil Nil Nil
Weighted average expected life 32 months 33 months 40 months
The Black-Scholes options valuation model was developed for use in estimating
the fair value of traded options and awards which have no vesting restrictions,
and are fully transferable. In addition, option and award valuation models
require the input of highly subjective assumptions, including the expected stock
price volatility. Because the company's employee stock options and stock awards
have characteristics significantly different from those of traded options and
awards, and because changes in the subjective input assumptions can materially
affect the fair value estimate, in management's opinion, the existing models do
not necessarily provide a reliable single measure of the fair value of its
employee stock options and stock awards.
If the fair value-based method had been used to account for stock-based
compensation costs related to stock options and stock awards issued to
employees, the net earnings (loss) and related net earnings (loss) per share
figures under U.S. GAAP would be as follows:
YEARS ENDED AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------
Pro forma net earnings (loss) for the year $ 8,939 $(39,109) $(390,831)
Pro forma basic and diluted net earnings
(loss) per share $ 0.22 $ (0.74) $ (6.44)
The following table summarizes the stock-based compensation costs for options
outstanding based on the fair value-based method:
YEARS ENDED AUGUST 31, 2000 2001 2002
--------------------------------------------------------------------------------
EXERCISE PRICE
$2.59 $ -- $ -- $ 1
$5.65 -- -- 54
$9.13 to $12.69 -- -- 2,631
$19.19 to $27.80 447 6,636 1,815
$34.07 to $45.94 -- 2,902 1,076
$56.75 -- 1,047 4
--------------------------------------------------------------------------------
$ 447 $ 10,585 $ 5,581
--------------------------------------------------------------------------------
These options will generate aggregate stock-based compensation costs of
$26,589,000 over their vesting periods. As at August 31, 2002, the deferred
stock-based compensation costs amount to $9,976,000 and will be charged to
expense over the next four years. For the years ended August 31, 2000, 2001 and
2002, the weighted average fair value of options amounted to $15.07, $14.64 and
$9.19, respectively.
As of August 31, 2002, none of the vested options has been exercised. As of
August 31, 2002, the market price of the company's common shares was $2.13.
20 o SUBSEQUENT EVENTS
On September 3, 2002, EXFO acquired a building from a company owned by the
President of the company for a cash consideration of $930,000. This transaction
was measured at the exchange amount since it was not in the normal course of
operations, the change in ownership interest in the building was substantive and
the exchange amount was supported by independent evidence.
On September 5, 2002, the company entered into an agreement to acquire
substantially all the assets of gnubi communications, L.P., a U.S. company which
supplies multi-channel telecom and datacom testing solutions for optical
transport equipment manufacturers and research and development laboratories.
This acquisition is expected to be settled for a total consideration ranging
between $4,300,000 and $7,200,000. The consideration paid will consist of
$1,800,000 in cash, $2,500,000 by the issuance of subordinate voting shares and
a cash contingent consideration based on sales volume for 2003. This acquisition
will be accounted for using the purchase method. This acquisition is expected to
be closed in the first quarter of 2003.
52 o 2002 Annual Report o EXFO
BOARD OF DIRECTORS
GERMAIN LAMONDE, CHAIRMAN OF THE BOARD, PRESIDENT AND CEO
Germain Lamonde is one of our founders. Mr. Lamonde has been our Chairman of the
Board, President and Chief Executive Officer since our inception in 1985. Mr.
Lamonde holds a bachelor's degree in Physics Engineering from the Ecole
Polytechnique, Universite de Montreal in Canada, and a master's degree in Optics
from Universite Laval in Canada.
PIERRE MARCOUILLER, CHAIRMAN OF THE BOARD AND CEO, CAMOPLAST INC.
Pierre Marcouiller is Chairman of the Board and Chief Executive Officer of
Camoplast Inc., a supplier of components to the recreational, agricultural,
motorized vehicles and automotive parts markets. Mr. Marcouiller holds a
bachelor's degree in Business Administration from the Universite du Quebec a
Trois-Rivieres in Canada and a master's degree in Business Administration from
the Universite de Sherbrooke in Canada.
DAVID A. THOMPSON, VICE-PRESIDENT, HARDWARE & EQUIPMENT TECHNOLOGY STRATEGY,
CORNING CABLE SYSTEMS
Dr. David Thompson has held various positions with Corning Inc., a manufacturer
of optical fiber and other products for the telecommunications, television and
other communications-related industries, since 1976. Dr. Thompson holds a
bachelor's degree in Chemistry from Ohio State University and a doctorate in
Inorganic Chemistry from the University of Michigan in the United States.
ANDRE TREMBLAY, PRESIDENT AND CEO, MICROCELL TELECOMMUNICATIONS INC.
Andre Tremblay has been President and Chief Executive Officer of Microcell
Telecommunications Inc., a wireless telecommunications provider, since May 1995.
Mr. Tremblay holds a bachelor's degree in Business Administration and a license
in Accounting from Universite Laval in Canada, as well as a master's degree in
Taxation from the Universite de Sherbrooke in Canada. He also attended the
Advanced Management Program at Harvard University.
MICHAEL UNGER, EXECUTIVE CONSULTANT
Michael Unger worked with Nortel Networks Limited, now Nortel Networks
Corporation, from 1962 to 2000. Mr. Unger's most recent position was President
of Nortel's Optical Networks Business Unit, which he held from May 1998 to April
2000. Mr. Unger holds a bachelor's degree in Science from Concordia University
in Canada.
MANAGEMENT AND CORPORATE OFFICERS
GERMAIN LAMONDE
Chairman of the Board, President
and Chief Executive Officer
DAVID FARRELL
President, EXFO Burleigh Products Group
SAMI YAZDI
President, EXFO Protocol
ALLAN FIRHOJ
General Manager, EXFO Photonic Solutions
BRUCE BONINI
Vice-President, North American Sales
JEAN-FRANCOIS BOULET
Vice-President, Customer Service
and Human Resources
STEPHEN BULL
Vice-President, Research and Development
JUAN-FELIPE GONZALEZ
Vice-President, International Sales
PIERRE PLAMONDON, CA
Vice-President, Finance
and Chief Financial Officer
KIMBERLEY OKELL
Corporate Secretary and Legal Counsel
EXFO o 2002 Annual Report o 53
CORPORATE GOVERNANCE PRACTICES
Both the Board of Directors and management recognize the importance of having
appropriate structures and procedures in place to support good corporate
governance practices. Throughout the year, the Board's Human Resources
Committee, which is responsible for corporate governance, examined EXFO's
practices, the new Toronto Stock Exchange corporate governance guidelines,
NASDAQ's proposed changes to its corporate governance rules and the provisions
of the Sarbanes-Oxley Act of 2002 that impose a new set of corporate governance
rules for Canadian companies with shares registered in the U.S. As a result,
certain changes have already been implemented and our efforts in this area will
continue in order to meet or surpass these new requirements as they come into
effect. As the last year has demonstrated, achieving best practices in corporate
governance is an ongoing process in an ever-changing context.
The Board of Directors believes that EXFO's corporate governance practices
comply with the Toronto Stock Exchange's current guidelines. As the U.S.
Securities and Exchange Commission issues new rules required under the
Sarbanes-Oxley Act, as the Toronto Stock Exchange's new guidelines come into
effect and as new NASDAQ rules are implemented, we will comply with these new
requirements. Further details about our corporate governance practices are
available in the proxy circular.
The present Board members were elected at our last Annual General Meeting of the
Shareholders, held on January 16, 2002.
RESPONSIBILITIES OF THE BOARD
The Board is responsible for the stewardship of our business and affairs by
reviewing, discussing and approving our strategic direction and organizational
structure as well as reviewing management's strategic planning on an annual
basis. The Board also identifies the principal risks of our business and reviews
our risk management systems on an annual and ongoing basis.
In addition to matters requiring Board approval under applicable laws, the Board
grants final approval with respect to each of the following: (i) the strategic
direction of EXFO; (ii) material contracts, acquisitions or dispositions of our
assets; and (iii) the annual operational plan and capital and operating budgets.
The Board is also responsible for the establishment and functioning of all Board
committees, the appointment of members to serve on such committees, their
compensation and their good standing. At regularly scheduled meetings of the
Board, the Directors receive, consider and discuss committee reports.
During the fiscal year ended August 31, 2002, the Board met a total of seven
times.
Mr. Michael Unger, chairman of the Human Resources Committee and independent
Director of EXFO, was appointed Lead Director this year. As such, he is
responsible for ensuring that the Board properly discharges its duties,
independent of management. The Lead Director is required to hold a minimum of
two meetings of the Board of Directors without management members present, and
additional meetings of independent Board members may be held at their request.
At the present time, EXFO has no formal procedures in place for recruiting new
Directors.
COMPOSITION OF THE BOARD
Our articles of incorporation provide for a Board of Directors with a minimum of
three and a maximum of twelve Directors. Our Board presently consists of five
Directors, four of whom are independent of management and free from any interest
and any business or other relationship which could, or could reasonably be
perceived to, materially interfere with a Director's ability to act with a view
to the best interests of EXFO, other than interests arising from shareholding.
Our Directors are elected at the Annual General Meeting of the Shareholders for
one-year terms and serve until their successors are elected or appointed, unless
they resign or are removed earlier.
Our Chairman of the Board and Chief Executive Officer, Mr. Germain Lamonde, is a
significant shareholder of EXFO as he has the ability to exercise a majority of
the votes for the election of the Board of Directors. Since the other four Board
members do not have interests in EXFO or relationships with either EXFO or Mr.
Lamonde, we believe that the interests of investors in EXFO, other than Mr.
Lamonde's, are fairly represented.
COMMITTEES OF THE BOARD
Board committees play a significant role in the discharge of Board duties and
obligations; committee chairs submit items for Board agendas and report on
committee activities. The members of these committees are appointed annually
and, in addition, the Board may appoint ad hoc committees periodically, as
needed. EXFO has a practice of permitting the Board, any committee thereof and
any individual Director to hire independent, external advisors at our expense.
The Audit Committee and the Human Resources Committee are entirely comprised of
unrelated Directors.
The following is a general description of the composition and general duties of
each Board committee as contained in its mandate as at the fiscal year ended
August 31, 2002.
54 o 2002 Annual Report o EXFO
AUDIT COMMITTEE
The Audit Committee reviews interim in-house financial statements and all annual
audited financial statements and related disclosure documents with management
and external auditors and approves them prior to public release. The Audit
Committee is responsible for reviewing our internal control systems with regard
to finance, accounting, legal compliance and ethical behavior. The Committee
meets regularly with external auditors, with and without management, to consider
the scope and results of their audits, including analysis of the adequacy of the
internal controls and the effect of the procedures relating to the outside
auditors' independence. The Committee also recommends to the Board the selection
of external auditors for appointment by the shareholders. The Audit Committee is
comprised of the following independent Directors: Mr. Andre Tremblay, Mr.
Michael Unger and Mr. Pierre Marcouiller. The Chair of the Audit Committee is
Mr. Tremblay.
Further to proposed changes to NASDAQ corporate governance rules and new
Securities and Exchange Commission rules flowing from the adoption of the
Sarbanes-Oxley Act, our Audit Committee charter will be revised during the
current financial year to ensure that we comply with all new requirements.
HUMAN RESOURCES COMMITTEE
The Human Resources Committee is responsible for assessing the performance and
establishing the annual compensation of all our senior officers, including the
CEO. This Committee also reviews and submits to the Board the salary structure
and the short-term and long-term incentive compensation programs for all our
employees. The Committee is responsible for the review and approval of the
employees who will receive options to purchase shares of EXFO in accordance with
policies established by the Board and the terms of the Stock Option Plan. In
addition, the Committee reports annually to the Board on the organizational
structure and a succession plan for senior management. The Board's corporate
governance practices are monitored by the Human Resources Committee, as is the
functioning of the Board and the powers, mandates and performance of the
committees. The remuneration to be paid by EXFO to the Directors is recommended
to the Board by the Human Resources Committee. The Human Resources Committee is
comprised of the following independent Directors: Dr. David A. Thompson, Mr.
Michael Unger and Mr. Pierre Marcouiller. The Chair of the Human Resources
Committee is Mr. Unger.
DISCLOSURE COMMITTEE
The Disclosure Committee is responsible for overseeing our disclosure practices.
The Disclosure Committee consists of the Chief Executive Officer, Chief
Financial Officer, Investor Relations and Corporate Development Director,
Communications Director, Manager of Financial Reporting and Accounting, as well
as Legal Counsel and Corporate Secretary.
SHAREHOLDER/INVESTOR COMMUNICATIONS AND FEEDBACK
EXFO has an Investor Relations Director who is responsible for facilitating
communications between senior management and EXFO's shareholders and financial
analysts. Communications to shareholders are disseminated through annual and
quarterly reports, press releases, the Annual General Shareholders' Meeting and
investor presentations. The Investor Relations Director receives and responds to
all shareholders' inquiries in an appropriate and timely manner. In
communications to senior management, the Investor Relations Director also
provides feedback from shareholders.
