Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM 10-Q

 

 

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended December 30, 2012

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to             

Commission File No. 0-14225

 

 

EXAR CORPORATION

(Exact Name of Registrant as specified in its charter)

 

 

 

Delaware   94-1741481

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification Number)

48720 Kato Road, Fremont, CA 94538

(Address of principal executive offices, Zip Code)

(510) 668-7000

(Registrant’s telephone number, including area code)

 

 

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulations S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer   ¨    Accelerated filer   x
Non-accelerated filer   ¨  (Do not check if a smaller reporting company)    Smaller reporting company   ¨

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

The number of shares outstanding of the Registrant’s Common Stock was 46,196,732 as of February 1, 2013, net of 19,924,369 treasury shares.

 

 

 


Table of Contents

EXAR CORPORATION AND SUBSIDIARIES

INDEX TO

QUARTERLY REPORT ON FORM 10-Q

FOR THE QUARTERLY PERIOD ENDED DECEMBER 30, 2012

 

          Page  
   PART I – FINANCIAL INFORMATION   
Item 1.    Financial Statements (Unaudited)      3   
   Condensed Consolidated Balance Sheets      3   
   Condensed Consolidated Statements of Operations      4   
   Condensed Consolidated Statements of Comprehensive Income (Loss)      5   
   Condensed Consolidated Statements of Cash Flows      6   
   Notes to Condensed Consolidated Financial Statements      7   
Item 2.    Management’s Discussion and Analysis of Financial Condition and Results of Operations      23   
Item 3.    Quantitative and Qualitative Disclosures About Market Risk      32   
Item 4.    Controls and Procedures      33   
   PART II – OTHER INFORMATION   
Item 1.    Legal Proceedings      33   
Item 1A.    Risk Factors      33   
Item 6.    Exhibits      49   
   Signatures      50   
   Index to Exhibits      51   

 

2


Table of Contents

PART I – FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

EXAR CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share amounts)

(Unaudited)

 

     December 30,
2012
    April 1,
2012
 
ASSETS     

Current assets:

    

Cash and cash equivalents

   $ 15,334      $ 8,714   

Short-term marketable securities

     185,784        187,668   

Accounts receivable (net of allowances of $769 and $781)

     12,865        8,454   

Accounts receivable, related party (net of allowances of $785 and $815)

     2,176        2,918   

Inventories

     18,720        18,374   

Other current assets

     3,835        3,124   
  

 

 

   

 

 

 

Total current assets

     238,714        229,252   

Property, plant and equipment, net

     23,743        27,793   

Goodwill

     3,184        3,184   

Intangible assets, net

     6,793        9,755   

Other non-current assets

     1,386        1,668   
  

 

 

   

 

 

 

Total assets

   $ 273,820      $ 271,652   
  

 

 

   

 

 

 
LIABILITIES AND STOCKHOLDERS’ EQUITY     

Current liabilities:

    

Accounts payable

   $ 10,079      $ 7,823   

Accrued compensation and related benefits

     4,255        3,918   

Deferred income and allowances on sales to distributors

     2,786        3,410   

Deferred income and allowances on sales to distributors, related party

     8,384        9,608   

Other current liabilities

     11,174        13,615   
  

 

 

   

 

 

 

Total current liabilities

     36,678        38,374   

Long-term lease financing obligations

     1,598        3,771   

Other non-current obligations

     3,679        6,215   
  

 

 

   

 

 

 

Total liabilities

     41,955        48,360   
  

 

 

   

 

 

 

Commitments and contingencies (Notes 14 and 15)

    

Stockholders’ equity:

    

Common stock, $.0001 par value; 100,000,000 shares authorized; 46,017,700 and 45,245,233 shares outstanding at December 30, 2012 and April 1, 2012, respectively (net of treasury shares)

     5        5   

Additional paid-in capital

     742,375        734,821   

Accumulated other comprehensive loss

     (392     (201

Treasury stock at cost, 19,924,369 shares at December 30, 2012 and April 1, 2012

     (248,983     (248,983

Accumulated deficit

     (261,140     (262,350
  

 

 

   

 

 

 

Total stockholders’ equity

     231,865        223,292   
  

 

 

   

 

 

 

Total liabilities and stockholders’ equity

   $ 273,820      $ 271,652   
  

 

 

   

 

 

 

See accompanying Notes to Condensed Consolidated Financial Statements.

 

3


Table of Contents

EXAR CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share amounts)

(Unaudited)

 

     Three Months Ended     Nine Months Ended  
     December 30,
2012
    January 1,
2012
    December 30,
2012
    January 1,
2012
 

Sales:

        

Net sales

   $ 22,235      $ 20,749      $ 63,210      $ 71,732   

Net sales, related party

     8,764        8,930        27,662        31,045   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total net sales

     30,999        29,679        90,872        102,777   
  

 

 

   

 

 

   

 

 

   

 

 

 

Cost of sales:

        

Cost of sales

     11,922        11,130        34,846        38,128   

Cost of sales, related party

     4,005        4,299        12,897        14,867   

Amortization of purchased intangible assets

     801        905        2,578        2,715   

Restructuring charges and exit costs

     79        —          160        152   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total cost of sales

     16,807        16,334        50,481        55,862   
  

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

     14,192        13,345        40,391        46,915   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

        

Research and development

     5,376        8,871        16,598        26,989   

Selling, general and administrative

     8,645        9,909        24,066        28,824   

Restructuring charges and exit costs

     524        —          1,619        173   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     14,545        18,780        42,283        55,986   

Loss from operations

     (353     (5,435     (1,892     (9,071

Other income and expense, net:

        

Interest income and other, net

     586        593        1,906        2,019   

Interest expense

     (56     (60     (128     (181
  

 

 

   

 

 

   

 

 

   

 

 

 

Total other income and expense, net

     530        533        1,778        1,838   

Income (loss) before income taxes

     177        (4,902     (114     (7,233

Provision for (benefit from) income taxes

     (1,346     (169     (1,324     3   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss)

   $ 1,523      $ (4,733   $ 1,210      $ (7,236
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) per share:

        

Basic

   $ 0.03      $ (0.11   $ 0.03      $ (0.16

Diluted

   $ 0.03      $ (0.11   $ 0.03      $ (0.16

Shares used in the computation of net income (loss) per share:

        

Basic

     45,925        44,830        46,228        44,726   

Diluted

     46,438        44,830        46,623        44,726   

See accompanying Notes to Condensed Consolidated Financial Statements.

 

4


Table of Contents

EXAR CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(In thousands)

(Unaudited)

 

     Three Months Ended     Nine Months Ended  
     December 30,
2012
    January 1,
2012
    December 30,
2012
    January 1,
2012
 

Net income (loss)

   $ 1,523      $ (4,733   $ 1,210      $ (7,236

Other comprehensive loss:

        

Unrealized loss on investments

     (301     (342     (191     (637
  

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive income (loss)

   $ 1,222      $ (5,075   $ 1,019      $ (7,873
  

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying Notes to Condensed Consolidated Financial Statements.

 

5


Table of Contents

EXAR CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)

 

     Nine Months Ended  
     December 30,
2012
    January 1,
2012
 

Cash flows from operating activities:

    

Net income (loss)

   $ 1,210      $ (7,236

Reconciliation of net loss to net cash provided by operating activities:

    

Depreciation and amortization

     8,333        10,054   

Gain on sale of intangible asset

     (223     —     

Stock-based compensation expense

     3,010        3,394   

Changes in operating assets and liabilities:

    

Accounts receivable and accounts receivable, related party

     (3,669     1,209   

Inventories

     (346     14   

Other current and non-current assets

     47        (1,047

Accounts payable

     2,256        (671

Accrued compensation and related benefits

     182        (1,172

Deferred income and allowance on sales to distributors and related party distributor

     (1,848     (782

Other current and long-term liabilities

     (5,298     (856
  

 

 

   

 

 

 

Net cash provided by operating activities

     3,654        2,907   
  

 

 

   

 

 

 

Cash flows from investing activities:

    

Purchases of property, plant and equipment and intellectual property, net

     (1,253     (2,658

Purchases of short-term marketable securities

     (132,955     (119,683

Proceeds from maturities of short-term marketable securities

     37,563        49,482   

Proceeds from sales of short-term marketable securities

     97,190        66,694   

Other disposal activities

     235        384   
  

 

 

   

 

 

 

Net cash provided by (used in) investing activities

     780        (5,781
  

 

 

   

 

 

 

Cash flows from financing activities:

    

Proceeds from issuance of common stock

     4,699        826   

Repayments of lease financing obligations

     (2,513     (3,246
  

 

 

   

 

 

 

Net cash provided by (used in) financing activities

     2,186        (2,420
  

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents

     6,620        (5,294

Cash and cash equivalents at the beginning of period

     8,714        15,039   
  

 

 

   

 

 

 

Cash and cash equivalents at the end of period

   $ 15,334      $ 9,745   
  

 

 

   

 

 

 

Supplemental disclosure of non-cash investing and financing activities:

    

Return of Hillview Facility to Lessor

   $ —        $ 12,167   

Property, plant and equipment acquired under capital lease

   $ —        $ 8,478   

See accompanying Notes to Condensed Consolidated Financial Statements.