EXFO o 2002 Annual Report o 55
GLOSSARY
ACCESS NETWORK: Last link in a network between the customer premises and the
first point of connection to the network infrastructure--a point of presence
(PoP) on the edge of a metropolitan network or a central office (CO). Access
networks have, up to now, consisted primarily of passive, twisted-pair copper
wires, but there is a strong trend toward optical-fiber connections either
directly or very close to the customer (fiber-to-the-curb).
ATM: Asynchronous Transfer Mode. A data networking protocol used for
high-bandwidth, low-delay, connection-oriented, packet-like switching and
multiplexing.
CROSS-CONNECT: Optical cross-connect (OXC). Generally refers to an optical
switch with multiple ports (or channels) at both the input and the output. An
OXC allows any optical signal entering any input port to be directed to any
desired output port. Also see Lambda router.
DWDM: Dense Wavelength-Division Multiplexing. A technology that enables a single
optical fiber to carry multiple data channels (or wavelengths). Commercial DWDM
systems can have as many as 160 separate channels.
E1: European Digital Hierarchy standard used for transmitting data over an
optical network containing 30 voice channels at 2.048 Mb/s.
ENTERPRISE NETWORK: A network for a large business enterprise, generally
dominated by data transmission. This kind of network may comprise a number of
local area networks in various buildings on a campus that need to interface with
each other, as well as a central database management system and many client
workstations.
ETHERNET: Protocol for data networking. Ethernet networks typically operate at
10, 100 or 1000 Mb/s.
GIGABIT ETHERNET: A version of Ethernet that operates at 1 Gb/s (1000 Mb/s).
LAMBDA ROUTER: Also called a wavelength router, this device is part of the
broader class of optical cross-connects (OXC). A lambda router takes in a single
wavelength of light from a specific fiber-optic strand and recombines it into
another strand that is set on a different path. Lambda routers are positioned at
network junction points. Also see Cross-connect.
METROPOLITAN NETWORK: Metropolitan area network (MAN or metro). A network, often
ringed in structure, that covers an entire city and its suburbs.
MULTIPLEXER (MUX): A device that combines several different signals, typically
at different wavelengths, into one aggregate signal to be transported via a
single fiber (or transmission channel).
NANOPOSITIONING: A positioning technique used during optical component
manufacturing to align components with a precision measured in nanometers (one
billionth of a meter).
OC-192: A standard optical signal transmission rate of approximately 10 gigabits
per second. Equivalent to SDH STM-64. Optical layer: Commonly used to refer to
specific wavelengths or channels of a DWDM network. Each wavelength carries a
separate stream of data encoded in a light signal.
OPTICAL LAYER: Commonly used to refer to specific wavelengths or channels of a
DWDM network. Each wavelength carries a separate stream of data encoded in a
light signal.
OPTICAL SWITCH: A device that enables light signals in optical fibers to be
selectively transferred from one input port to a desired output port.
PHYSICAL LAYER: Commonly used to refer to the propagation medium of an optical
network, including the glass fiber and all in-line active and passive
components. Light signals, which are forms of encoded data, are transmitted over
this layer.
PROTOCOL LAYER: Commonly used to refer to the formatting rules for transmitting
data over an optical network. Networks send and receive data using industry-wide
formats; some examples are SONET, SDH, ATM and Ethernet.
PROTOCOL: A formal set of rules governing the format, timing, sequencing and
error control of data exchange across a network. Many protocols may be required
and used on a single network.
SDH: Synchronous Digital Hierarchy. Standardized by the International
Telecommunication Union (ITU-TSS). A protocol for transmitting information over
optical fiber.
SONET: Synchronous Optical NETwork. Standardized by the American National
Standards Institute (ANSI). A protocol for backbone networks, capable of
transmitting at extremely high speeds and accommodating gigabit-level bandwidth.
SPOT-CURING TECHNOLOGY: Technology by which a dose of energy of a specific
wavelength band and irradiance is used to cause an adhesive, encapsulant or
sealant to change from a liquid to a solid in a small area.
STORAGE AREA NETWORK (SAN): A special high-speed network that interconnects
different kinds of data storage devices with associated data servers on behalf
of a larger network of users. Within an enterprise, the data is typically stored
in other on-site computers, but can also be archived in a geographically remote
location for disaster recovery.
STM-64: Synchronous Transfer Module. Optical signal standards transmission rate,
part of SDH. STM-64 operates at a rate of 9953.28 Mb/s. Equivalent to SONET
OC-192.
VERTICAL-CAVITY SURFACE-EMITTING LASER (VCSEL): A semiconductor diode laser
whose cavity consists of mirrors surrounding an active light-emitting layer.
Light is emitted vertically from the surface, allowing the VCSEL device to be
tested while still on the wafer. In conventional semiconductor lasers, the
mirrors are positioned perpendicular to the active layer and the light is
emitted from the edge of the wafer.
VIRTUAL PRIVATE NETWORKING (VPN): One or more wide area network links over a
shared public network, typically over the Internet or an IP backbone from a
network service provider (NSP), that simulates the behavior of dedicated WAN
links over leased lines.
56 o 2002 Annual Report o EXFO
SHAREHOLDER INFORMATION
The common shares of EXFO are listed on the Toronto Stock Exchange under the
stock symbol "EXF" and on the NASDAQ Stock Exchange under the symbol "EXFO".
ANNUAL AND SPECIAL MEETING
The Annual and Special Meeting of Shareholders of EXFO Electro-Optical
Engineering Inc. will be held at the Musee du Quebec, Parc des
Champs-de-Bataille, Quebec City, Canada, on January 14, 2003, at 10:00 a.m.
Transfer Agents and Registrars
CIBC Mellon Trust Company
Montreal, Toronto and Vancouver, Canada
Mellon Investor Services, L.L.C.
New Jersey, USA
AUDITORS
PricewaterhouseCoopers LLP
INVESTOR RELATIONS CONTACT
Michael Lamanna
Director, Investor Relations and Corporate Development
Tel.: 1 418 683-0211, ext. 3731
E-mail: michael.lamanna@exfo.com
GENERAL ACCESS
EXFO Electro-Optical Engineering Inc.
465 Godin Avenue
Vanier (Quebec) G1M 3G7
Tel.: 1 418 683-0211 o 1 800 663-3936
E-mail: ir@exfo.com
www.exfo.com
This annual report is available in electronic format at www.exfo.com. It is also
available in print and on our Web site in French.
[GRAPHIC OMITTED]
[STOCK PERFORMANCE GRAPHS]
EXFO o 2002 Annual Report o 57
WORLDWIDE OFFICES
CORPORATE HEADQUARTERS
465 Godin Avenue, Vanier, Quebec G1M 3G7 CANADA
Tel.: 1 418 683-0211o Fax: 1 418 683-2170
EXFO AMERICA INC.
1201 Richardson Drive, Suite 260, Richardson, TX 75080 USA
Tel.: 1 800 663-3936o Tel.: 1 972 907-1505
Fax: 1 972 907-2297
EXFO EUROPE S.A.R.L.
Le Dynasteur 10/12, rue Andras Beck
92366 Meudon la Foret Cedex FRANCE
Tel.: +33.1.40.83.85.85o Fax: +33.1.40.83.04.42
EXFO ASIA-PACIFIC PTE LTD.
151 Chin Swee Road #03-29
Manhattan House, SINGAPORE 169876
Tel.: +65 6333 8241o Fax: +65 6333 8242
o EXFO CHINA
Beijing New Century Hotel Office Tower, Room 1754-1755
No. 6 Southern Capital Gym Road, Beijing 100044, P. R. CHINA
Tel.: +86 (10) 6849 2738o Fax: +86 (10) 6849 2662
Room 3208A, BLKA, World Trade Plaza
9 Fuhong Road, Futian District, Shenzhen 518033, P. R. CHINA
Tel.: +86 (755) 8369 0951/8369 0955o Fax: +86 (755) 8369 0817
o EXFO JAPAN
JP Hamacho Bldg.10F, Nihonbashi Hamacho 2-23-5 Chuo-ku, Tokyo 103-0007 JAPAN
Tel.: +81-3-5614-7014 o Fax: +81-3-5614-7015
EXFO PHOTONIC SOLUTIONS INC.
2260 Argentia Road, Mississauga, Ontario L5N 6H7 CANADA
Tel.: 1 800 668-8752 (USA and Canada) or 1 905 821-2600
Fax: 1 905 821-2055
EXFO BURLEIGH PRODUCTS GROUP INC.
7647 Main St. Fishers, Victor, NY 14564-8909 USA
Tel.: 1 585 924-9355o Fax: 1 585 924-9072
EXFO PROTOCOL INC.
2650 Marie-Curie, St-Laurent, Quebec H4S 2C3 CANADA
Tel.: 1 888 972-7666 (USA and Canada) or 1 514 856-2222o Fax: 1 514 856-2232
GNUBI COMMUNICATIONS, L.P.
4275 Kellway Circle, Addison, TX 75001 USA
Tel.: 1 866 464 6824 (USA and Canada) or 1 972 836-0100
Fax: 1 972 836-0164
[GRAPHIC OMITTED]
[MAP OF WORLD]
o Corporate Headquarters
o EXFO America
o EXFO Europe
o EXFO Asia-Pacific
o EXFO China
o EXFO Japan
o EXFO Photonic Solutions
o EXFO Burleigh Products Group
o EXFO Protocol
o gnubi communications
WWW.EXFO.COM
(C) 2002 EXFO Electro-Optical Engineering Inc. All rights reserved. Printed in
Canada.
[GRAPHIC OMITTED]
[LOGO -- EXFO]
Quebec, November 15, 2002
Re: Annual and Special Meeting of Shareholders
Dear Fellow Shareholder:
Fiscal 2002 proved to be a challenging year for the telecommunications industry
as a whole. Network service providers continued to decrease their capital
spending to improve their short-term financials and reduce their debt-loads
which, in turn, accelerated an industry-wide rationalization period. Some
players, however, were better able to mitigate the impact of this severe
downturn through sound management and a clear vision of where they are headed.
Clearly, I place EXFO in this select category because we proactively implemented
restructuring measures, focused on market-share gains and expanded our
addressable market. And we accomplished all of this while maintaining a strong
balance sheet. Following are some of our highlights for the past year:
o We released a record 25 new products to enhance our position with
network service providers and system vendors.
o We entered the fully complementary, high-margin protocol-layer test
sector with two strategic acquisitions.
o We increased sales by 12% and 5% sequentially during the last two
quarters.
o We re-engineered the whole organization to bring us closer to our
break-even level.
o We returned to positive cash-flow-from operations in the fourth
quarter.
o We maintained a cash position of approximately US$50 million with
practically no debt.
As we look ahead, I am confident that EXFO will be among the first telecom
companies to recover from this prolonged downturn. The reason for my cautious
optimism can best be summed up through our theme for this year's Annual and
Special Meeting (the "Meeting") of Shareholders: WELL DESIGNED. WELL
DIVERSIFIED. WELL POSITIONED.
You are cordially invited to attend the Meeting, which will be held at the Musee
du Quebec, Parc des Champs-de-Bataille, Quebec City, Canada, on January 14,
2003, at 10:00 a.m. (EST).
Details of the business to be conducted at the Meeting are provided in the
attached Management Proxy Circular and Notice of Annual Meeting of Shareholders.
It is important that your shares be represented at the Meeting. WHETHER OR NOT
YOU PLAN TO ATTEND THE MEETING, PLEASE COMPLETE, SIGN, DATE AND PROMPTLY RETURN
THE ACCOMPANYING PROXY IN THE ENCLOSED POSTAGE-PAID ENVELOPE. If you send in
your proxy card and then decide to attend the Meeting to vote your shares in
person, you may still do so. Your proxy is revocable in accordance with the
procedures set forth in the Management Proxy Circular.
On behalf of the Board of Directors, I would like to express our appreciation
for your continued interest in EXFO. We look forward to seeing you at the
Meeting.
Sincerely,
/s/ Germain Lamonde
--------------------------------------
Germain Lamonde
Chairman, President and
Chief Executive Officer
EXFO Electro-Optical Engineering Inc.
[GRAPHIC OMITTED]
[LOGO -- EXFO]
EXFO ELECTRO-OPTICAL ENGINEERING INC.
--------------------------
NOTICE OF ANNUAL AND SPECIAL MEETING OF SHAREHOLDERS
NOTICE IS HEREBY GIVEN that the Annual and Special Meeting (the
"Meeting") of shareholders of EXFO Electro-Optical Engineering Inc. (the
"Corporation") will be held at 10:00 a.m. local time, on Tuesday, January 14,
2003, at the Musee du Quebec, Parc des Champs-de-Bataille, Quebec City, Canada
for the following purposes:
1. to receive the consolidated financial statements of the Corporation for
the financial year ended August 31, 2002, and the Auditor's report
thereon;
2. to elect Directors of the Corporation;
3. to appoint PricewaterhouseCoopers LLP as auditors and to authorize the
Audit Committee to fix their remuneration;
4. to approve the amendments to the Corporation's Articles of
Incorporation as set forth in Schedule A to the Management Proxy
Circular appended hereto;
5. to confirm the amendments to the Corporation's General Code of By-Laws
adopted by the Board of Directors as set forth in Schedule B to the
Management Proxy Circular appended hereto; and
6. to transact such further or other business as may properly come before
the Meeting or any adjournment or adjournments thereof.
Enclosed is a copy of the 2002 Annual Report of the Corporation including the
consolidated financial statements and the Auditor's Report thereon, together
with the Management Proxy Circular and a form of Proxy.
DATED at Vanier, Quebec, this 15th day of November, 2002.
BY ORDER OF THE BOARD OF DIRECTORS
/s/ Kimberley Okell
----------------------------------
Kimberley Okell
Secretary
SHAREHOLDERS UNABLE TO ATTEND THE MEETING ARE REQUESTED TO COMPLETE THE ENCLOSED
PROXY FORM AND RETURN IT IN THE ENVELOPE PROVIDED. TO BE VALID, PROXIES MUST
REACH THE OFFICE OF CIBC MELLON TRUST COMPANY, 2001 UNIVERSITY STREET, SUITE
1600, MONTREAL, QUEBEC, CANADA, H3A 2A6, NO LATER THAN THE LAST DAY PRIOR TO THE
DATE OF THE MEETING OR ANY RECONVENING OF THE MEETING IN CASE OF ADJOURNMENT.
SHAREHOLDERS MAY ALSO HAVE THE PROXY FORM DELIVERED TO THE CHAIRMAN OF THE
MEETING PRIOR TO THE TIME OF VOTING ON THE DAY OF THE MEETING OR ANY ADJOURNMENT
THEREOF.
EXFO ELECTRO-OPTICAL ENGINEERING INC.
MANAGEMENT PROXY CIRCULAR OF THE CORPORATION
FOR THE ANNUAL AND SPECIAL MEETING OF SHAREHOLDERS
THIS PROXY IS SOLICITED BY THE MANAGEMENT OF THE CORPORATION
The undersigned shareholder of EXFO ELECTRO-OPTICAL ENGINEERING INC. hereby
appoints (CHECK EITHER (A) or (B)):
[_] (A) Mr. Germain Lamonde of Cap-Rouge, Quebec, or failing him, Mr.
Pierre Plamondon of Quebec, Quebec;
[_] (B) _____________________________ of ____________________________;
(Name) (Address)
as the representative of the undersigned to attend, act and vote on behalf of
the undersigned at the ANNUAL AND SPECIAL MEETING OF THE SHAREHOLDERS (THE
"MEETING") OF THE CORPORATION TO BE HELD AT THE MUSEE DU QUEBEC, LOCATED IN THE
PARC DES CHAMPS-DE-BATAILLE, QUEBEC CITY, PROVINCE OF QUEBEC, CANADA, ON
TUESDAY, JANUARY 14, 2003, AT 10:00 O'CLOCK A.M. (QUEBEC CITY TIME) AND AT ANY
ADJOURNMENTS OF SUCH MEETING.
THE UNDERSIGNED WISHES THAT ALL SHARES REPRESENTED BY THIS PROXY BE VOTED IN
ACCORDANCE WITH THE INSTRUCTIONS HEREINBELOW. ALL SHARES REPRESENTED BY THIS
PROXY WILL BE VOTED FOR, AGAINST OR BE THE SUBJECT OF ABSTENTIONS, AS SPECIFIED
BY THE SHAREHOLDER. HOWEVER, IN THE ABSENCE OF INSTRUCTIONS, THE SHARES
REPRESENTED BY PROXY WILL BE VOTED IN FAVOUR OF EACH OF THE PROPOSALS SET FORTH
HEREIN.
(MARK WITH AN X)
To elect Germain Lamonde, Pierre Marcouiller, FOR [_]
David A. Thompson, Andre Tremblay and Michael
Unger, whose cities of residence are indicated ABSTENTION [_]
in the Management Proxy Circular, as
Directors of the Corporation.
To appoint PricewaterhouseCoopers LLP as auditors FOR [_]
and to authorize the Audit Committee to fix their
remuneration. ABSTENTION [_]
To approve the amendments to the Corporation's FOR [_]
Articles of Incorporation as set forth in
Schedule A to the Management Proxy Circular AGAINST [_]
appended hereto.
To confirm the amendments to the Corporation's FOR [_]
General Code of By-Laws adopted by the Board of
Directors as set forth in Schedule B to the Management AGAINST [_]
Proxy Circular appended hereto.
A DISCRETIONARY POWER IS HEREBY CONFERRED as to any amendment or change made to
the matters mentioned in the Notice of Meeting or as to such other matters as
may legally come before the Meeting. The Management of the Corporation is not
aware of any amendments, changes or other matters that may come before the
Meeting.
* A SHAREHOLDER IS ENTITLED TO APPOINT, DATED this day of .
TO ATTEND AND ACT FOR AND ON BEHALF OF SUCH
SHAREHOLDER AT THE MEETING, A PERSON OTHER
THAN THE PERSON MENTIONED IN (A) HEREINABOVE __________________________________
AND MAY DO SO BY CHECKING (B) HEREINABOVE SIGNATURE OF SHAREHOLDER
AND ADDING THE NAME OF SUCH OTHER PERSON IN
THE SPACE RESERVED FOR SUCH PURPOSE.
[ ]
name of shareholder
[ ]
THIS PROXY MUST BE SIGNED BY THE SHAREHOLDER OR HIS PROXYHOLDER AUTHORIZED IN
WRITING OR, IF THE SHAREHOLDER IS A CORPORATION, UNDER ITS CORPORATE SEAL, BY A
DULY AUTHORIZED OFFICER OR PROXYHOLDER OF THE CORPORATION. PLEASE REMEMBER TO
DATE AND SIGN THIS PROXY. IF THIS PROXY IS NOT DATED, IT WILL BE DEEMED TO BEAR
THE DATE OF ITS MAILING BY MANAGEMENT.
YOU ARE REFERRED TO THE MANAGEMENT PROXY CIRCULAR APPENDED.
FRANCAIS AU VERSO
[GRAPHIC OMITTED]
[LOGO -- EXFO]
--------------------------------------------------------------------------------
NOTICE OF ANNUAL AND SPECIAL
MEETING OF SHAREHOLDERS
AND
MANAGEMENT PROXY CIRCULAR
--------------------------------------------------------------------------------
EXFO ELECTRO-OPTICAL ENGINEERING INC.
MANAGEMENT PROXY CIRCULAR
SOLICITATION OF PROXIES
THIS MANAGEMENT PROXY CIRCULAR IS PROVIDED IN CONNECTION WITH THE SOLICITATION
BY THE MANAGEMENT OF EXFO ELECTRO-OPTICAL ENGINEERING INC. (THE "CORPORATION" OR
"EXFO") OF PROXIES TO BE USED AT THE ANNUAL AND SPECIAL MEETING OF SHAREHOLDERS
(THE "MEETING") OF THE CORPORATION TO BE HELD AT THE TIME AND PLACE AND FOR THE
PURPOSES STATED IN THE ACCOMPANYING NOTICE OF MEETING AND AT ANY ADJOURNMENT
THEREOF. UNLESS OTHERWISE INDICATED, THE INFORMATION CONTAINED HEREIN IS GIVEN
AS OF NOVEMBER 15, 2002.
It is expected that the solicitation will be made primarily by mail but proxies
may also be solicited personally by officers, employees or agents of the
Corporation. The Corporation may also reimburse brokers and other persons
holding shares in their names, or in the names of nominees, for their costs
incurred in sending proxy material to principals and obtaining their proxies.
The cost of solicitation will be borne by the Corporation and is expected to be
nominal.
APPOINTMENT AND REVOCATION OF PROXIES AND ATTENDANCE OF BENEFICIAL SHAREHOLDERS
The persons named in the enclosed Form of Proxy (the "Form of Proxy") are
officers of the Corporation. A SHAREHOLDER DESIRING TO APPOINT SOME OTHER PERSON
(WHO NEED NOT BE A SHAREHOLDER) TO REPRESENT HIM OR HER AT THE MEETING MAY DO SO
BY INSERTING SUCH PERSON'S NAME IN THE BLANK SPACE PROVIDED IN THE FORM OF PROXY
AND CHECKING ITEM (B).
To be valid, proxies must be received at the Montreal, Canada office of CIBC
Mellon Trust Company, 2001 University Street, Suite 1600, Montreal, Quebec,
Canada, H3A 2A6, the transfer agent of the Corporation, no later than the close
of business on the last business day preceding the day of the Meeting or any
adjournment thereof, or proxies may be delivered to the Chairman of the Meeting
on the day of the Meeting or any adjournment thereof. A beneficial shareholder
who completes a Form of Proxy and who wishes to attend and vote at the Meeting
personally must appoint himself or herself proxy holder in the foregoing manner.
A proxy given pursuant to this solicitation may be revoked by instrument in
writing executed by the shareholder or by his or her attorney authorized in
writing if such instrument is deposited either at the registered office of the
Corporation to the attention of the Secretary no later than the close of
business on the last business day preceding the day of the Meeting or any
adjournment thereof or with the Chairman of the Meeting on the day of the
Meeting or any adjournment thereof.
1
VOTING OF PROXIES
The shares represented by proxies appointing the persons, or any one of them,
designated by Management thereon to represent the shareholder at the Meeting
will be voted in accordance with the instructions given by the shareholder.
UNLESS OTHERWISE INDICATED, THE VOTING RIGHTS ATTACHING TO THE SHARES
REPRESENTED BY A FORM OF PROXY WILL BE VOTED "FOR" IN RESPECT OF ALL THE
PROPOSALS DESCRIBED HEREIN.
The Form of Proxy confers discretionary authority upon the persons named therein
with respect to amendments or variations to matters identified in the
accompanying Notice of Meeting. As at the date hereof, Management is not aware
that any other matter is to be presented at the Meeting. If, however, other
matters properly come before the Meeting, the persons designated in the Form of
Proxy will vote thereon in accordance with their judgment pursuant to the
discretionary authority conferred by such proxy with respect to such matters.
VOTING SHARES AND PRINCIPAL HOLDERS THEREOF
As at November 15, 2002, 25,044,475 Subordinate Voting Shares and 37,900,000
Multiple Voting Shares were outstanding, being the only classes of shares
entitled to be voted at the Meeting. Each holder of Subordinate Voting Shares is
entitled to one vote and the holder of Multiple Voting Shares is entitled to 10
votes for each share registered in his or her name at the close of business on
November 29, 2002, being the date fixed by the Board of Directors for the
purpose of determining registered shareholders entitled to receive the
accompanying Notice of Meeting and to vote (the "Record Date"). A list of
shareholders entitled to vote as of the Record Date, showing the number of
shares held by each shareholder, shall be prepared within 10 days of the Record
Date. This list of shareholders will be available for inspection during normal
business hours at the Montreal, Canada office of CIBC Mellon Trust Company, the
transfer agent of the Corporation, 2001 University Street, Suite 1600, Montreal,
Quebec, Canada, H3A 2A6, and at the Meeting.
Unless otherwise indicated, the resolutions submitted to a vote at the Meeting
must be passed by a majority of the votes cast by the holders of Subordinate
Voting Shares and Multiple Voting Shares, as a single class, present at the
Meeting in person or by proxy and voting in respect of all resolutions to be
voted on by the shareholders of the Corporation.
To the knowledge of executive officers and directors of the Corporation, as of
November 15, 2002, the only person who is beneficial owner or exercised control
or direction, directly or indirectly, over shares carrying more than 10% of the
voting rights attaching to any class of shares of the Corporation is:
2
-----------------------------------------------------------------------------------------------------------
PERCENTAGE OF PERCENTAGE OF
VOTING RIGHTS PERCENTAGE OF VOTING RIGHTS
NUMBER OF ATTACHED TO NUMBER OF VOTING RIGHTS ATTACHED TO ALL
SUBORDINATE ALL MULTIPLE ATTACHED TO SUBORDINATE AND
VOTING SUBORDINATE VOTING ALL MULTIPLE MULTIPLE VOTING
NAME OF SHAREHOLDER SHARES(1) VOTING SHARES SHARES(2) VOTING SHARES SHARES
--------------------------- ------------- --------------- -------------- --------------- ------------------
Germain Lamonde 93,000 0.38% 37,900,000 100% 93.83%
-----------------------------------------------------------------------------------------------------------
------------------
(1) Mr. Lamonde exercises control over this number of Subordinate Voting
Shares through Placements Lamonde, SENC, a partnership controlled by
Mr. Lamonde.
(2) Mr. Lamonde exercises control over this number of Multiple Voting
Shares through G. Lamonde Investissements Financiers inc., a company
controlled by Mr. Lamonde and through Fiducie Germain Lamonde, a family
trust for the benefit of Mr. Lamonde and members of his family.
ELECTRONIC DELIVERY
The Corporation has commenced a voluntary program for e-mail notification to our
shareholders that documents which must be delivered pursuant to securities
legislation are available on EXFO's website. Every year, EXFO delivers
documentation to shareholders, such as this Management Proxy Circular and our
Annual Report, that must be delivered to shareholders of a public company by
law. EXFO would like to make this process more convenient for its shareholders
and proposes that shareholders who so wish, be notified by e-mail when the
Corporation's documentation is posted in the "Investors" section on its website
(www.exfo.com). Accordingly such documentation will not be sent in paper form by
mail. The Corporation believes that electronic delivery will benefit the
environment and reduce its costs. Shareholders who do not consent to receive
documentation by e-mail will continue to receive such documentation by mail.