 

6


Table of Contents

EXAR CORPORATION AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 1.       ORGANIZATION AND BASIS OF PRESENTATION

Description of Business— Exar Corporation was incorporated in California in 1971 and reincorporated in Delaware in 1991. Exar Corporation and its subsidiaries (“Exar” or “we”) is a fabless semiconductor company that designs, develops and markets high performance analog mixed-signal integrated circuits and advanced sub-system solutions for the Networking & Storage, Industrial & Embedded, and Communications Infrastructure markets. Exar’s product portfolio includes power management and connectivity components, communications products and network security and storage optimization solutions.

Basis of Presentation and Use of Management Estimates—The accompanying condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) regarding interim financial reporting. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements and should be read in conjunction with the financial statements and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended April 1, 2012 as filed with the SEC. In the opinion of management, the accompanying condensed consolidated financial statements contain all adjustments, consisting only of normal recurring adjustments, that we believe are necessary for a fair statement of Exar’s financial position as of December 30, 2012 and results of operations for the three and nine months ended December 30, 2012 and January 1, 2012, respectively. These condensed consolidated financial statements are not necessarily indicative of the results to be expected for the entire year.

The financial statements include management’s estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the financial statements and the reported amounts of sales and expenses during the reporting periods. Actual results could differ from those estimates, and material effects on operating results and financial position may result.

Certain reclassifications have been made to the prior year consolidated financial statements to conform to the current year’s presentation. Such reclassification had no effect on previously reported results of operations or stockholders’ equity.

Our fiscal years consist of 52 or 53 weeks. In a 52-week year, each fiscal quarter consists of 13 weeks. Fiscal years 2013 and 2012 consist of 52 and 53 weeks, respectively, with the first quarter of fiscal year 2012 consisting of 14 weeks. All references to quarterly or three and nine months ended financial results are references to the results of the relevant fiscal period.

NOTE 2.       REVISION OF PRIOR PERIOD FINANCIAL STATEMENTS

During the first quarter of fiscal 2013, we identified an error in our accounting for stock-based compensation expense previously recorded in the fourth quarter of fiscal 2012. We assessed the materiality of the error on prior periods’ financial statements and concluded that the error was not material to any of our prior period annual or interim financial statements. We elected to revise previously issued consolidated financial statements the next time they were filed. As each subsequent filing is made in the future, the previous period consolidated financial statements affected by the errors will be revised. We have revised the April 1, 2012 consolidated balance sheet included herein to reflect the correct balances by reducing additional paid-in capital and accumulated deficit each by $741,000. The correction did not impact the net income (loss) in the three and nine months ended December 30, 2012 and January 1, 2012, respectively.

NOTE 3.       RECENT ACCOUNTING PRONOUNCEMENTS

In June 2011, the Financial Accounting Standards Board (“FASB”) issued an update to the authoritative guidance for comprehensive income. This update requires that all non-owner changes in stockholders’ equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements. This update is effective in fiscal years, and interim periods within those years, beginning after December 15, 2011. As a result, we have separately presented the Statements of Comprehensive Income for the three and nine months ended December 30, 2012 and January 1, 2012 as part of our unaudited condensed consolidated financial statements.

 

7


Table of Contents

NOTE 4.       CASH, CASH EQUIVALENTS AND SHORT-TERM MARKETABLE SECURITIES

Fair Value of Financial Instruments

Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value must maximize the use of observable inputs and minimize the use of unobservable inputs. GAAP describes a fair value hierarchy based on three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value as follows:

Level 1 – Quoted prices in active markets for identical assets or liabilities.

Level 2 – Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

Level 3 – Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

Our cash and investment instruments are classified within Level 1 or Level 2 of the fair value hierarchy because they are valued using quoted market prices, broker or dealer quotations, or alternative pricing sources with reasonable levels of price transparency.

Our investment assets, measured at fair value on a recurring basis, as of the dates indicated below were as follows (in thousands, except for percentages):

 

     December 30, 2012  
     Level 1      Level 2      Total         

Assets:

           

Money market funds

   $ 9,179       $ —         $ 9,179         5

U.S. government and agency securities

     22,302         27,843         50,145         26

State and local government securities

     —           3,572         3,572         2

Corporate bonds and notes

     —           72,267         72,267         37

Asset-backed securities

     —           27,972         27,972         14

Mortgage-backed securities

     —           31,828         31,828         16
  

 

 

    

 

 

    

 

 

    

Total investment assets

   $ 31,481       $ 163,482       $ 194,963         100
  

 

 

    

 

 

    

 

 

    
     April 1, 2012  
     Level 1      Level 2      Total         

Assets:

           

Money market funds

   $ 3,088       $ —         $ 3,088         2

U.S. government and agency securities

     16,282         27,954         44,236         23

State and local government securities

     —           590         590         —     

Corporate bonds and notes

     —           69,234         69,234         36

Asset-backed securities

     —           26,364         26,364         14

Mortgage-backed securities

     —           47,244         47,244         25
  

 

 

    

 

 

    

 

 

    

Total investment assets

   $ 19,370       $ 171,386       $ 190,756         100
  

 

 

    

 

 

    

 

 

    

 

8


Table of Contents

Our cash, cash equivalents and short-term marketable securities as of the dates indicated below were as follows (in thousands):

 

     December 30,
2012
     April 1,
2012
 

Cash and cash equivalents

     

Cash at financial institutions

   $ 6,155       $ 5,626   

Cash equivalents

     

Money market funds

     9,179         3,088   
  

 

 

    

 

 

 

Total cash and cash equivalents

   $ 15,334       $ 8,714   
  

 

 

    

 

 

 

Available-for-sale securities

     

U.S. government and agency securities

   $ 50,145       $ 44,236   

State and local government securities

     3,572         590   

Corporate bonds and notes

     72,267         69,234   

Asset-backed securities

     27,972         26,364   

Mortgage-backed securities

     31,828         47,244   
  

 

 

    

 

 

 

Total short-term marketable securities

   $ 185,784       $ 187,668   
  

 

 

    

 

 

 

Our marketable securities include U.S. government and agency securities, state and local government securities, corporate bonds and notes, and asset-backed and mortgage-backed securities. We classify investments as available-for-sale at the time of purchase and re-evaluate such designation as of each balance sheet date. We amortize premiums and accrete discounts to interest income over the life of the investment. Our available-for-sale securities, which we intend to sell as necessary to meet our liquidity requirements, are classified as cash equivalents if the maturity date is 90 days or less from the date of purchase and as short-term marketable securities if the maturity date is greater than 90 days from the date of purchase.

All marketable securities are reported at fair value based on the estimated or quoted market prices as of each balance sheet date, with unrealized gains or losses, net of tax effect, recorded in the condensed consolidated statements of other comprehensive income except those unrealized losses that are deemed to be other than temporary which are reflected in the impairment charges on investments line item on the condensed consolidated statements of operations.

Realized gains or losses on the sale of marketable securities are determined by the specific identification method and are reflected in the interest income and other net line item on the condensed consolidated statements of operations.