Registered shareholders can consent to electronic delivery by completing and
returning the consent form accompanying this Circular to CIBC Mellon Trust
Company. Unregistered shareholders (i.e. shares are held through a securities
broker, bank, trust company or other nominee) can consent to electronic delivery
by completing and returning the appropriate form received from the applicable
intermediary.
BUSINESS TO BE TRANSACTED AT THE MEETING
PRESENTATION OF THE FINANCIAL STATEMENTS
The consolidated financial statements of the Corporation for the financial year
ended August 31, 2002 and the Auditors' report thereon contained in EXFO's
Annual Report accompanying this Circular will be submitted to shareholders at
the Meeting but no vote with respect thereto is required or proposed to be
taken.
ELECTION OF THE DIRECTORS
According to the articles of the Corporation, the Board of Directors shall
consist of a minimum of 3 and a maximum of 12 directors. At the Meeting,
Management proposes the 5 persons named hereafter on page 5 as nominees for
election as directors to hold office until the next annual meeting or until the
office is otherwise vacated in accordance with the Corporation's by-laws.
3
Management does not anticipate that any of the nominees will be unable, or for
any reason whatsoever, be reluctant to fulfill their duties as directors. Should
this occur for any reason whatsoever before the election, the persons named in
the Form of Proxy reserve the right to vote for another nominee of their choice
unless the shareholder specified on the Form of Proxy to abstain from voting for
the election of the directors.
APPOINTMENT AND REMUNERATION OF AUDITORS
A firm of auditors is to be appointed by vote of the shareholders at the Meeting
to serve as auditors of the Corporation until the close of the next annual
meeting. The Audit Committee is to be authorized to fix the remuneration of the
auditors so appointed. The Board of Directors and Management, upon the advice of
the Audit Committee, recommend that PricewaterhouseCoopers LLP be re-appointed
as Auditors of the Corporation. The re-appointment of PricewaterhouseCoopers LLP
must be approved by a majority of the votes cast on the matter at the Meeting.
AMENDMENT TO ARTICLES
As an item of special business, the shareholders will be asked at the Meeting to
adopt a special resolution, as set out in Schedule A hereto, making an amendment
to the Articles of Incorporation of EXFO.
The Corporation is governed by the CANADA BUSINESS CORPORATIONS ACT ("CBCA").
Effective November 24, 2001, major changes to the CBCA were enacted and the CBCA
now provides that a meeting of shareholders of a corporation may be held at a
place outside Canada if the place is specified in the Articles of Incorporation.
The Corporation has a shareholder base in the United States of America and the
Board of Directors and Management believe that EXFO should amend its Articles of
Incorporation to be in a position to avail itself, should the future development
of EXFO warrant it, of the possibility of holding annual shareholder meetings
outside Canada. However, the Corporation has no immediate intention to change
its practices in relation to shareholders meetings.
To be adopted, this special resolution must be approved by at least two-thirds
of the votes cast on the matter at the Meeting.
CONFIRMATION OF AMENDMENTS TO CODE OF GENERAL BY-LAWS
As an item of special business, the shareholders will be asked at the Meeting to
adopt a resolution, as set out in Schedule B hereto, confirming certain
amendments which have been made by the Board of Directors to the Corporation's
Code of General By-laws.
The Board of Directors amended certain sections of the Code of General By-laws
to reflect the recent amendments to the CBCA, including to permit the use of
electronic or other technologically enhanced means in relation to providing
notice and to participating and voting in meetings of shareholders and
Directors. Shareholders who would like a copy of the Code of General By-laws
blacklining the changes should contact EXFO's Investors Relations at
1-888-255-9303 extension 3703 or ir@exfo.com.
To be adopted, this resolution must be approved by a majority of the votes cast
on the matter at the Meeting.
4
NOMINEES FOR ELECTION AS DIRECTORS AND THEIR BENEFICIAL OWNERSHIP OF VOTING
SECURITIES
The following table and notes set out the name of each of the individuals whom
is proposed to be nominated at the Meeting for election as a director of the
Corporation, all other positions and offices with the Corporation and its
subsidiaries now held by each such individual, if any, the principal occupation
or employment of each such individual, their respective period of service as a
director and the approximate number of shares of the Corporation beneficially
owned by each such individual or over which each of them exercised control or
direction.
-----------------------------------------------------------------------------------------------------------
NUMBER OF NUMBER OF
SUBORDINATE MULTIPLE
NAME AND POSITION OR OFFICE PRINCIPAL OCCUPATION CITY OF VOTING VOTING
WITH THE CORPORATION OR EMPLOYMENT RESIDENCE DIRECTOR SINCE SHARES SHARES
------------------------------ --------------------- ------------- --------------- ------------ -----------
Germain Lamonde (1) Chairman of the Cap-Rouge, September 1985 93,000 37,900,000
Chairman of the Board, Board, President Quebec
President and Chief and Chief Executive
Executive Officer Officer, EXFO
Electro-Optical
Engineering Inc.
-----------------------------------------------------------------------------------------------------------
Pierre Marcouiller (2)(3) Chairman of the Magog, May 2000 5,000 --
Director Board and Chief Quebec
Executive Officer,
Camoplast Inc.
(a supplier of
automotive and
recreational
vehicle parts)
-----------------------------------------------------------------------------------------------------------
Dr. David A. Thompson, Vice-President, Newton, June 2000 2,100 --
Ph.D. (3) Hardware & North
Director Equipment Carolina
Technology
Strategy, Corning
Cable Systems
-----------------------------------------------------------------------------------------------------------
Andre Tremblay (2)(4) President and Chief Outremont, May 2000 7,000 --
Director Executive Officer, Quebec
Microcell
Telecommunications
Inc.
-----------------------------------------------------------------------------------------------------------
Michael Unger (2)(3) Executive Consultant Woodbridge, May 2000 -- --
Director Ontario
-----------------------------------------------------------------------------------------------------------
-----------------
(1) Mr. Lamonde exercises control over this number of Multiple Voting
Shares through G. Lamonde Investissements Financiers inc., a company
controlled by Mr. Lamonde and through Fiducie Germain Lamonde, a family
trust for the benefit of Mr. Lamonde and members of his family. He
exercises control over this number of Subordinate Voting Shares through
Placements Lamonde, SENC, a partnership controlled by Mr. Lamonde.
(2) Member of the Audit Committee.
(3) Member of the Human Resources Committee.
(4) Mr. Tremblay exercises control over this number of Subordinate Voting
Shares through 9044-6451 Quebec inc. and 9089-3082 Quebec inc.,
companies controlled by Mr. Tremblay.
The information as to Subordinate Voting Shares and Multiple Voting Shares
beneficially owned or over which the above-named individuals exercise control or
direction is not within the direct knowledge of the Corporation and has been
furnished by the respective individual.
5
COMPENSATION OF DIRECTORS AND EXECUTIVE OFFICERS
COMPENSATION OF DIRECTORS
In the financial year ended August 31, 2002, directors who were not employees
received CDN$25,000 (US$15,896) as annual compensation payable in the form of
cash, stock or stock options as chosen by the director. In addition, each
director was granted 12,500 stock options under the Corporation's Stock Option
Plan (the "Stock Option Plan") as part of his annual compensation. Fees of
CDN$1,000 (US$636) for each meeting of the Board of Directors or of a Committee
attended by them in person and fees of CDN$500 (US$318) if such participation
was made by telephone were also paid. Directors who are also committee members
received additional annual compensation of CDN$3,000 (US$1,908) per committee.
The Chairman of any Committee of the Board of Directors received a total
additional annual remuneration of CDN$5,000 (US$3,179). All amounts may be paid
in the form of cash, stock or stock options, as chosen by the director. In the
financial year ended August 31, 2002, 71,238 options were granted to directors
who were not employees under the Corporation's Stock Option Plan.
COMPENSATION OF NAMED EXECUTIVE OFFICERS
The table below shows certain compensation information for Mr. Germain Lamonde,
the Chairman of the Board, President and Chief Executive Officer of the
Corporation, and the 4 other most highly compensated executive officers of the
Corporation and its subsidiaries during the financial year ended August 31, 2002
(collectively, the "Named Executive Officers"). This information includes the US
dollar value of base salaries, bonus awards and long-term incentive plan
payments, the number of options granted, and certain other compensation, if any,
whether paid or deferred.
6
------------------------------------------------------------------------------------------------------------
OTHER ANNUAL SECURITIES ALL OTHER
NAME AND PRINCIPAL FINANCIAL SALARY BONUS (1) COMPENSATION UNDER COMPENSATION
POSITION YEAR (US$) (US$) (US$) OPTIONS (2)(#) (US$) (3)
---------------------- ----------- ------------ ----------- ---------------- --------------- ---------------
Germain Lamonde, 2002 174,758 21,329 -- 70,000 --
President and
Chief Executive 2001 180,044 99,024 -- 5,080 --
Officer
2000 134,932 63,566 -- 25,402 --
------------------------------------------------------------------------------------------------------------
Bruce Bonini, 2002 217,500 -- -- 20,000 7,042
Vice--President,
North American 2001 272,678(4) 33,450 -- 82,780 4,565
Sales
2000 309,801 20,000 -- 3,900 6,768
------------------------------------------------------------------------------------------------------------
David J. Farrell, 2002 184,500 -- -- 10,000 3,193
President, EXFO
Burleigh Products 2001 184,500(5) 16,326(8) -- 40,000 4,513(8)
Group Inc.
------------------------------------------------------------------------------------------------------------
Juan--Felipe 2002 158,193 -- -- 30,000 --
Gonzalez,
Vice--President, 2001 204,781(6) 129,629(9) -- 45,630 --
International Sales
2000 153,502 15,879 -- 6,900 --
------------------------------------------------------------------------------------------------------------
Sami Yazdi, 2002 111,210(7) 5,550 -- 50,000 --
President, EXFO
Protocol Inc.
------------------------------------------------------------------------------------------------------------
-----------------
(1) A portion of the bonus amounts is paid in cash in the year for which
they are awarded and the balance is paid in cash in the year following
the financial year for which they are awarded.
(2) Indicates the number of Subordinate Voting Shares underlying the
options granted under the Stock Option Plan during the financial year
indicated.
(3) Indicates the amount contributed by the Corporation during the
financial year indicated to the Deferred Profit Sharing Plan or the
401K plans, as applicable, for the benefit of the Named Executive
Officer. Mr. Lamonde is not eligible to participate in the Deferred
Profit Sharing Plan and Mr. Gonzalez did not participate.
(4) This amount includes an amount of US$28,654 paid as a retroactive
adjustment to salary for the financial year ended August 31, 2000.
(5) This amount represents Mr. Farrell's base annual salary. Since he
joined the Corporation on December 20, 2000, the base salary paid to
him for the financial year ended August 31, 2001 amounted to
US$134,097.
(6) This amount includes an amount of US$4,935 paid as a retroactive
adjustment to salary for the financial year ended August 31, 2000.
(7) This amount represents Mr. Yazdi's base annual salary. Since he joined
the Corporation on November 2, 2001, the base salary paid to him for
the financial year ended August 31, 2002 amounted to US$90,959.
(8) This is the amount paid or payable for the financial year ended August
31, 2001 to Mr. Farrell, as applicable, since December 20, 2000, the
date that he joined the Corporation.
(9) This amount includes an amount of US$2,771 paid as a retroactive
adjustment to bonus for the financial year ended August 31, 2000.
Other than its Stock Option Plan, Restricted Stock Award Plan and Stock
Appreciation Rights Plan, which are described below in the "Report on Executive
Compensation by the Human Resources Committee - Long-Term Incentive
Compensation", the Corporation does not have any other formal long-term
incentive plans. However, pursuant to the terms of his employment agreement, Mr.
Juan-Felipe Gonzalez is entitled to receive a cash payment of CDN$750,000 if he
has not voluntarily resigned or been dismissed with cause prior to September
2003.
7
SHARE PLAN
In September 1998, the Corporation adopted a share purchase plan for officers,
directors and key employees, as amended in April 2000. On April 3, 2000, the
Corporation adopted a new share plan which replaced the 1998 share plan and on
June 29, 2000, at the time of the Corporation's initial public offering, all of
the 707,264 Class "F" shares issued and fully paid under this plan were
converted into Subordinate Voting Shares. No additional shares will be issued
under the new share plan. The new share plan requires the Subordinate Voting
Shares to be held in trust by a trustee until August 31, 2004, except for
249,977 Subordinate Voting Shares which will be released between October 21,
2003 and January 20, 2004. The new share plan provides for the earlier release
of these Subordinate Voting Shares in the event the employment of a holder of
Subordinate Voting Shares terminates or upon the occurrence of a change of
control and establishes conditions pursuant to which the Subordinate Voting
Shares of a holder under this plan are to be sold by the trustee on the public
market. For example, if the employment is terminated before the end of the trust
period for reasons other than death, retirement, disability or without cause,
the trustee will, on instructions from the Corporation, sell the holder's
Subordinate Voting Shares on the public market, reimburse the lesser of the
proceeds of sale or the purchase price paid by the holder plus 8% interest
annually, with the balance being paid to the Corporation. As of August 31, 2002,
654,683 Subordinate Voting Shares were being held in trust under the plan.
The following table shows the breakdown, as of August 31, 2002, of the
Subordinate Voting Shares that have been allocated and released from trust to
the Named Executive Officers.
-----------------------------------------------------------------------------------------------------------
SUBORDINATE VALUE OF SUBORDINATE
SUBORDINATE VOTING SHARES VOTING SHARES
VOTING RELEASED RELEASED FROM TRUST
NAME OF EXECUTIVE OFFICERS SHARES ALLOCATED (1)(#) FROM TRUST (#) (CDN$)
---------------------------------- ------------------------ --------------------- -------------------------
Germain Lamonde (2) -- -- --
-----------------------------------------------------------------------------------------------------------
Bruce Bonini 49,324 -- --
-----------------------------------------------------------------------------------------------------------
David J. Farrell(3) -- -- --
-----------------------------------------------------------------------------------------------------------
Juan-Felipe Gonzalez 51,452 -- --
-----------------------------------------------------------------------------------------------------------
Sami Yazdi (3) -- -- --
-----------------------------------------------------------------------------------------------------------
----------------
(1) If the employment is terminated before the end of the trust period for
reasons other than death, retirement, disability or without cause, the
trustee will, on instructions from the Corporation, sell the holder's
Subordinate Voting Shares on the public market, reimburse the lesser of
the proceeds of sale or the purchase price paid by the holder plus 8%
interest annually, with the balance being paid to the Corporation.
(2) Mr. Lamonde does not participate in the Share Plan.
(3) Mr. Farrell joined the Corporation in December 2000 and Mr. Yazdi in
November 2001, and as such, were not eligible to participate in the
Share Plan.
DEFERRED PROFIT SHARING PLAN
The Corporation maintains a deferred profit sharing plan for certain
eligible Canadian resident employees. Under this plan, the Corporation may
contribute an amount equal to 1% of each employee's gross salary to that
employee's individual deferred profit sharing plan to the extent
8
that such employee contributes at least 2% of his or her gross salary to his or
her individual tax-deferred registered retirement savings plan. In the year
ended August 31, 2002, as a cost control measure, the Corporation temporarily
and indefinitely suspended its contributions under this plan commencing in June
2002. In the financial year ended August 31, 2002, the aggregate amount of
contributions under the plan was US$88,000 (CDN$136,000). Mr. Germain Lamonde is
not entitled to participate in this plan.
401K PLAN
The Corporation maintains a 401K plan for eligible United States resident
employees of its subsidiaries. Under this plan, the Corporation may elect to
contribute an amount of up to 50% of the first 6% of an employee's current
compensation, subject to certain legislated maximum contribution limits. During
the financial year ended August 31, 2002, the Corporation recorded contributions
totaling US$317,000.
OPTION GRANTS IN LAST FINANCIAL YEAR
The aggregate number of Subordinate Voting Shares covered by options granted
during the financial year ended August 31, 2002 was 896,975 (net of cancelled
options due to employment terminations) at a weighted average exercise price of
US$10 (CDN$15.73) per Subordinate Voting Share. At the end of financial year
ended August 31, 2002, there were 2,597,574 Subordinate Voting Shares covered by
options granted and outstanding pursuant to the Stock Option Plan having a
weighted average exercise price of US$22. The table below shows information
regarding stock option grants made to the Named Executive Officers under the
Stock Option Plan during the financial year ended August 31, 2002. See "Report
on Executive Compensation by the Human Resources Committee - Long-Term Incentive
Compensation" for a description of the Stock Option Plan.
-----------------------------------------------------------------------------------------------------------
PERCENTAGE OF MARKET VALUE OF
NET TOTAL OF SECURITIES
SECURITIES OPTIONS GRANTED UNDERLYING
UNDER OPTIONS TO EMPLOYEES IN EXERCISE OR OPTIONS ON THE
GRANTED(1) FINANCIAL YEAR BASE PRICE (2) DATE OF GRANT
NAME (#) (%) (US$/SECURITY) (US$/SECURITY)(3) EXPIRATION DATE
---------------------- --------------- ---------------- ---------------- ----------------- ----------------
Germain Lamonde 70,000 7.8% 9.13 9.01 October 10, 2011
-----------------------------------------------------------------------------------------------------------
Bruce Bonini 5,000 0.6% 12.22 12.42 January 3, 2012
15,000 2.3% 9.13 9.01 October 10, 2011
-----------------------------------------------------------------------------------------------------------
David J. Farrell 10,000 1.2% 9.13 9.01 October 10, 2011
-----------------------------------------------------------------------------------------------------------
Juan-Felipe Gonzalez 15,000 1.7% 12.22 12.42 January 3, 2012
15,000 1.7% 9.13 9.01 October 10, 2011
-----------------------------------------------------------------------------------------------------------
Sami Yazdi 50,000 5.6% 10.86 10.68 November 2, 2011
-----------------------------------------------------------------------------------------------------------
-------------------
(1) Underlying securities: Subordinate Voting Shares.
(2) The exercise price of options granted is determined based on the
highest of the closing prices of the Subordinate Voting Shares on The
Toronto Stock Exchange and the NASDAQ National Market on the last
trading day preceding the grant date, using the noon buying rate of the
Federal Reserve Bank of New York on the grant date to convert the
NASDAQ National Market closing price to Canadian dollars, as required.
Options vest at a rate of 25% annually commencing on the first
anniversary date of the grant.
(3) Based on the closing price on the NASDAQ National Market on the date of
the grant.
9
AGGREGATED OPTION EXERCISES IN LAST FINANCIAL YEAR AND FINANCIAL YEAR END OPTION
VALUES
The following table summarizes, for each of the Named Executive Officers, the
number of stock options, if any, exercised during the financial year ended
August 31, 2002, the aggregate value realized upon exercise and the total number
of unexercised options, if any, held at August 31, 2002. Value realized upon
exercise is the difference between the market value of the underlying
Subordinate Voting Shares on the exercise date and the exercise or base price of
the option. The value of unexercised in-the-money options at financial year-end
is the difference between its exercise or base price and the market value of the
underlying Subordinate Voting Shares on August 31, 2002, which was US$2.13 per
share. These values, unlike the amounts set forth in the column "Aggregate Value
Realized," have not been, and may never be, realized. The underlying options
have not been, and may never be exercised, and actual gains, if any, on exercise
will depend on the value of the Subordinate Voting Shares on the date of
exercise. There can be no assurance that these values will be realized.
Unexercisable options are those that have been held for less than the time
required for vesting. See "Report on Executive Compensation by the Human
Resources Committee - Long-Term Incentive Compensation."
------------------------------------------------------------------------------------------------------------
VALUE OF UNEXERCISED
UNEXERCISED OPTIONS "IN-THE-MONEY" OPTIONS AT
AGGREGATE AT AUGUST 31, 2002 AUGUST 31, 2002 (1)
SECURITIES VALUE ------------------------------ ------------------------------
ACQUIRED ON REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE(2)
NAME EXERCISE (#) (US$) (#) (#) (US$) (US$)
---------------------- ------------ ---------- --------------- -------------- ------------- ----------------
Germain Lamonde -- -- 13,971 86,511 -- --
------------------------------------------------------------------------------------------------------------
Bruce Bonini -- -- 22,645 84,035 -- --
------------------------------------------------------------------------------------------------------------
David J. Farrell -- -- 10,000 40,000 -- --
------------------------------------------------------------------------------------------------------------
Juan-Felipe Gonzalez -- -- 14,857 67,673 -- --
------------------------------------------------------------------------------------------------------------
Sami Yazdi -- -- -- 50,000 -- --
------------------------------------------------------------------------------------------------------------
--------------------
(1) "In-the-money" options are options for which the market value of the
underlying securities is higher than the price at which such securities
may be bought from the Corporation.
(2) The value of unexercised "in-the-money" options is calculated using the
highest of the closing prices of the Subordinate Voting Shares on The
Toronto Stock Exchange and on the NASDAQ National Market on August 31,
2002 using the noon buying rate of the Federal Reserve Bank of New York
to convert the NASDAQ National Market closing price to Canadian
dollars, as required, less the exercise price of "in-the-money"
options.
TERMINATION OF EMPLOYMENT, CHANGE IN RESPONSIBILITIES AND EMPLOYMENT CONTRACTS
The Corporation has an employment agreement with Germain Lamonde. The agreement
provides for Mr. Lamonde's employment as President and Chief Executive Officer
at a base salary applicable from September 1, 2001 to August 31, 2002 of
CDN$275,000 (approximately US$174,758) per year. In addition, an annual bonus of
CDN$137,500 (approximately US$87,429) will be payable if the Corporation's
performance-based objectives are met. If the Corporation's performance
objectives are not met or are exceeded, such bonus will be lesser or greater in
a proportional amount, as applicable. The agreement is for an indeterminate
period and the salary is reviewed annually. In the event of the termination of
Mr. Lamonde's employment without cause, Mr. Lamonde will be entitled to
severance payments (in no case exceeding 24 months of remuneration) and the
vesting of all stock options. In addition, in the event that Mr. Lamonde's
employment is terminated following a merger or an acquisition by a third party
of substantially all of the Corporation's assets or of the majority of its share
capital or if Mr. Lamonde voluntarily resigns, he will be entitled to the
vesting of all stock options.
10
The Corporation also has employment agreements with Mr. Bruce Bonini and Mr.
Juan-Felipe Gonzalez, and its subsidiaries, EXFO Burleigh Products Group Inc.
(formerly Burleigh Instruments, Inc.) and EXFO Protocol Inc., have employment
agreements with Mr. David J. Farrell and Mr. Sami Yazdi respectively.
The agreement with Mr. Bonini provides for Mr. Bonini's employment as
Vice-President, North American Sales at a base salary of US$145,000, plus
commissions of US$145,000 if sales objectives are met, for the period from
September 1, 2001 to August 31, 2002. If sales objectives are not attained or
are exceeded, commissions will vary accordingly. The agreement is for an
indeterminate period and salary is reviewed annually. In addition, bonuses
totaling US$16,000 will be payable if various performance-based objectives are
met. If performance objectives are exceeded, such bonus will be greater in a
proportional amount. In the event Mr. Bonini's employment terminates for any
reason whatsoever and he is unable to accept new employment due to his
non-competition obligations to the Corporation, Mr. Bonini may receive
compensation for a period of 18 months following the date of termination in
amounts varying from 5% to 125% of his base monthly salary at the time of
termination depending on the cause of the termination.
The agreement between EXFO Burleigh Products Group Inc. ("Burleigh") and Mr.
Farrell provides for Mr. Farrell's employment as President of Burleigh at an
annual base salary of US$184,500. The agreement is for an indeterminate period
and salary is reviewed annually. In the event of termination of Mr. Farrell's
employment other than for cause, Mr. Farrell will be entitled to severance
payments equivalent to 6 months of remuneration. In the event of Mr. Farrell's
termination due to a merger or acquisition by a third party of substantially all
of Burleigh's assets or of the majority of its share capital, Mr. Farrell shall
be entitled to severance benefits ranging from 6 to 12 months of remuneration,
based on his length of service with Burleigh since such merger or acquisition.
The agreement with Mr. Gonzalez provides for Mr. Gonzalez's employment as
Vice-President International Sales at a base salary of US$120,753, plus
commissions on sales of US$74,952, for the period from September 1, 2001 to
August 31, 2002. If sales objectives are not attained or are exceeded,
commissions will vary accordingly. The agreement is for an indeterminate period
and salary is reviewed annually. In addition, bonuses totaling US$32,000 will be
payable if various performance-based objectives are met. If performance
objectives are exceeded, such bonus will be greater in a proportional amount. In
addition Mr. Gonzalez shall be paid a bonus of CDN$750,000 if he has not
voluntarily resigned or been dismissed with cause prior to September 2003. In
the event Mr. Gonzalez's employment terminates for any reason whatsoever and he
is unable to accept new employment due to his non-competition obligations to the
Corporation, Mr. Gonzalez may receive compensation for a period of 18 months
following the date of termination in amounts varying from 5% to 50% of his base
monthly salary at the time of termination depending on the cause of the
termination.
The agreement between EXFO Protocol Inc. ("EXFO Protocol") and Mr. Yazdi
provides for Mr. Yazdi's employment as President of EXFO Protocol at an annual
base salary of CDN$175,000 (US$111,210). In addition, an annual bonus of
CDN$43,750 (US$27,818) will be payable if performance-based objectives are met.
If such performance objectives are not met or are exceeded, such bonus will be
lesser or greater in a proportional amount, as applicable. The agreement is for
an indeterminate period and salary is reviewed annually. In the event of
termination of Mr. Yazdi's employment other than for cause, Mr. Yazdi will be
entitled to severance payments equivalent to 6 months of remuneration.