Our net realized gains (losses) on marketable securities for the periods indicated below were as follows (in thousands):

 

     Three Months Ended     Nine Months Ended  
     December 30,
2012
    January 1,
2012
    December 30,
2012
    January 1,
2012
 

Gross realized gains

   $ 233      $ 241      $ 617      $ 505   

Gross realized losses

     (229     (348     (766     (775
  

 

 

   

 

 

   

 

 

   

 

 

 

Net realized losses

   $ 4      $ (107   $ (149   $ (270
  

 

 

   

 

 

   

 

 

   

 

 

 

 

9


Table of Contents

The following table summarizes our investments in marketable securities as of the dates indicated below (in thousands):

 

     December 30, 2012  
     Amortized
Cost
     Unrealized
Gross
Gains (1)
     Unrealized
Gross
Losses (1)
    Fair Value  

Money market funds

   $ 9,179       $ —         $ —        $ 9,179   

U.S. government and agency securities

     50,084         61         —          50,145   

State and local government securities

     3,568         6         (2     3,572   

Corporate bonds and notes

     72,010         290         (33     72,267   

Asset-backed securities

     27,915         84         (27     27,972   

Mortgage-backed securities

     31,744         246         (162     31,828   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total investments

   $ 194,500       $ 687       $ (224   $ 194,963   
  

 

 

    

 

 

    

 

 

   

 

 

 
     April 1, 2012  
     Amortized
Cost
     Unrealized
Gross
Gains (1)
     Unrealized
Gross
Losses (1)
    Fair Value  

Money market funds

   $ 3,088       $  —         $ —        $ 3,088   

U.S. government and agency securities

     44,077         189         (30     44,236   

State and local government securities

     610         —           (20     590   

Corporate bonds and notes

     68,857         410         (33     69,234   

Asset-backed securities

     26,353         55         (44     26,364   

Mortgage-backed securities

     47,117         286         (159     47,244   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total investments

   $ 190,102       $ 940       $ (286   $ 190,756   
  

 

 

    

 

 

    

 

 

   

 

 

 

 

(1) Gross of tax impact

Our asset-backed securities are comprised primarily of premium tranches of vehicle loans and credit card receivables, while our mortgage-backed securities are primarily from federal agencies. We do not own auction rate securities nor do we own securities that are classified as subprime. As of December 30, 2012, we have sufficient liquidity and do not intend to sell these securities to fund normal operations or realize any significant losses in the short term; however, these securities are available for use, if needed, for current operations.

We periodically review our investments in unrealized loss positions for other-than-temporary impairments. This evaluation includes, but is not limited to, significant quantitative and qualitative assessments and estimates regarding credit ratings, collateralized support, the length of time and significance of a security’s loss position, our intent not to sell the security, and whether it is more likely than not that we will not have to sell the security before recovery of its cost basis. For the three and nine months ended December 30, 2012, there were no investments identified with other than temporary declines in value.

The amortized cost and estimated fair value of cash equivalents and marketable securities classified as available-for-sale by expected maturity as of the dates indicated below were as follows (in thousands):

 

     December 30, 2012      April 1, 2012  
     Amortized
Cost
     Fair Value      Amortized
Cost
     Fair Value  

Less than 1 year

   $ 55,980       $ 55,988       $ 48,978       $ 49,011   

Due in 1 to 5 years

     138,520         138,975         141,124         141,745   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 194,500       $ 194,963       $ 190,102       $ 190,756   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

10


Table of Contents

The following table summarizes the gross unrealized losses and fair values of our investments in an unrealized loss position as of the dates indicated below, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position (in thousands):

 

     December 30, 2012  
     Less than 12 months     12 months or greater     Total  
     Fair
Value
     Gross
Unrealized
Losses
    Fair
Value
     Gross
Unrealized
Losses
    Fair
Value
     Gross
Unrealized
Losses
 

State and local government securities

   $ —         $ —        $ 444       $ (2   $ 444       $ (2

Corporate bonds and notes

     15,064         (23     490         (10     15,554         (33

Asset-backed securities

     4,944         (17     1,660         (10     6,604         (27

Mortgage-backed securities

     8,607         (72     4,323         (90     12,930         (162
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

   $ 28,615       $ (112   $ 6,917       $ (112   $ 35,532       $ (224
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 
     April 1, 2012  
     Less than 12 months     12 months or greater     Total  
     Fair
Value
     Gross
Unrealized
Losses
    Fair
Value
     Gross
Unrealized
Losses
    Fair
Value
     Gross
Unrealized
Losses
 

U.S. government and agency securities

   $ 15,585       $ (30   $ —         $ —        $ 15,585       $ (30

State and local government securities

     590         (20     —           —          590         (20

Corporate bonds and notes

     11,685         (33     —           —          11,685         (33

Asset-backed securities

     3,516         (5     3,786         (39     7,302         (44

Mortgage-backed securities

     16,435         (108     2,417         (51     18,852         (159
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

   $ 47,811       $ (196   $ 6,203       $ (90   $ 54,014       $ (286
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

NOTE 5.       GOODWILL AND INTANGIBLE ASSETS

Goodwill

Goodwill represents the excess of the purchase price over the fair value of the net tangible and identifiable intangible assets acquired in a business combination. We evaluate goodwill for impairment on an annual basis or whenever events and changes in circumstances suggest that the carrying amount may not be recoverable. We conduct our annual impairment analysis in the fourth quarter of each fiscal year. Impairment of goodwill is tested at the reporting unit level by comparing the reporting unit’s carrying amount, including goodwill, to the fair value of the reporting unit. If the carrying amount of the reporting unit exceeds its fair value, goodwill is considered impaired and a second step is performed to measure the amount of impairment loss. Because we have one reporting unit, we utilize an entity-wide approach to assess goodwill for impairment. As of December 30, 2012, no events or changes in circumstances suggest that the carrying amount for goodwill may not be recoverable and therefore we did not perform an interim goodwill impairment analysis.

Intangible Assets

Our purchased intangible assets as of the dates indicated below were as follows (in thousands):

 

     December 30, 2012      April 1, 2012  
     Carrying
Amount
     Accumulated
Amortization
    Net Carrying
Amount
     Carrying
Amount
     Accumulated
Amortization
    Net Carrying
Amount
 

Existing technology

   $ 35,318       $ (29,829   $ 5,489       $ 34,848       $ (27,286   $ 7,562   

Patents/Core technology

     3,459         (3,133     326         3,736         (2,855     881   

Distributor relationships

     1,264         (1,194     70         1,264         (1,119     145   

Customer relationships

     2,905         (1,997     908         2,905         (1,751     1,154   

Tradenames/Trademarks

     1,025         (1,025     —           1,025         (1,012     13   
  

 

 

    

 

 

   

 

 

    

 

 

    

 

 

   

 

 

 

Total

   $ 43,971       $ (37,178   $ 6,793       $ 43,778       $ (34,023   $ 9,755   
  

 

 

    

 

 

   

 

 

    

 

 

    

 

 

   

 

 

 

 

11


Table of Contents

Long-lived assets are amortized on a straight-line basis over their respective estimated useful lives. We evaluate the remaining useful life of our long-lived assets that are being amortized each reporting period to determine whether events and circumstances warrant a revision to the remaining period of amortization. If the estimate of an intangible asset’s remaining useful life is changed, the remaining carrying amount of the long-lived asset is amortized prospectively over the remaining useful life. Long-lived assets are evaluated for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If an indicator of impairment exists, we compare the carrying value of long-lived assets to our projection of future undiscounted cash flows attributable to such assets and, in the event that the carrying value exceeds the future undiscounted cash flows, we record an impairment charge equal to the excess of the carrying value over the asset’s fair value. Although the assumptions used in projecting future revenues and gross margins are consistent with those used in our annual strategic planning process, intangible asset impairment charges might be required in future periods if our assumptions are not achieved.

As of December 30, 2012, there were no indicators that required us to perform an intangible assets impairment review.

During the second fiscal quarter of 2013, we sold certain patents for $500,000 and recorded a gain of approximately $223,000.

The aggregate amortization expenses for our purchased intangible assets for the periods indicated below were as follows (in thousands):

 

     Three Months Ended      Nine Months Ended  
     December 30,
2012
     January 1,
2012
     December 30,
2012
     January 1,
2012
 

Amortization expense

   $  994       $  1,271       $  3,155       $ 3,801   

The estimated future amortization expenses for our purchased intangible assets are summarized below (in thousands):

 

Amortization Expense (by fiscal year)

 

2013 (3 months remaining)

   $ 994   

2014

     3,540   

2015

     1,313   

2016

     722   

2017

     195   

Thereafter

     29   
  

 

 

 

Total estimated amortization

   $ 6,793   
  

 

 

 

NOTE 6.       LONG-TERM INVESTMENT

Our long-term investment consists of our investment in Skypoint Telecom Fund II (US), L.P. (“Skypoint Fund”). Skypoint Fund is a venture capital fund that invested primarily in private companies in the telecommunications and/or networking industries. We account for this non-marketable equity investment under the cost method. We periodically review and determine whether the investment is other-than-temporarily impaired, in which case the investment is written down to its impaired value.

As of the dates indicated below, our long-term investment balance, which is included in the “Other non-current assets” line item on the condensed consolidated balance sheets was as follows (in thousands):

 

     December 30,
2012
     April 1,
2012
 

Beginning balance

   $ 1,273       $ 1,563   

Contributions

     15         114   

Capital distributions

     —           (404
  

 

 

    

 

 

 

Ending balance

   $ 1,288       $ 1,273   
  

 

 

    

 

 

 

We have made approximately $4.8 million in capital contributions to Skypoint Fund since we became a limited partner in July 2001. We contributed $15,000 to the fund during the nine months ended December 30, 2012. In the three months ended July 1, 2012, the limited partners of the Skypoint Fund agreed to extend the term of the Skypoint Fund for one additional year. As of December 30, 2012, we do not have any further capital commitments.