11
REPORT ON EXECUTIVE COMPENSATION BY THE HUMAN RESOURCES COMMITTEE
MEMBERS OF THE HUMAN RESOURCES COMMITTEE
During the financial year ended August 31, 2002, the Human Resources Committee
was composed of Michael Unger, as Chairman, Pierre Marcouiller and David A.
Thompson, none of whom were officers or employees, or former officers or
employees, of the Corporation or its subsidiaries.
HUMAN RESOURCES COMMITTEE MANDATE
The Human Resources Committee is a committee of the Board of Directors. It is
responsible for assessing the performance and establishing the annual
compensation of all the Corporation's executive officers, including the
President and Chief Executive Officer. This Committee also reviews and submits
to the Board the salary structure and the short-term and long-term incentive
compensation programs for all employees of the Corporation. Though the Committee
is responsible for the review and approval of the employees that will receive
options to purchase shares of the Corporation, in accordance with policies
established by the Board and the terms of the Stock Option Plan, these functions
have been shared by the Board of Directors and the Human Resources Committee
during the period from September 1, 2001 to August 31, 2002. The remuneration to
be paid by the Corporation to its Directors is recommended to the Board by the
Human Resources Committee.
Since September 1, 2001, the Human Resources Committee held six meetings prior
to November 15, 2002.
COMPENSATION OF CHIEF EXECUTIVE OFFICER
In establishing Mr. Lamonde's salary for the year ending August 31, 2001, the
Corporation relied on a study completed by an independent consulting firm. Such
study indicated average salaries and bonuses, median salaries and bonuses and
maximum salaries and bonuses paid to chief executive officers by Canadian and
American computer hardware and software companies as well as by a specific group
of companies active in the fiber optics industry identified by the Corporation
that it considers to be the best available comparisons. It was decided that Mr.
Lamonde's salary and bonus reflected the median of Canadian computer hardware
and software companies and of the specific group of companies in fiber optics
identified by the Corporation. In the financial year ended August 31, 2002, in
accordance with the Corporation's cost reduction efforts, all salaries,
including that of Mr. Lamonde, were frozen.
In the financial year ended August 31, 2002, the bonus portion of Mr. Lamonde's
salary was tied to the financial and strategic objectives of the Corporation
based on the following factors: sales, earnings and customer satisfaction
(quality and production). Mr. Lamonde's bonus is payable in the same proportion
at which the Corporation attains such objectives. When the objectives are
exceeded, the bonus is higher; when objectives are not met, the bonus is lower.
12
SHORT-TERM INCENTIVE COMPENSATION
The short-term incentive plan offers bonuses tied to the Corporation's financial
performance and the achievement of strategic corporate and business unit
objectives established on a yearly basis.
In the case of the Named Executive Officers eligible for incentive bonuses in
the year ended August 31, 2002, such bonuses constituted a certain percentage of
base salary which is tied to the achievement of the financial and strategic
objectives of the Corporation based on the following factors: sales, earnings
and customer satisfaction (quality and production). When such objectives are
exceeded, bonuses are higher; when objectives are not met, the incentive bonuses
are lower.
LONG-TERM INCENTIVE COMPENSATION
STOCK OPTION PLAN
The principal component of the long-term incentive compensation offered by the
Corporation is made up of the Stock Option Plan for directors, officers and
employees of the Corporation and its subsidiaries and persons or companies
providing ongoing management or consulting services ("consultants") to the
Corporation and its subsidiaries.
Introduced in May 2000, the Stock Option Plan is designed to motivate directors,
officers, employees and consultants to share interest with the Corporation's
shareholders over the long-term. It is subject to Human Resources Committee
review to ensure maintenance of its market competitiveness. The Board has full
and complete authority to interpret the Plan and to establish the rules and
regulations applying to it and to make all other determinations it deems
necessary or useful for the administration of the Plan, provided that such
interpretations, rules, regulations and determinations are consistent with the
rules of all stock exchanges on which the securities of the Corporation are then
traded and with all relevant securities legislation.
The Stock Option Plan provides for the issuance of options to directors,
officers, employees and consultants to purchase Subordinate Voting Shares. The
Board of Directors designates the recipients of options and determines the
number of Subordinate Voting Shares covered by each option, the date of vesting,
the expiry date and any other conditions relating to these options, in each case
in accordance with the applicable legislation of the securities regulatory
authorities. During the financial year ended August 31, 2002, the Corporation
maintained a policy of granting a fixed number of options to all of its new
employees, and to employees of subsidiaries, such number being determined in
relation to employment categories. Additional options are granted pursuant to
promotions. In addition, further options may be granted based on merit.
The exercise price of the options is determined by the Board of Directors at the
time of granting the options, subject to compliance with the rules of all stock
exchanges on which the Subordinate Voting Shares are listed and with all
relevant securities legislation. In any event, the price at which the
Subordinate Voting Shares may be purchased may not be lower than the highest of
the closing prices of the Subordinate Voting Shares on The Toronto Stock
Exchange and the NASDAQ National Market on the last trading day preceding the
grant date, using the noon buying rate of the Federal Reserve Bank of New York
on the grant date to convert the NASDAQ National Market closing price to
Canadian dollars. Any option issued is non-transferable.
The maximum number of Subordinate Voting Shares that are issuable under the Plan
shall not exceed 4,470,961 Subordinate Voting Shares, which represents 7% of the
Corporation's issued and outstanding share capital as of November 15, 2002. The
maximum number of Subordinate
13
Voting Shares that may be granted to any one individual shall not exceed 5% of
the number of outstanding Subordinate Voting Shares.
Except for certain options granted to Directors of the Corporation, options vest
on a cumulative basis at a rate of 25% annually commencing on the first
anniversary date of their grant and may be exercised in whole or in part once
vested. All of the options that are granted under the Plan must be exercised
within a maximum period of 10 years following the date of their grant or they
will be forfeited. Some options granted to Directors vest on the first
anniversary date of their grant and may be exercised in whole or in part once
vested.
Any option granted pursuant to the Stock Option Plan will lapse (i) immediately
upon the termination of the relationship with the Corporation or one of its
subsidiaries for a good and sufficient cause for employees or officers or at the
date on which an employee or an officer resigns or leaves his employment with
the Corporation or one of its subsidiaries (or within 30 days if the holder is
dismissed without cause), and (ii) 30 days after a Director ceases to be a
member of the Board of Directors of the Corporation or one of its subsidiaries.
In the event of retirement or disability, any option held by an employee lapses
30 days after the date of any such disability or retirement. In the event of
death, any option held by the optionee lapses 6 months after the date of death.
The following table summarizes information about stock options granted to the
members of the Board of Directors, and to Management and corporate officers of
the Corporation and its subsidiaries as at August 31, 2002:
--------------------------------------------------------------------------------------------------------------
WEIGHTED AVERAGE
NUMBER OF % OF ISSUED AND EXERCISE PRICE
OPTIONS OUTSTANDING OPTIONS ($US/SECURITY)
----------------------------------------------- --------------- ---------------------- -----------------------
President and CEO (one individual) 100,482 3.87% 14.06
--------------------------------------------------------------------------------------------------------------
Board of Directors (four individuals) 80,838 3.11% 10.95
--------------------------------------------------------------------------------------------------------------
Management and corporate officers (ten 429,155 16.52% 21.82
individuals)
--------------------------------------------------------------------------------------------------------------
RESTRICTED STOCK AWARD PLAN
The EXFO Electrical-Optical Engineering Restricted Stock Award Plan (the "RSAP")
was established to provide a means through which employees of Burleigh can be
granted awards of restricted shares ("Restricted Shares") of Subordinate Voting
Shares to promote retention and foster identity of interest between stockholders
and employees of Burleigh.
The effective date of the RSAP is December 20, 2000. The expiration date of the
RSAP is the business day next following the final grant of Restricted Shares
under the RSAP, which was December 20, 2000. However, the administration of the
RSAP shall continue until all awards of Restricted Shares have been forfeited or
settled. The aggregate number of shares subject to the RSAP is 360,000. Stock
awards granted under the RSAP vest over a 4 year period, with 25% vesting on an
annual basis commencing on the first anniversary of the date of grant. The Human
Resources Committee administers the RSAP.
Awards of Restricted Shares are subject to forfeiture and restrictions on
transfer until the Restricted Shares become vested at which point a stock
certificate will be issued to a participant with respect to the number of vested
shares, which are then freely transferable. Restricted Shares become vested,
subject to a participant's continued employment with the Corporation or its
14
affiliates, on each of the first four anniversaries of the date of grant of an
award of Restricted Shares.
Upon a participant's termination of employment with the Corporation or any of
its affiliates due to the participant's death, disability or retirement on or
after age 60, the participant's award of restricted shares becomes fully vested
and is no longer subject to forfeiture. However, the transfer restrictions
remain in place until the occurrence of the vesting dates originally
contemplated by the award.
Upon the voluntary resignation of a participant, the termination of a
participant's employment for cause, the termination of a participant who is not
designated a member of Burleigh's "Management Team" without cause prior to a
change in control of the Corporation or a termination without cause of a
participant who is designated a member of Burleigh's Management Team that is
initiated by Burleigh prior to a change in control of the Corporation, the
unvested portion of the participant's award of Restricted Shares will be
forfeited. However the RSAP provides discretion to the Human Resources Committee
in the application of the forfeiture provisions where a change in circumstances
renders such action appropriate. During the financial year ended August 31,
2002, the Corporation was required to lay off forty-two (42) participants as a
result of restructuring due to a sharp downturn in the Corporation's market. At
that time, the Human Resources Committee decided that the awards of RSAP
participants affected by the lay-offs would not be subject to forfeiture, though
the transfer restrictions would remain in place until the occurrence of the
vesting dates originally contemplated by the award.
Upon the termination without cause of a participant who is designated a member
of Burleigh's Management Team that is initiated by the Corporation or a
termination of a participant's employment without cause following a change in
control of the Corporation, a participant's award of Restricted Stock will
become fully vested and all restrictions will lapse.
In the event of a change in control, the committee administering the RSAP may in
its discretion remove restrictions on Restricted Shares or provide for the
cancellation of awards in exchange for payment in respect of the Restricted
Shares subject to an award.
STOCK APPRECIATION RIGHTS PLAN
On August 4, 2001, the Corporation established a Stock Appreciation Rights Plan
("SAR Plan") for the benefit of certain employees residing in countries where
the granting of options under the Stock Option Plan is not feasible in the
opinion of the Corporation. The Board has full and complete authority to
interpret the SAR Plan and to establish the rules and regulations applying to it
and to make all other determinations it deems necessary or useful for the
administration of the SAR Plan.
Under the SAR Plan, eligible employees are entitled to receive a cash amount
equivalent to the difference between the market price of the Subordinate Voting
Shares on the date of exercise and the exercise price determined on the date of
grant. No Subordinate Voting Shares are issuable under the SAR Plan.
The Board of Directors has delegated to Management the task of designating the
recipients of stock appreciation rights, the date of vesting, the expiry date
and other conditions. Under the terms of the SAR Plan, the exercise price of the
stock appreciation rights may not be lower than the highest of the closing
prices of the Subordinate Voting Shares on The Toronto Stock Exchange and on the
NASDAQ National Market on the last trading day preceding the grant date,
15
using the noon buying rate of the Federal Reserve Bank of New York on the grant
date to convert the NASDAQ National Market closing price to Canadian dollars.
Stock appreciation rights are non-transferable.
The stock appreciation rights vest over a four-year period, with 25% vesting
annually commencing on the first anniversary date of the date of grant. Once
vested, stock appreciation rights may be exercised between the second and the
fifteenth business day following each release of the Corporation's quarterly
financial results. All of the stock appreciation rights that are granted under
the SAR Plan may be exercised within a maximum period of 10 years following the
date of their grant. Any stock appreciation rights granted under the SAR Plan
will lapse immediately upon the termination of the relationship with the
Corporation or one of its subsidiaries for a good and sufficient cause or at the
date on which an employee resigns or leaves his employment with the Corporation
or one of its subsidiaries (or within 30 days if the holder is dismissed without
cause). In the event of retirement or disability, any stock appreciation right
held by an employee lapses 30 days after the date of any such disability or
retirement. In the event of death, any stock appreciation right lapses 6 months
after the date of death.
COMPENSATION PLAN CONTROL AND REVIEW
As a general practice, the Corporation's relative position in terms of
compensation levels is determined annually through studies performed by
independent consulting firms using a selected reference market of comparable
companies. In addition, internal pay equity studies are a key factor to complete
the compensation review process and indicate where necessary adjustments may be
required. However, during the fiscal year ended August 31, 2002, salaries were
frozen in accordance with the Corporation's cost reduction efforts and these
general practices were temporarily suspended.
CONCLUSION
By way of application of the Corporation's executive compensation policy, an
important part of executive compensation is linked to corporate performance and
particularly to stock performance and long-term improvement. The Human Resources
Committee continuously reviews executive compensation programs to ensure that
they maintain their competitiveness and continue to focus on the Corporation's
objectives, values and business strategies.
Depending on specific circumstances, the Committee may also recommend employment
terms and conditions that deviate from the policies and the execution by the
Corporation or its subsidiaries of employment contracts on a case-by-case basis.
By the Human Resources Committee:
Michael Unger, Chairman
Pierre Marcouiller
David A. Thompson
16
PERFORMANCE GRAPH
The performance graph presented below compares the cumulative total shareholder
return of a $100 investment in the Subordinate Voting Shares and the cumulative
total return of the TSX 300 Stock Index for the period commencing June 30, 2000,
the date EXFO'S Subordinate Voting Shares commenced trading, and ending August
29, 2002.
THE CORPORATION'S STOCK PERFORMANCE
(JUNE 30, 2000 TO AUGUST 29, 2002)
[GRAPHIC OMITTED]
EXFO
REAL
DATE EXFO TSX-300 CLOSE
--------- ----------- ----------- -----
29-Jun-00 100 100 38.55
31-Jul-00 202.9831388 102.920884 78.25
29-Aug-00 231.5175097 110.0628228 89.25
29-Sep-00 171.2062257 102.6401002 66
30-Oct-00 140.8560311 91.5149669 54.3
29-Nov-00 81.71206226 87.24277963 31.5
29-Dec-00 101.1673152 88.35622264 39
29-Jan-01 184.306096 92.001171 71.05
28-Feb-01 111.5434501 79.90046464 43
29-Mar-01 95.40856031 73.63064708 36.78
30-Apr-01 133.8521401 78.59406309 51.6
29-May-01 111.8028534 81.61434401 43.1
29-Jun-01 67.44487678 76.51434381 26
30-Jul-01 59.66277562 75.57447448 23
29-Aug-01 50.4539559 74.12080728 19.45
28-Sep-01 37.25032425 67.63498692 14.36
29-Oct-01 45.0843061 68.20644487 17.38
29-Nov-01 53.04798962 73.19260843 20.45
28-Dec-01 50.71335927 75.907281 19.55
29-Jan-02 42.15304799 74.84081662 16.25
28-Feb-02 23.39818418 75.53669377 9.02
28-Mar-02 25.83657588 77.65290803 9.96
29-Apr-02 18.28793774 74.99223616 7.05
29-May-02 11.75097276 75.28360258 4.53
28-Jun-02 8.871595331 70.67178454 3.42
29-Jul-02 8.04150454 64.11910616 3.1
29-Aug-02 8.793774319 65.17637262 3.39
17
INDEBTEDNESS OF DIRECTORS AND OFFICERS
As at November 15, 2002, the Corporation had guaranteed loans made to employees,
directors, officers and senior officers by another entity in an amount totaling
US$136,253 for the purchase by such persons of Subordinate Voting Shares in the
share capital of the Corporation pursuant to the Share Plan. The following table
indicates outstanding guarantees that were provided by the Corporation to
directors, executive officers and senior officers of the Corporation for loans
used by such persons to acquire shares in the Corporation's share capital
pursuant to the Share Plan. All such guarantees were made by the Corporation in
the financial year ended August 31, 2000.
---------------------------------------------------------------------------------------------------------
LARGEST AMOUNT FINANCIALLY ASSISTED
INVOLVEMENT OF OUTSTANDING DURING SECURITIES PURCHASES
NAME AND PRINCIPAL THE FINANCIAL 2002 DURING FINANCIAL 2002 SECURITY FOR
OCCUPATION CORPORATION ($US) (#) INDEBTEDNESS
------------------------- --------------- --------------------- --------------------- -------------------
Pierre Plamondon, Guarantor 20,267 -- Guarantee by the
Vice-President, Finance Corporation
and Chief Financial
Officer
---------------------------------------------------------------------------------------------------------
DIRECTORS' AND OFFICERS' LIABILITY INSURANCE
The Corporation maintains insurance protection against liability incurred by its
officers and directors as well as those of its subsidiaries in the performance
of their duties. The entire premium, amounting to approximately US$434,000 from
June 30, 2000 to June 30, 2003, is paid by the Corporation. The aggregate limit
of liability in respect of any and all claims is US$20 million per year. The
policy provides for the indemnification of directors and officers in the case of
claims for which the Corporation has not indemnified or is not permitted by law
to indemnify them, and for the reimbursement of the Corporation, subject to a
deductible of US$250,000 for claims brought and maintained in the United States
and US$100,000 for claims brought and maintained elsewhere than in the United
States in the case of claims for which it has indemnified or was permitted to
indemnify the directors or officers involved.
REPORT ON CORPORATE GOVERNANCE PRACTICES
The Toronto Stock Exchange requires that issuers listed on The Toronto Stock
Exchange provide annual disclosure on their corporate governance practices
through a Statement of Corporate Governance Practices. The Corporation's
disclosure of its corporate governance practices is set out in matrix form and
attached to this Management Proxy Circular as Schedule C.
ADDITIONAL INFORMATION
The Corporation shall provide to any person or company, upon request to the
Secretary of the Corporation, at 465 Godin Avenue, Vanier, Quebec, Canada, G1M
3G7.
(a) one copy of the Form 20-F of the Corporation filed with the Securities and
Exchange Commission (the "SEC") in the United States pursuant to the
SECURITIES EXCHANGE ACT OF 1934, and with securities commissions or
similar authorities;
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(b) one copy of the comparative financial statements of the Corporation for
its most recently completed financial year and the Auditors report
thereon, included in the Annual Report of the Corporation, and one copy of
any interim financial statements of the Corporation subsequent to the
financial statements for its most recently completed financial year;
(c) one copy of this Management Proxy Circular.
DIRECTORS' APPROVAL
The contents and the sending of this Management Proxy Circular have been
approved by the Directors of the Corporation.
DATED at Vanier, Quebec, Canada, this 15th day of November, 2002.
/s/ Kimberley Okell
-------------------------------------
Kimberley Okell
Corporate Secretary
EXFO ELECTRO-OPTICAL ENGINEERING INC.
465 Godin Avenue
Vanier, Quebec, Canada, G1M 3G7
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EXFO ELECTRO-OPTICAL ENGINEERING INC.
SCHEDULE A
AMENDMENT TO ARTICLES
RESOLVED, as a special resolution:
1. THAT the Corporation be and it is hereby authorized and directed to
apply for a Certificate of Amendment under Section 173 of the CANADA
BUSINESS CORPORATIONS ACT to amend its Articles in order to provide for
the possibility of holding annual meetings of shareholders of the
Corporation at places outside Canada;
2. THAT the Articles of the Corporation be amended by inserting the
following immediately after the last paragraph of item 7 "OTHER
PROVISIONS" thereof:
"The annual meeting of shareholders of the Corporation (whether or not
also held as a special meeting) may be held outside Canada, in the
following places:
a) the greater metropolitan area of any following cities in the
United States of America: Boston (Massachusetts), Chicago
(Illinois), Dallas (Texas), Denver (Colorado), Detroit
(Michigan), Houston (Texas), Los Angeles (California), Miami
(Florida), New York (New York), Philadelphia (Pennsylvania),
San Francisco (California), Seattle (Washington), Washington
(District of Columbia);
b) to the extent permitted by the CANADA BUSINESS CORPORATIONS
ACT, any other city outside Canada designated from time to
time by the Board of Directors of the Corporation in
connection with the then next annual meeting of shareholders".
3. THAT the directors of the Corporation be authorized to revoke this
special resolution before it is acted on without further approval of
the shareholders of the Corporation; and
4. THAT any officer of the Corporation be and each of them is hereby
authorized, for and on behalf and in the name of the Corporation, to
sign and deliver all documents, and to take such action as such person
may consider to be necessary, desirable or useful to carry out the
intent and purpose of this resolution.
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EXFO ELECTRO-OPTICAL ENGINEERING INC.
SCHEDULE B
CONFIRMATION OF AMENDMENTS TO GENERAL CODE OF BY-LAWS
RESOLVED, as an ordinary resolution, that the following amendments, approved by
the Board of Directors to the General Code of By-Laws, adding section 5,
replacing and renumbering sections 1, 5, 6, 16, 22, 23, 30, 34, 36, 40, 45, 53,
59, 69 and 76, and the first paragraph only of section 6, be hereby confirmed:
1. REGISTERED OFFICE. The Registered Office of the Corporation is situated
in the province or territory within Canada specified in its Articles
from time to time and at such address therein as the Board may from
time to time determine.
5. MEETINGS HELD BY ELECTRONIC MEANS. Any person entitled to attend a
meeting of shareholders may vote and otherwise participate in the
meeting by means of a telephonic, electronic or other communication
facility made available by the Corporation that permits all
participants to communicate adequately with each other during the
meeting. A person participating in a meeting of shareholders by such
means is deemed to be present at the meeting.
Directors who call (but not shareholders who requisition) a meeting of
shareholders may determine that:
(a) the meeting shall be held, in accordance with the regulations,
entirely by means of a telephonic, electronic or other
communication facility that permits all participants to
communicate adequately with each other during the meeting; and
(b) any vote shall be held, in accordance with the regulations,
entirely by means of a telephone, electronic or other
communication facility that the Corporation made available for
that purpose.
Any vote at a meeting of shareholders may be carried out by means of a
telephonic, electronic or other communication facility, if the
facility:
(x) enables the votes to be gathered in a manner that permits
their subsequent verification; and
(y) permits the tallied votes to be presented to the Corporation
without it being possible for the Corporation to identify how
each shareholder or group of shareholders voted.
6. PLACE OF MEETINGS. Meetings of the shareholders shall be held in Canada
at the registered office of the Corporation or at any other place that
may be fixed by the Board of Directors. Meetings of the shareholders
may be held outside Canada if all shareholders entitled to vote thereat
so agree or if the Articles specify a place outside Canada where a
meeting of shareholders may be held. A shareholder who attends a
meeting being held outside Canada is deemed to have so agreed, unless
he is present for the express purpose of objecting to the transaction
of any business on the grounds that the meeting is not lawfully held.
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7. NOTICE OF MEETINGS. Notice of each annual meeting and of each special
meeting of the shareholders shall be delivered to the shareholders
entitled to vote thereat, the directors and the Auditor or, at the
discretion of the person charged with the giving of such notice, mailed
by ordinary mail, transmitted by facsimile or sent by electronic mail
to the addressees at their respective addresses entered in the books of
the Corporation, no less than twenty-one (21) days and no more than
sixty (60) days prior to the date fixed for the meeting. If the address
of the addressee is not entered in the books of the Corporation, the
notice may be sent as aforesaid to the address that the person sending
the notice considers to be most likely to reach such addressee
promptly. Any irregularity in the notice of meeting or giving thereof,
including the accidental omission to send such notice or failure to
receive on the part of the shareholder, shall in no way affect the
validity of proceedings of the meeting in question.
17. VOICE VOTE. If the Chairman of a meeting so orders, or any proxyholder
representing at least ten per cent (10%) of the votes attaching to
outstanding voting shares so requests (such requests may be withdrawn),
and if a vote by secret ballot has not been requested, votes shall be
taken by voice vote. In such a case, an entry in the minutes of a
meeting of shareholders to the effect that the Chairman declared a
resolution to be carried or defeated is, in the absence of proof to the
contrary, proof of the fact without proof of the number or proportion
of the votes recorded in favour of or against the resolution.
23. NUMBER. The Board of Directors shall be composed of a fixed number of
directors indicated in the Corporation's Articles. If the Articles
provide for a minimum and maximum number of directors, the Board of
Directors shall be composed of such fixed number of directors but not
less than three (3), as shall be established by resolution passed by
the Board of Directors or, failing this, as the shareholders choose to
elect within such limits.
24. QUALIFICATION. No person shall be qualified for election as a director
if he is less than eighteen (18) years of age; if he is of legal age
and has been placed under tutorship or curatorship; if he has been
declared of unsound mind by a court in Canada or elsewhere; if he has
the status of an undischarged bankrupt; or if a court has prohibited
him from holding the office of director. Unless otherwise set out in
the Articles of the Corporation, a director need not be a shareholder.
Subject to subsection 105(3.1) of the Act, at least 25% of the
directors shall be Resident Canadians. However, if the Corporation has
less than four (4) directors, at least one (1) must be a Resident
Canadian. At least three (3) of the directors shall not be officers or
employees of the Corporation or its subsidiaries. A retiring director,
if otherwise qualified, shall be eligible for re-election.
31. GENERAL POWERS OF THE DIRECTORS. The directors of the Corporation shall
manage or supervise the management of the business and affairs of the
Corporation and may make or cause to be made any contract which it may
lawfully enter into. The directors shall be invested with all such
powers and authority as the Corporation by statute or its Articles is
authorized to exercise and do. The directors shall always act by
resolution.
35. CONTRACTS AND TRANSACTIONS WITH THE CORPORATION. A director or an
officer may, even in performing his duties, enter into material
contracts or transactions with the Corporation, or be a director, an
officer or a holder of a material interest in a body corporate that is
a party to such contract or transaction. He shall then, in accordance
with the Act, disclose in writing to the Corporation or request to have
entered in the minutes of meetings of directors the nature and extent
of his interest in such material contract or transaction or proposed
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material contract or transaction, even if such contract or transaction,
within the scope of the normal business activity of the Corporation,
does not require the approval of either the directors or the
shareholders. Such director shall not vote on any resolution to approve
the same except as provided by the Act.