The carrying amount of $1.3 million as of December 30, 2012 is net of capital contributions, cumulative impairment charges and capital distributions.

 

12


Table of Contents

Impairment

We evaluate our long-term investment for impairment on an annual basis or whenever events and changes in circumstances suggest that the carrying amount may not be recoverable. We conduct our annual impairment analysis in the fourth quarter of each fiscal year. Impairment is tested by comparing the carrying amount to the fair value of the underlying investments. If the carrying amount exceeds its fair value, long term-investment is considered impaired and a second step is performed to measure the amount of impairment loss. As of December 30, 2012, no events or changes in circumstances suggest that the carrying amount for long-term investment may not be recoverable and therefore we did not perform an interim long-term investment impairment analysis.

NOTE 7.       RELATED PARTY TRANSACTION

Affiliates of Future Electronics Inc. (“Future”), Alonim Investments Inc. and two of its affiliates (collectively “Alonim”), own approximately 7.6 million shares, or approximately 17%, of our outstanding common stock as of December 30, 2012. As such, Alonim is our largest stockholder.

Our sales to Future are made under a distribution agreement that provides protection against price reduction for its inventory of our products and other sales allowances which are similar to those provided to certain other distributor partners. We recognize revenue on sales to Future when Future sells our products to its end customers. Future has historically accounted for a significant portion of our net sales.

Related party contributions to our total net sales for the periods indicated below were as follows:

 

     Three Months Ended     Nine Months Ended  
     December 30,
2012
    January 1,
2012
    December 30,
2012
    January 1,
2012
 

Future

     28     30     30     30

Related party expenses for marketing promotional materials reimbursed were not significant in either the three or nine months ended December 30, 2012 or January 1, 2012, respectively.

NOTE 8.       RESTRUCTURING CHARGES AND EXIT COSTS

In fiscal year 2012, we incurred restructuring charges and exit costs totaling $14.2 million, of which $0.3 million was recorded in the first quarter and $13.9 million was recorded in the fourth quarter.

During the three and nine months ended December 30, 2012, we incurred additional restructuring charges and exit costs of $0.6 million and $1.8 million, respectively, primarily consisting of severance benefits.

Our restructuring liabilities were included in the other current liabilities and other non-current obligations line items within our condensed consolidated balance sheets. The following table summarizes the activities affecting the liabilities as of the dates indicated below (in thousands):

 

     Restructuring
Costs
 

Balance at April 1, 2012

   $ 8,041   

Additional accruals

     1,779   

Payments

     (5,822

Non-cash charges

     (54
  

 

 

 

Balance at December 30, 2012

     3,944   

Less: Long-term portion

     (1,316
  

 

 

 

Balance at December 30, 2012

   $ 2,628   
  

 

 

 

 

13


Table of Contents

NOTE 9.       BALANCE SHEET DETAIL

Our inventories consisted of the following as of the dates indicated (in thousands):

 

     December 30,
2012
     April 1,
2012
 

Work-in-process and raw materials

   $ 10,395       $ 7,590   

Finished goods

     8,325         10,784   
  

 

 

    

 

 

 

Total Inventories

   $ 18,720       $ 18,374   
  

 

 

    

 

 

 

Our other current liabilities consisted of the following as of the dates indicated (in thousands):

 

     December 30,
2012
     April 1,
2012
 

Short-term lease financing obligations

   $ 3,138       $ 3,216   

Accrued legal and professional services

     3,410         2,325   

Accrued restructuring charges and exit costs

     2,628         5,699   

Accrued manufacturing expenses, royalties and licenses

     853         696   

Accrued sales and marketing expenses

     601         937   

Other

     544         742   
  

 

 

    

 

 

 

Total other current liabilities

   $ 11,174       $ 13,615   
  

 

 

    

 

 

 

Our other non-current obligations consisted of the following as of the dates indicated (in thousands):

 

     December 30,
2012
     April 1,
2012
 

Long-term taxes payable

   $ 2,185       $ 3,604   

Restructuring charges and exit costs – long-term portion

     1,316         2,342   

Other

     178         269   
  

 

 

    

 

 

 

Total other non-current obligations

   $ 3,679       $ 6,215   
  

 

 

    

 

 

 

NOTE 10.       NET INCOME (LOSS) PER SHARE

Basic net income (loss) per share excludes dilution and is computed by dividing net income (loss) by the weighted average number of common shares outstanding for the applicable period. Diluted net income per share reflects the potential dilution that would occur if outstanding stock options or warrants to purchase common stock were exercised for common stock, using the treasury stock method, and the common stock underlying outstanding restricted stock units (“RSUs”) was issued.

The following table summarizes our net income (loss) per share for the periods indicated below (in thousands, except per share amounts):

 

     Three Months Ended     Nine Months Ended  
     December 30,
2012
     January 1,
2012
    December 30,
2012
     January 1,
2012
 

Net income (loss)

   $ 1,523       $ (4,733   $ 1,210       $ (7,236
  

 

 

    

 

 

   

 

 

    

 

 

 

Shares used in computation of net income (loss) per share:

          

Basic

     45,925         44,830        46,228         44,726   

Diluted

     46,438         44,830        46,623         44,726   

Net income (loss) per share

          

Basic

   $ 0.03       $ (0.11   $ 0.03       $ (0.16
  

 

 

    

 

 

   

 

 

    

 

 

 

Diluted

   $ 0.03       $ (0.11   $ 0.03       $ (0.16
  

 

 

    

 

 

   

 

 

    

 

 

 

 

14


Table of Contents

In the three and nine months ended December 30, 2012, approximately 3.2 million shares and 3.8 million shares, respectively, were excluded from the computation of diluted net income per share because they were determined to be anti-dilutive. For the three months and nine months ended January 1, 2012, all shares attributable to outstanding options and RSUs were excluded from the computation of diluted net loss per share, as inclusion of such shares would have had an anti-dilutive effect.

Warrants to purchase common stock of approximately 0.3 million shares expired unexercised in the first quarter of fiscal year 2012.

NOTE 11.       COMMON STOCK REPURCHASES

From time to time, we acquire outstanding common stock in the open market to partially offset dilution from our equity award programs and to increase our return on our invested capital.

On August 28, 2007, we announced the approval of a share repurchase plan (“2007 SRP”) which authorized the repurchase of up to $100 million of our common stock.

As of March 27, 2011, we had purchased shares valued at $88.2 million under the 2007 SRP. During the three and nine months ended December 30, 2012 and January 1, 2012, respectively, we did not repurchase any shares under the 2007 SRP. As of December 30, 2012, the remaining authorized amount for the stock repurchase under the 2007 SRP was $11.8 million. The 2007 SRP does not have a termination date. We may continue to utilize our 2007 SRP, which would reduce our cash, cash equivalents and/or short-term marketable securities available to fund future operations and to meet other liquidity requirements.

NOTE 12.       STOCK-BASED COMPENSATION

Employee Stock Participation Plan (“ESPP”)

Our ESPP permits employees to purchase common stock through payroll deductions at a purchase price that is equal to 95% of our common stock price on the last trading day of each three-calendar-month offering period. Our ESPP is non-compensatory.

The following table summarizes our ESPP transactions during the fiscal periods presented (in thousands, except per share amounts):

 

     As of
December 30, 2012
     Nine Months Ended
December 30, 2012
 
     Shares of Common
Stock
     Shares of Common
Stock
     Weighted
Average
Price per Share
 

Reserved for future issuance

     1,405         

Issued

        13       $ 7.61   

Equity Incentive Plans

We currently have two equity incentive plans, in which shares are available for future issuance, the Exar Corporation 2006 Equity Incentive Plan (the “2006 Plan”) and the Sipex Corporation (“Sipex”) 2006 Equity Incentive Plan (the “Sipex Plan”), the latter of which was assumed in connection with the August 2007 acquisition of Sipex. The Sipex 2000 Non-Qualified Stock Option Plan expired October 31, 2010, and the Sipex 2002 Non-Qualified Stock Option Plan expired October 1, 2011.

The 2006 Plan authorizes the issuance of stock options, stock appreciation rights, restricted stock, stock bonuses and other forms of awards granted or denominated in common stock or units of common stock, as well as cash bonus awards. RSUs granted under the 2006 Plan are counted against authorized shares available for future issuance on a basis of two shares for every RSU issued. The 2006 Plan allows for performance-based vesting and partial vesting based upon level of performance. Grants under the Sipex Plan are only available to former Sipex’s employees or employees of Exar hired after the Sipex acquisition. At our annual meeting on December 15, 2010, our stockholders approved an amendment to the 2006 Plan to increase the aggregate share limit under the 2006 Plan by an additional 5.5 million shares to 8.3 million shares. At December 30, 2012, there were 4.5 million shares available for future grant under all our equity incentive plans.

 

15


Table of Contents

Stock Option Activities

Our stock option transactions during the nine months ended December 30, 2012 are summarized as follows:

 

     Outstanding     Weighted
Average
Exercise
Price per
Share
     Weighted
Average
Remaining
Contractual
Term

(in years)
     Aggregate
Intrinsic
Value
(in thousands)
     In-the-money
Options
Vested and
Exercisable
(in thousands)
 

Balance at April 1, 2012

     6,345,307      $ 7.23         4.67       $ 9,474         1,193   

Granted

     2,072,210        8.04            

Exercised

     (669,120     6.86            

Cancelled

     (901,981     9.68            

Forfeited

     (783,305     6.36            
  

 

 

   

 

 

    

 

 

    

 

 

    

Balance at December 30, 2012

     6,063,111      $ 7.30         5.31       $ 9,073         1,327   
  

 

 

   

 

 

    

 

 

    

 

 

    

Vested and expected to vest, December 30, 2012

     5,139,805      $ 7.28         5.14       $ 7,872      

Vested and exercisable, December 30, 2012

     1,538,729      $ 7.66         3.22       $ 2,302      

The aggregate intrinsic values in the table above represent the total pre-tax intrinsic value, which is based on the closing price of our common stock of $8.66 and $8.40 as of December 30, 2012 and April 1, 2012, respectively. These are the values which would have been received by option holders if all option holders exercised their options on that date.

In January 2012, we granted 480,000 performance-based stock options to our Chief Executive Officer, President and Director (“CEO”). The options are scheduled to vest in four equal annual installments at the end of fiscal years 2013 through 2016 if certain predetermined financial measures are met. If the financial measures are not met, each installment will be rolled over to the subsequent fiscal year for vesting except for the last installment. If the financial measures are not met for two consecutive years, the options will be forfeited except for the last installment which will be forfeited at the end of fiscal year 2016. In the three and nine months ended December 30, 2012, we recorded $65,000 and $195,000, respectively, of compensation expense for these options.

Intrinsic value of options exercised for the periods indicated below were as follows (in thousands):

 

     Three Months Ended      Nine Months Ended  
     December 30,
2012
     January 1,
2012
     December 30,
2012
     January 1,
2012
 

Intrinsic value of options exercised

   $ 304       $ 26       $ 879       $ 33   

RSU Activities

Our RSU transactions during the nine months ended December 30, 2012 are summarized as follows:

 

     Shares     Weighted
Average
Grant-
Date

Fair Value
     Weighted
Average
Remaining
Contractual
Term

(in years)
     Aggregate
Intrinsic
Value

(in thousands)
 

Unvested at April 1, 2012

     604,655      $ 7.13         2.38       $ 5,079   

Granted

     274,294        8.21         

Issued and released

     (107,494     7.08         

Forfeited

     (79,250     6.96         
  

 

 

   

 

 

    

 

 

    

 

 

 

Unvested at December 30, 2012

     692,205      $ 7.58         1.88       $ 5,994   
  

 

 

   

 

 

    

 

 

    

 

 

 

Vested and expected to vest, December 30, 2012,

     534,358           1.75       $ 4,628   

The aggregate intrinsic value of RSUs represents the closing price per share of our stock at the end of the periods presented, multiplied by the number of unvested RSUs or the number of vested and expected to vest RSUs, as applicable, at the end of each period.

 

16


Table of Contents

For RSUs, stock - based compensation expense was calculated based on our stock price on the date of grant, multiplied by the number of RSUs granted. The grant date fair value of RSUs less estimated forfeitures was recognized on a straight-line basis, over the vesting period.

In July 2009, we granted performance-based RSUs covering 99,000 shares to certain executives, issuable upon meeting certain performance targets in fiscal year 2010 and vesting annually over a three year period beginning July 1, 2010. The annual vesting schedule requires continued service through each annual vesting date. During the three months ended January 1, 2012, we reversed approximately $44,000 of net compensation expense related to these awards as a result of forfeitures for not satisfying the services condition of these RSUs. In the nine months ended January 1, 2012, we recognized approximately $10,000 of compensation expense related to these awards, net of forfeitures. The awards were fully vested in fiscal year 2012, and no expense was recorded in fiscal year 2013.

In March 2012, we granted 300,000 performance-based RSUs to our CEO. The RSUs are scheduled to start vesting in three equal annual installments at the end of fiscal year 2013 through 2015 with three year vesting periods if certain predetermined financial measures are met. If the financial measures are not met, each installment will be forfeited at the end of its respective fiscal year. In the three and nine months ended December 30, 2012, we recorded $112,000 and $336,000, respectively, of compensation expense for these awards.

In April 2012, we granted 29,000 bonus RSUs to our CEO. The RSUs vest 50% on the date that is six months after the commencement of the fiscal year 2013 and 50% on the last day of fiscal year 2013. In the three and nine months ended December 30, 2012, we recorded $31,000 and $219,000, respectively, of compensation expense for these awards.

In June 2012, we announced the Fiscal Year 2013 Executive Management Incentive Program (“2013 Incentive Program”). Under this program, each participant’s award is denominated in stock and subject to achievement of certain financial performance goals and the participant’s annual Management by Objective goals. In the three and nine months ended December 30, 2012, we recorded $511,000 and $735,000, respectively, of stock compensation expense related to the 2013 Incentive Program. If we believe that it is probable that the performance measures under this program will be achieved, the stock-based compensation for the awards could result in additional expense in fiscal year 2013 for performance at various levels.

Stock-Based Compensation Expense

The following table summarizes stock-based compensation expense related to stock options and RSUs during the fiscal periods presented (in thousands):

 

     Three Months Ended      Nine Months Ended  
     December 30,
2012
     January 1,
2012
     December 30,
2012
     January 1,
2012
 

Cost of sales

   $ 175       $ 104       $ 289       $ 232   

Research and development

     328         576         437         1,366   

Selling, general and administrative

     986         653         2,284         1,796   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total Stock-based compensation expense

   $ 1,489       $ 1,333       $ 3,010       $ 3,394   
  

 

 

    

 

 

    

 

 

    

 

 

 

The amount of stock-based compensation cost capitalized in inventory was immaterial at each of the fiscal years presented.

Unrecognized Stock-Based Compensation Expense

The following table summarizes unrecognized stock-based compensation expense related to stock options and RSUs for the periods indicated below as follows:

 

     December 30, 2012      April 1, 2012  
     Amount
(in thousands)
     Weighted Average
Remaining
Recognition
Period (in years)
     Amount
(in thousands)
     Weighted Average
Remaining
Recognition
Period (in years)
 

Options

   $ 6,990         2.9       $ 8,119         2.8   

RSUs

     3,373         2.7         3,537         3.2   
  

 

 

       

 

 

    

Total Stock-based compensation expense

   $ 10,363          $ 11,656      
  

 

 

       

 

 

    

 

17


Table of Contents

Valuation Assumptions

We estimate the fair value of stock options on the date of grant using the Black-Scholes option-pricing model. The assumptions used in calculating the fair value of stock-based compensation represent our estimates, but these estimates involve inherent uncertainties and the application of management judgments which include the expected term of the stock-based awards, stock price volatility and forfeiture rates. As a result, if factors change and we use different assumptions, our stock-based compensation expense could be materially different in the future.

We used the following weighted average assumptions to calculate the fair values of options granted during the fiscal periods presented:

 

     Three Months Ended      Nine Months Ended  
     December 30,
2012
     January 1,
2012
     December 30,
2012
     January 1,
2012
 

Expected term of options (years)

     4.4             4.3             4.2–4.5             4.3       

Risk-free interest rate

     0.5 %         0.8 %         0.5% – 0.6 %         0.8% – 1.5 %   

Expected volatility

     41 %         43 %         41% – 42 %         41% – 43 %   

Expected dividend yield

     —               —               —               —         

Weighted average grant date fair value

   $ 2.81           $ 2.07           $ 2.76           $ 2.12       

NOTE 13.       LEASE FINANCING OBLIGATIONS

We have acquired engineering design tools (“Design Tools”) under capital leases. We acquired design tools of $0.9 million in July 2012 under a three-year license, $4.5 million in December 2011 under a three-year license, $5.8 million in October 2011 under a three-year license, $1.0 million in June 2010 under a three-year license, $1.3 million in December 2009 under a 28-month license, and $1.1 million in July 2009 under a three-year license, all of which were accounted for as capital leases and recorded in the property, plant and equipment, net line item in the condensed consolidated balance sheets. The obligations related to the Design Tools were included in other current liabilities and long-term lease financing obligations in our condensed consolidated balance sheets as of December 30, 2012 and April 1, 2012, respectively. The effective interest rates for the Design Tools range from 2.0% to 7.25%.