At the request of the President or any director, the interested
director shall leave the meeting while the Board of Directors discusses
and votes on the contract or transaction or proposed contract or
transaction concerned.
For the purposes of this by-law, a general notice that the director or
officer is a director, an officer or a holder of a material interest in
a body corporate and is to be regarded as interested in any contract or
transaction or proposed contract or transaction made with that body
corporate, is a sufficient declaration of interest.
Neither the Corporation nor any of its shareholders may contest the
validity of a contract or transaction entered into with a director or
an officer of the Corporation, or with a body corporate in which such
director or officer is a director, an officer or a holder of a material
interest, for such sole reason, provided such director or officer has
disclosed his interest as aforementioned, the Board of Directors or the
shareholders of the Corporation have approved the contract or the
transaction, and the contract or transaction was, at that time,
equitable for the Corporation.
37. MEETINGS BY TELEPHONE OR ELECTRONIC FACILITIES. Directors may, if all
are in agreement, participate in a meeting of the Board of Directors or
of a committee of the Board of Directors by means of such telephonic,
electronic or other communication facility that permits all
participants to communicate adequately with each other during the
meeting, and a director participating in such a meeting by such means
is deemed to be present at the meeting. Any such consent shall be
effective whether given before or after the meeting to which it relates
and may be given in respect to all meetings of the Board of Directors
and of committees of the Board of Directors.
41. VOTING. Each director shall be entitled to one vote, and all matters
shall be decided by the majority of votes cast. Unless a ballot is
demanded, an entry in the minutes of a meeting to the effect that a
resolution was carried or defended is, in the absence of evidence to
the contrary, proof of the fact without proof of the number or
proportion of the votes recorded in favour of or against the
resolution. Voting by proxy shall not be permitted, and the Chairman of
the meeting shall have no casting vote in the case of an equality of
votes. If the vote is taken by ballot, the meeting Secretary shall act
as Scrutineer and count the ballots. The fact of having voted by ballot
shall not deprive a director of the right to express his dissent in
respect of the resolution concerned and to cause such dissent to be
entered.
46. VICE-PRESIDENT. In the event of the absence, inability or failure of
the President to act, any Vice-President(s) appointed by the Board of
Directors shall assume the powers and perform the duties of the
President. The Vice-President shall exercise such powers and authority
and perform such duties prescribed by the Board of Directors or by the
President.
54. ELECTION. The Board of Directors may appoint from among their number a
committee of the Board of Directors, designated "Executive Committee".
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60. PARTICIPATION BY TELEPHONE OR ELECTRONIC FACILITIES AND SIGNED
RESOLUTIONS. Sections 37 and 42 shall apply, MUTATIS MUTANDIS, to
meetings of the Executive Committee.
69. INDEMNITY. Subject to the limitations provided by the Act, the
Corporation shall indemnify any director or officer of the Corporation,
former director or officer of the Corporation or person who acts or
acted at the Corporation's request as a director or officer (or an
individual acting in a similar capacity) of another entity, and his
heirs and legal representatives, against all costs, charges and
expenses, including, without limitation, an amount paid to settle an
action or satisfy a judgment, reasonably incurred by him in respect of
any civil, criminal, administrative, investigative or other proceeding
in which the individual is involved because of that association with
the Corporation or other entity, provided:
(a) he acted honestly and in good faith with a view to the best
interests of the Corporation or, as the case may be, to the
best interests of the other entity for which he acted as a
director or officer or in a similar capacity at the
Corporation's request; and
(b) in the case of a criminal or administrative action or
proceeding that is enforced by a monetary penalty, he had
reasonable grounds to believe that his conduct was lawful.
The Corporation shall advance monies to a director, officer or
other individual for the costs, charges and expenses of a
proceeding referred to in this section 69. Such person shall
repay the monies if he is not entitled to indemnification as
set forth in this section 69.
76. RECORD DATE AND CLOSING OF BOOKS. Subject to the provisions of the Act
with respect to notification, the directors may fix in advance, by
resolution, a date preceding by not less than 21 days and more than 60
days the date for payment of a dividend or the date for the allotment
of rights or the date when any change or conversion or exchange of
shares of the capital stock of the Corporation shall go into effect as
the record date for the determination of the shareholders entitled to
receive payment of such dividend, the allotment of such rights or the
exercise of such rights in respect of such change, conversion or
exchange of the capital stock of the Corporation with the effect that
only the shareholders of record on the date so fixed by the Board of
Directors shall be entitled to receive payment of such dividend or
allotment of rights or to exercise such rights, as the case may be,
notwithstanding a transfer of any shares on the books of the
Corporation after such record date. If no record date is so fixed, the
record date for the determination of the persons entitled to receive
payment of such dividend, the allotment of such rights or the exercise
of such rights in respect of such change, conversion or exchange of the
capital stock of the Corporation shall be at the close of business on
the day on which the resolution relating thereto is passed by the Board
of Directors.
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EXFO ELECTRO-OPTICAL ENGINEERING INC.
SCHEDULE C
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TSX CORPORATE GOVERNANCE GUIDELINES COMMENTS
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1. Board should explicitly assume
responsibility for stewardship of
the Corporation specifically for:
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(a) Adoption of a strategic planning The Board participates in the
process strategic planning process as
the acceptor/adopter of
strategic plans developed and
proposed by management
annually. In addition, as
strategic planning matters
arise during the year they
are discussed at Board
meetings.
--------------------------------------------------------------------------------
(b) Identification of principal risks The Board identifies the
and implementing risk Corporation's principal risks
management systems and manages these risks
through regular appraisal of
management's practices on an
ongoing basis.
--------------------------------------------------------------------------------
(c) Succession planning and The Human Resources Committee
monitoring senior management is responsible for the
elaboration and
implementation of a
succession planning process
and during the financial year
ended August 31, 2002, a
succession plan was
elaborated. In addition, the
Human Resources Committee is
responsible for monitoring
the performance of the Chief
Executive Officer and that of
all other senior officers.
--------------------------------------------------------------------------------
(d) Communications policy The Corporation has an
Investor Relations Manager
that is responsible for
facilitating the
communications between
Management and the
Corporation's current and
potential shareholders and
financial analysts. The Board
adopted and implemented
Disclosure Guidelines to
ensure consistency in the
manner that communications
with shareholders and the
public are managed. The Audit
Committee reviews press
releases containing the
quarterly results of the
Corporation prior to release.
In addition, all press
releases of the Corporation
are reviewed by the President
and Chief Executive Officer
and internal legal counsel.
The Disclosure Guidelines
have been established in
accordance with the relevant
disclosure requirements under
applicable Canadian and
United States securities
laws.
--------------------------------------------------------------------------------
(e) Integrity of internal control and The Audit Committee has the
management information systems responsibility to review the
Corporation's systems of
internal controls regarding
finance, accounting, legal
compliance and ethical
behaviour. The Audit
Committee meets with the
Corporation's external
auditors on a quarterly
basis.
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TSX CORPORATE GOVERNANCE GUIDELINES COMMENTS
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2. Majority of Directors should be The Board presently consists
"unrelated" (independent of of five Directors, four of
management and free from which are unrelated Directors
conflicting interest) within the meaning of the
Guidelines. The Chairman of
the Board, Mr. Germain
Lamonde is a significant
shareholder in the
Corporation as he has the
ability to exercise a
majority of the votes for the
election of the Board of
Directors. The Board believes
that the current majority of
unrelated Directors provides
appropriate independent
representation for the public
shareholders of the
Corporation.
--------------------------------------------------------------------------------
3. Disclosure for each Director Mr. Germain Lamonde - Related
whether he or she is related, and - is President and Chief
how that conclusion was reached Executive Officer of the
Corporation.
For the remainder of the
proposed Directors, none
of them or their
associates have any
interest or any business
or other relationship
which could, or could
reasonably be perceived
to, materially interfere
with the Director's
ability to act with a
view to the best
interests of the
Corporation, other than
interests arising from
shareholding.
Mr. Pierre Marcouiller -
Unrelated
Mr. Andre Tremblay -
Unrelated
Dr. David A. Thompson -
Unrelated
Mr. Michael Unger -
Unrelated
--------------------------------------------------------------------------------
4. (a) Appoint a committee responsible At the present time, the
for appointment/assessment of Corporation has no formal
procedures in place for
recruiting new Directors.
While Directors there is no
formal process for assessing
Directors on an ongoing
basis, the Directors feel
free to discuss specific
situations from time to time
among themselves and/or with
the Chairman of the Board.
--------------------------------------------------------------------------------
(b) Composed exclusively of non-management
directors, the majority of whom
are unrelated
--------------------------------------------------------------------------------
5. Implement a process for assessing The Human Resources Committee
the effectiveness of the Board, its is responsible for the
committees and directors monitoring of the Board's
corporate governance its
practices, the functioning of
the Board and the powers,
mandates and performance of
the Committees.
--------------------------------------------------------------------------------
6. Provide orientation and education Presentations and reports
programs for new directors relating to the Corporation's
business and affairs are
provided to new Directors. In
addition, new Board members
meet with senior management
of the Corporation to review
the business and affairs of
the Corporation.
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TSX CORPORATE GOVERNANCE GUIDELINES COMMENTS
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7. Consider reducing size of board, The Board is presently
with a view to improving composed of five members and
effectiveness has determined that this size
is appropriate for the
Corporation at this time and
that it offers the
flexibility to respond
quickly to corporate
opportunities and challenges
as they arise from time to
time. The Board as currently
constituted brings together a
mix of experience and
backgrounds that the Board
considers appropriate for the
stewardship of the
Corporation.
--------------------------------------------------------------------------------
8. Review compensation of directors The Human Resources Committee
in light of risks and responsibilities reviews periodically
compensation policies in
light of market conditions,
industry practice and level
of responsibilities. Only
non-related directors are
compensated for acting as a
director of the Corporation.
--------------------------------------------------------------------------------
9. (a) Committees should generally be The Board has two committees:
composed of non-management the Audit Committee and the
directors Human Resources Committee.
Each of the members of the
Audit Committee and Human
Resources Committee are
non-management.
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(b) Majority of committee members should Both the Audit Committee
be unrelated and the Human Resources
Committee consist of three
members each, all of who are
unrelated Directors.
--------------------------------------------------------------------------------
10. Appoint a committee responsible The Human Resources Committee
for approach to corporate is responsible for the
governance issues monitoring of the Board's
corporate governance
practices, the functioning of
the Board and the powers,
mandates and performance of
the committees.
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11. (a) Define limits to management's
responsibilities by developing
mandates for:
--------------------------------------------------------------------------------
(i) the board There is no specific mandate
for the Board, however the
Board of Directors is, by
law, responsible for managing
the business and affairs of
the Corporation. Any
responsibility, which is not
delegated to senior
management or to a committee
of the Board remains the
responsibility of the Board.
--------------------------------------------------------------------------------
(ii) the CEO The corporate objectives
which the President and Chief
Executive Officer is
responsible for meeting, with
the rest of Management placed
under his supervision, are
determined by the strategic
objectives and budget as they
are presented each year to
the Board of Directors.
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TSX CORPORATE GOVERNANCE GUIDELINES COMMENTS
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(b) Board should approve CEO's The Board, in conjunction
corporate objectives with Management, establishes
the corporate objectives of
the Corporation annually
which, in turn, are expected
to be implemented by the CEO.
In addition, individual
objectives for the CEO and
the rest of Management are
submitted to the Board for
approval annually.
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12. Establish structures and the During the financial year
procedures to enable the Board ended August 31, 2002, the
to function independently of Board of Directors designated
management Mr. Michael Unger to act as
independent "lead director".
A minimum of two meetings
annually will be held by the
independent, unrelated
directors without Management,
and any independent,
unrelated director may
request additional meetings
at any time.
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13. (a) Establish an audit committee The Audit Committee is
with a specifically defined mandated to monitor audit
mandate functions, the preparation of
financial statements, review
press releases on financial
results, review other
regulatory documents as
required, and meet with
outside auditors
independently of Management.
The Committee also recommends
to the Board the selection of
the external auditors for
appointment by the
shareholders. The mandate of
the Audit Committee is under
review and will be modified
during the current financial
year to comply with new
Canadian and American
corporate governance and
accounting standards.
The aggregate fees billed for
professional services
rendered by PWC for the audit
of the Corporation's
consolidated annual financial
statements for the financial
year ended August 31, 2002
were approximately
US$160,000. The aggregate
fees billed for services
rendered by PWC, other than
services covered for auditing
services above, for the
financial year ended August
31, 2002 were approximately
US$275,000 which related, for
the most part, to tax
planning matters. No fees
were billed by PWC for
professional services related
to financial information
systems design and
implementation.
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(b) All members should be non-management All of the three members of
directors the Audit Committee are
non-management Directors.
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14. Implement a system to enable The Corporation has a
individual directors to engage practice of permitting the
outside advisors, at Board, any Committee thereof
Corporation's expense and any individual Director
to engage independent,
external advisors at the
Corporation's expense.
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