Amortization expense related to the Design Tools, which was recorded using the straight-line method over the remaining useful life for the periods indicated below was as follows (in thousands):

 

     Three Months Ended      Nine Months Ended  
     December 30,
2012
     January 1,
2012
     December 30,
2012
     January 1,
2012
 

Amortization expense

   $ 818       $ 992       $ 2,659       $ 2,780   

Future minimum lease and sublease income payments for the lease financing obligations as of December 30, 2012 are as follows (in thousands):

 

Fiscal Years

   Design
Tools
 

2013 (3 months remaining)

   $ 335   

2014

     3,284   

2015

     1,320   

2016

     10   

2017 and thereafter

     16   
  

 

 

 

Total minimum lease payments

     4,965   

Less: amount representing interest

     (229
  

 

 

 

Present value of minimum lease payments

     4,736   

Less: short-term lease financing obligations

     (3,138
  

 

 

 

Long-term lease financing obligations

   $ 1,598   
  

 

 

 

 

18


Table of Contents

Interest expense for the lease financing obligations for the periods indicated below was as follows (in thousands):

 

     Three Months Ended      Nine Months Ended  
     December 30,
2012
     January 1,
2012
     December 30,
2012
     January 1,
2012
 

Interest expense

   $ 35       $ 60       $ 107       $ 181   

In the course of our business, we enter into arrangements accounted for as operating leases related to the licensing of engineering design software and the rental of office space. Rent expenses for all operating leases for the periods indicated below were as follows (in thousands):

 

     Three Months Ended      Nine Months Ended  
     December 30,
2012
     January 1,
2012
     December 30,
2012
     January 1,
2012
 

Rent expense

   $ 149       $ 343       $ 456       $ 1,075   

Our future minimum lease payments for the lease operating obligations as of December 30, 2012 are as follows (in thousands):

 

Fiscal Years

   Amount  

2013 (3 months remaining)

   $ 134   

2014

     210   

2015

     105   

2016

     73   

2017 and thereafter

     91   
  

 

 

 

Total minimum lease payments

   $ 613   
  

 

 

 

NOTE 14.       COMMITMENTS AND CONTINGENCIES

In 1986, Micro Power Systems Inc. (“MPSI”), a subsidiary that we acquired in June 1994, identified low-level groundwater contamination at its principal manufacturing site. The area and extent of the contamination appear to have been defined. MPSI previously reached an agreement with a prior tenant to share in the cost of ongoing site investigations and the operation of remedial systems to remove subsurface chemicals and well closure activities. In April 2012, the San Francisco Bay Regional Water Quality Control Board approved our application for low-threat closure and rescinded the previous cleanup order. All monitoring well closure activities on adjacent/neighboring sites have been completed. Discussions with the current property owner regarding deed restriction agreement are ongoing.

Outstanding liabilities for remediation activities, net of payments, consisted of the following as of the dates indicated (in thousands):

 

     December 30,
2012
     April 1,
2012
 

Liabilities for remediation activities

   $ 87       $ 65   

In a letter dated March 27, 2012, the Company was notified by the Alameda County Water District (“ACWD”) of the recent detection of volatile organic compounds at a site adjacent to a facility that was previously owned and occupied by Sipex. The letter was also addressed to prior and current property owners and tenants (collectively “Property Owners”). ACWD requested that the property owners carry out further site investigation activities to determine if the detected compounds are emanating from the site or simply flowing under it. In June 2012, the Property Owners filed with ACWD a report of its investigation/characterization activities and analytical data obtained. Accumulated data suggests that compounds of concern in groundwater appear to be from an offsite source. ACWD is now investigating alternative upgradient sites. Given that this matter is in the early stages of investigation and discussions are ongoing, we are unable to ascertain our exposure, if any.

 

19


Table of Contents

In early 2012, we received correspondences from the California Department of Toxic Substance Control (“DTSC”) regarding its ongoing investigation of hazardous wastes and hazardous waste constituents at a former regulated treatment facility in San Jose, California. In 1985, Micro Power Systems, Inc. (“MPSI”) made two separate permitted hazmat deliveries to the regulated site for treatment. DTSC has requested that former/current property owners and companies that had hazardous waste treated at the site participate in further assessment and remediation activities. A Corrective Action Consent Agreement (“Consent Agreement”) is being negotiated with DTSC regarding the scope of site activities to be performed, limited to investigation of the conditions at the site and evaluation and selection of an appropriate remedial action for the site, but not including implementation of the remedial action. The Company is reviewing the Consent Agreement. Given that this matter is in the early stages of investigation and discussions are ongoing, we are unable to ascertain our exposure, if any.

Generally, we warrant all custom products and application specific products, including cards and boards, against defects in materials and workmanship for a period of 12 months, and occasionally we may provide an extended warranty from the delivery date. We warrant all of our standard products against defects in materials and workmanship for a period of 90 days from the date of delivery. Reserve requirements are recorded in the period of sale and are based on an assessment of the products sold with warranty, historical warranty costs incurred and customer/product specific circumstances. Our liability is generally limited to, at our option, to replacing, repairing, or issuing a credit (if it has been paid for). Generally, our warranty does not cover damage which results from accident, misuse, abuse, improper line voltage, fire, flood, lightning or other damage resulting from modifications, repairs or alterations performed other than by us, or resulting from failure to comply with our written operating and maintenance instructions. Warranty expense has historically been immaterial for our products. The warranty liabilities related to our product sales as of December 30, 2012 and April 1, 2012 were immaterial.

In the ordinary course of business, we may provide for indemnification of varying scope and terms to customers, vendors, lessors, business partners, purchasers of assets or subsidiaries, and other parties with respect to certain matters, including, but not limited to, losses arising out of our breach of agreements or representations and warranties made by us, services to be provided by us, intellectual property infringement claims made by third parties or, matters related to our conduct of the business. In addition, we have entered into indemnification agreements with our directors and certain of our executive officers that will require us, among other things, to indemnify them against certain liabilities that may arise by reason of their status or service as directors or executive officers. We maintain director and officer liability insurance, which may cover certain liabilities arising from our obligation to indemnify our directors and officers, and former directors and officers of acquired companies, in certain circumstances.

It is not possible to determine the aggregate maximum potential loss under these indemnification agreements due to the unique facts and circumstances involved in each particular agreement and claims. Such indemnification agreements might not be subject to maximum loss clauses. Historically, we have not incurred material costs as a result of obligations under these agreements and we have not accrued any liabilities related to such indemnification obligations in our condensed consolidated financial statements.

NOTE 15.       LEGAL PROCEEDINGS

On August 2, 2011, a lawsuit was filed in the Superior Court of California in the County of Santa Clara by Mission West Properties, L.P. (“Mission West”), the lessor for the Hillview Facility naming us as a defendant (Santa Clara County Superior Court case No. 1-11-CV-206456). The lawsuit asserts various monetary and equitable claims, but essentially seeks recovery of remediation and restoration costs in the amount of $3.0 million, which we assert are inflated and unsubstantiated. We also dispute liability in connection with claims by Mission West regarding the extent of restoration mandated by the lease.

Mission West sought leave to amend its Complaint to assert additional claims arising from Mission West’s purchase of the Hillview Facility. On July 30, 2012, the Court denied the motion to amend without prejudice. Mission West re-filed its motion, seeking leave to plead new claims for promissory fraud, intentional and negligent misrepresentation, and concealment against Exar. We opposed the motion; a hearing was held on October 11, 2012. The Court ruled on October 17, 2012 that Mission West could amend its Complaint to assert the new claims against us. The Complaint was amended and an Answer was filed on Exar’s behalf to the Amended Complaint on November 19, 2012.

We previously filed an Amended Cross-Complaint against Mission West on November 21, 2011 for the following Causes of Action: (1) Promissory Fraud; (2) Breach of the Covenant of Good Faith and Fair Dealing; (3) Contract Reformation; and (4) for Deposit in Court. The Cross-Complaint also asserts the following causes of action against our former subtenant, Kovio, Inc.: (1) Declaratory Relief and Indemnity; (2) Breach of Contract; and (3) for Deposit in Court. Responsive pleadings have been filed by the Cross-Defendants. In June 2012, we dismissed the cause of action for Deposit in Court against both Cross-Defendants.

 

20


Table of Contents

Discovery, including depositions of key witnesses in the lawsuit, was informally stayed pending resolution of Mission West’s motion to amend its Complaint, but it is expected that discovery, primarily in the form of depositions, will now proceed. A mediation session has also been scheduled February 2013. An accrual of $2.5 million has been recorded for the settlement of the claims. The accrued amount is based on our best estimate of the potential outcome, however, it is reasonably possible that the estimates could be different from the amounts accrued. Attorney’s fees and costs, which are expensed as incurred, will also be incurred in connection with this litigation.

From time to time, we are involved in various claims, legal actions and complaints arising in the normal course of business. We are not a named party to any other currently ongoing lawsuit or formal proceeding that, in the opinion of our management, is likely to have a material adverse effect on our financial position, results of operations or cash flows.

NOTE 16.       INCOME TAXES

In the three and nine months ended December 30, 2012, we recorded $1.3 million of income tax benefit which mainly resulted from the release of a $1.3 million reserve for uncertain tax positions related to an NOL carryback refund. The reserve was released due to the expiration of the statute of limitations in U. S. tax jurisdictions.

During the three months ended January 1, 2012, we recorded an income tax benefit of $169,000, which mainly resulted from the partial release of the liability for unrecognized tax benefits due to the expiration of the statute of limitations in U.S. tax jurisdictions. During the nine months ended January 1, 2012, we recorded an income tax expense of $3,000, which was due to expenses recorded for foreign taxable income offset by the partial release of the liability for unrecognized tax benefits.

During the three and nine months ended December 30, 2012, unrecognized tax benefits decreased by $1.2 million and $1.1 million, respectively, to $15.7 million. The decrease was primarily due to release of reserves for federal and state income taxes. If recognized, $13.1 million of these unrecognized tax benefits (net of federal benefit) would be recorded as a reduction of future income tax provision before consideration of changes in the valuation allowance for deferred tax assets.

Estimated interest and penalties related to the income taxes are classified as a component of the provision for income taxes in the condensed consolidated statement of operations. Accrued interest and penalties consisted of the following as of the dates indicated (in thousands):

 

     December 30,
2012
     April 1,
2012
 

Accrued interest and penalties

   $ 195       $ 295   

Our major tax jurisdictions are the United States federal and various U.S. states. The fiscal years 2003 through 2012 remain open and subject to examinations by the appropriate governmental agencies in the United States and in certain of our U.S. state jurisdictions.

NOTE 17.       SEGMENT AND GEOGRAPHIC INFORMATION

We operate in one reportable segment, which is comprised of one operating segment. We design, develop and market high performance analog mixed-signal integrated circuits and advanced sub-system solutions for the Networking & Storage, Industrial & Embedded, and Communications Infrastructure markets. The nature of our products and production processes and the type of customers and distribution methods are consistent among all of our products.

Our net sales by product line for the periods indicated below were as follows (in thousands):

 

     Three Months Ended      Nine Months Ended  
     December 30,
2012
     January 1,
2012
     December 30,
2012
     January 1,
2012
 

Connectivity

   $ 17,365       $ 15,393       $ 49,745       $ 53,220   

Power management

     6,059         6,618         19,454         21,745   

Data compression and security

     5,084         4,260         13,311         13,113   

Communications

     2,491         3,408         8,362         14,699   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total net sales

   $ 30,999       $ 29,679       $ 90,872       $ 102,777   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

21


Table of Contents

Our foreign operations are conducted primarily through our wholly-owned subsidiaries in Canada, China, France, Germany, Italy, Japan, Malaysia, Singapore, South Korea, Taiwan and the United Kingdom. Our principal markets include North America, Europe and the Asia Pacific region. Net sales by geographic areas represent direct sales principally to original equipment manufacturers (“OEM”), or their designated subcontract manufacturers, and to distributors (affiliated and unaffiliated) who buy our products and resell to their customers.

Our net sales by geographic area for the periods indicated below were as follows (in thousands):

 

     Three Months Ended      Nine Months Ended  
     December 30,
2012
     January 1,
2012
     December 30,
2012
     January 1,
2012
 

China

   $ 10,749       $ 8,747       $ 31,458       $ 34,055   

United States

     8,711         9,067         22,987         27,558   

Singapore

     3,245         3,331         10,561         10,826   

Germany

     2,662         2,548         8,865         10,257   

Japan

     1,499         1,672         4,367         4,713   

Europe (excluding Germany)

     1,111         1,138         3,654         4,486   

Rest of world

     3,022         3,176         8,980         10,882   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total net sales

   $ 30,999       $ 29,679       $ 90,872       $ 102,777   
  

 

 

    

 

 

    

 

 

    

 

 

 

Substantially all of our long-lived assets at each of December 30, 2012 and April 1, 2012 were located in the United States.

The following distributors and customer accounted for 10% or more of our net sales in the periods indicated:

 

     Three Months Ended     Nine Months Ended  
     December 30,
2012
    January 1,
2012
    December 30,
2012
    January 1,
2012
 

Distributor A

     28     30     30     30

Distributor B

     10     11     10     11

Distributor C

     10     10     10     *   

Customer A

     12     *        *        *   

 

* Net sales for this distributor or customer for this period were less than 10% of our net sales.

No other customer or distributor accounted for 10% or more of the net sales for the three and nine months ended December 30, 2012 and January 1, 2012, respectively.

The following distributors accounted for 10% or more of our net accounts receivable as of the dates indicated:

 

     December 30,
2012
    April 1,
2012
 

Distributor A

     18     29

Distributor B

     *        14

Distributor D

     10     10

Customer A

     16     *   

 

* Accounts receivable for this distributor or customer for this period were less than 10% of total account balance.

No other customer or distributor accounted for 10% or more of the net accounts receivable as of December 30, 2012 and April 1, 2012, respectively.

 

22


Table of Contents

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations, as well as information contained in “Part II, Item 1A.” below and elsewhere in this Quarterly Report on Form 10-Q, contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements are generally written in the future tense and/or may generally be identified by words such as “will,” “may,” “should,” “would,” “could,” “expect,” “suggest,” “possible,” “potential,” “target,” “commit,” “continue,” “may,” “believe,” “anticipate,” “intend,” “project,” “projected,” “positioned,” “plan,” or other similar words. Forward-looking statements contained in our Quarterly Report include, among others, statements regarding (1) our future strategies and target markets, (2) our future revenues, gross profits and margins, (3) our future research and development (“R&D”) efforts and related expenses, (4) our future selling, general and administrative expenses (“SG&A”), (5) our cash and cash equivalents, short-term marketable securities and cash flows from operations being sufficient to satisfy working capital requirements and capital equipment needs for at least the next 12 months, (6) our ability to continue to finance operations with cash flows from operations, existing cash and investment balances, and some combination of long-term debt and/or lease financing and sales of equity securities, (7) the possibility of future acquisitions and investments, (8) our ability to accurately estimate our assumptions used in valuing stock-based compensation, (9) our ability to estimate and reconcile distributors’ reported inventories to their activities, (10) our ability to estimate future cash flows associated with long-lived assets, and (11) the volatile global economic and financial market conditions. These statements reflect our current views with respect to future events and our potential financial performance and are subject to risks and uncertainties that could cause our business, operating results and financial condition to differ materially and adversely from what is projected or implied by any forward looking statement included in this Quarterly Report. Factors that could cause actual results to differ materially from those stated herein include, but are not limited to: the information contained under the caption “Part I, Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Part II, Item 1A. Risk Factors”, as well as those risks discussed in our Annual Report on Form 10-K for the fiscal year ended April 1, 2012. We disclaim any obligation to update information in any forward-looking statement, except as required by law.

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the condensed consolidated financial statements and notes thereto, included in this Quarterly Report, and our audited consolidated financial statements included in our Annual Report on Form 10-K for the fiscal year ended April 1, 2012, as filed with the Securities and Exchange Commission (“SEC”). Our results of operations for the three and nine months ended December 30, 2012 are not necessarily indicative of results to be expected for any future period.

BUSINESS OVERVIEW

We design, develop and market high performance analog mixed-signal integrated circuits and advanced sub-system solutions for the Networking & Storage, Industrial & Embedded Systems, and Communications Infrastructure markets. Our product portfolio includes power management and connectivity components, communications products, and network security and storage optimization solutions. Our comprehensive knowledge of end-user markets along with the underlying analog, mixed signal and digital technology has enabled us to provide innovative solutions designed to meet the needs of the evolving connected world. Applying both analog and digital technologies, our products are deployed in a wide array of applications such as portable electronic devices, set top boxes, digital video recorders, networking and telecommunication systems, servers, enterprise storage systems and industrial automation equipment. We provide customers with a breadth of component products and sub-system solutions based on advanced silicon integration.

We market our products worldwide with sales offices and personnel located throughout the Americas, Europe, and Asia. Our products are sold in the United States through a number of manufacturers’ representatives and distributors. Internationally, our products are sold through various regional and country specific distributors. Globally, these channel partners are assisted and managed by our regional sales teams. In addition to our regional sales teams, we also employ a worldwide team of field application engineers to work directly with our customers.

Our international sales are denominated in U.S. dollars. Our international related operating expenses expose us to fluctuations in currency exchange rates because our foreign operating expenses are denominated in foreign currencies while our sales are denominated in U.S. dollars. Our operating results are subject to fluctuations as a result of several factors that could materially and adversely affect our future profitability as described in “Part II, Item 1A. Risk Factors—Our Financial Results May Fluctuate Significantly Because Of A Number Of Factors, Many Of Which Are Beyond Our Control.”

Our fiscal years consist of 52 or 53 weeks. In a 52-week year, each fiscal quarter consists of 13 weeks. Fiscal years 2013 and 2012 consist of 52 and 53 weeks, respectively, with the first quarter of fiscal year 2012 consisting of 14 weeks. All references to quarterly or three and nine months ended financial results are references to the results of the relevant fiscal period.

 

23


Table of Contents

Business Outlook

We experienced a sequential quarterly increase of 1% in our net sales in the third quarter as compared to the second quarter of fiscal year 2013. The increase in net sales as compared to the immediately prior quarter was primarily attributed to the growth in our Data Compression and Security and Connectivity product lines. Operating expenses increased from $13.7 million in the second fiscal quarter to $14.5 in the third fiscal quarter of 2013, due to an additional accrual for an existing legal matter recorded in the third fiscal quarter. We believe we are effectively managing our operating expenses while continuing to invest an appropriate amount in research and development projects for future products. In the fourth fiscal quarter of fiscal year 2013 compared to the third quarter, we expect sales and operating expenses to increase slightly and the gross margin to remain consistent or increase slightly.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The preparation of our financial statements and accompanying disclosures in conformity with U.S. generally accepted accounting principles (“GAAP”) requires estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities in the condensed consolidated financial statements and the accompanying notes. The SEC has defined a company’s critical accounting policies as policies that are most important to the portrayal of a company’s financial condition and results of operations, and which require a company to make its most difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain. Based on this definition, we have identified our most critical accounting policies and estimates to be as follows: (1) revenue recognition; (2) valuation of inventories; (3) income taxes; (4) stock-based compensation; (5) goodwill; (6) long-lived assets; and (7) valuation of business combinations. Although we believe that our estimates, assumptions and judgments are reasonable, they are based upon information presently available. Actual results may differ significantly from these estimates if the assumptions, judgments and conditions upon which they are based turn out to be inaccurate. A further discussion of our critical accounting policies can be found in “Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” of our Annual Report on Form 10-K for the fiscal year ended April 1, 2012.

RESULTS OF OPERATIONS

The first quarter of fiscal years 2013 and 2012 consist of 13 and 14 weeks, respectively. In the following discussion of the results of operations, year-to-date fiscal year 2013 amounts are less than the fiscal year 2012 amounts due to the shorter quarter length in the first fiscal quarter, in addition to the other explanations cited below.

Net Sales by Product Line

Our net sales by product line in dollars and as a percentage of net sales were as follows for the periods presented (in thousands, except percentages):

 

     Three Months Ended           Nine Months Ended        
     December 30,
2012
    January 1,
2012
    Change     December 30,
2012
    January 1,
2012
    Change  

Net sales:

                        

Connectivity

   $ 17,365         56   $ 15,393         52     13   $ 49,745         55   $ 53,220         52     (7 %) 

Power management

     6,059         20     6,618         22     (8 %)      19,454         21     21,745         21     (11 %) 

Data compression and security

     5,084         16     4,260         14     19     13,311         15     13,113         13     2

Communication

     2,491         8     3,408         12     (27 %)      8,362         9     14,699         14     (43 %) 
  

 

 

    

 

 

   

 

 

    

 

 

     

 

 

    

 

 

   

 

 

    

 

 

   

Total

   $ 30,999         100   $ 29,679         100     $ 90,872         100   $ 102,777         100  
  

 

 

    

 

 

   

 

 

    

 

 

     

 

 

    

 

 

   

 

 

    

 

 

   

Software net sales have not been a significant part of our total net sales.

Connectivity

Net sales of Connectivity products, including UARTs and serial transceiver products, for the three months ended December 30, 2012 increased by $2.0 million as compared to the same period a year ago. Net sales of Connectivity products for the nine months ended December 30, 2012 decreased by $3.5 million as compared to the same period a year ago. Connectivity products sales volume across all regions and channels started to decrease in the third fiscal quarter of 2012. Although sales volume started to recover during the third fiscal quarter of 2013, the year - to - date revenue for fiscal year 2013 was still lower than revenue from the same period a year ago.

 

24


Table of Contents

Power Management

Power Management products, including DC-DC regulators, LED drivers and programmable power management devices, for the three and nine months ended December 30, 2012 decreased by $0.6 million and $2.3 million, respectively, as compared to the same periods a year ago due to reduced demand at certain Communications Infrastructure and Automotive customers and the expiration of a software royalty agreement in the prior quarter.

Data Compression and Security

Net sales of Data Compression and Security products, including network access and storage products, encryption and data reduction and packet processing products, for the three and nine months ended December 30, 2012 increased $0.8 million and $0.2 million, respectively, as compared to the same periods a year ago. The increase was primarily due to increased shipments of our compression and encryption products offset by lower sales volume and price erosion on our end of life products.

Communications

Net sales of Communication products, including network access, transmission and transport products, for the three and nine months ended December 30, 2012 decreased $0.9 million and $6.3 million, respectively, as compared to the same periods a year ago. The decrease in net sales of these products is primarily due to lower sales volume of legacy SONET/SDH-based and packet-based devices.

Net Sales by Channel

Our net sales by channel in dollars and as a percentage of net sales were as follows for the periods presented (in thousands, except percentages):

 

     Three Months Ended           Nine Months Ended        
     December 30,
2012
    January 1,
2012
    Change     December 30,
2012
    January 1,
2012
    Change  

Net sales:

                        

Sell-through distributors

   $ 16,224         52   $ 17,431         59     (7 %)    $ 50,444         56   $ 58,788         57     (14 %) 

Direct and others

     14,775         48     12,248         41     21     40,428         44     43,989         43     (8 %) 
  

 

 

    

 

 

   

 

 

    

 

 

     

 

 

    

 

 

   

 

 

    

 

 

   

Total

   $ 30,999         100   $ 29,679         100     $ 90,872         100   $ 102,777         100  
  

 

 

    

 

 

   

 

 

    

 

 

     

 

 

    

 

 

   

 

 

    

 

 

   

Net sales to our distributors, for which we recognize revenue on the sell-through basis for the three and nine months ended December 30, 2012 decreased by $1.2 million and $8.3 million, respectively, as compared to the same periods a year ago due to lower sales volume across all product lines except Data Compression and Security products and price erosion on high volume serial transceiver products.

Net sales to our direct customers and other distributors, for which we recognize revenue on a sell-in basis for the three months ended December 30, 2012 increased by $2.5 million compared to the same period a year ago. The increase is primarily attributable to higher sales volume of our Connectivity and Data Compression and Security products.

Net sales to our direct customers and other distributors for the nine months ended December 30, 2012 decreased by $3.6 million compared to the same period a year ago. The decrease was primarily attributable to lower sales volume across all product lines except Data Compression and Security, and average selling price erosion.

 

25


Table of Contents

Net Sales by Geography

Our net sales by geography in dollars and as a percentage of net sales were as follows for the periods presented (in thousands, except percentages):

 

     Three Months Ended           Nine Months Ended        
     December 30,
2012
    January 1,
2012
    Change     December 30,
2012
    January 1,
2012
    Change  

Net sales:

                        

Asia

   $ 18,326         59   $ 16,798         57     9   $ 54,867         60   $ 59,877         58     (8 %) 

Americas

     8,900         29     9,195         31     (3 %)      23,486         26     28,157         28     (17 %) 

EMEA

     3,773         12     3,686         12     2     12,519         14     14,743         14     (15 %) 
  

 

 

    

 

 

   

 

 

    

 

 

     

 

 

    

 

 

   

 

 

    

 

 

   

Total

   $ 30,999         100   $ 29,679         100     $ 90,872         100   $ 102,777         100  
  

 

 

    

 

 

   

 

 

    

 

 

     

 

 

    

 

 

   

 

 

    

 

 

   

Net sales in Asia and in the Europe, Middle East and Africa (“EMEA”) for the three months ended December 30, 2012 increased by $1.5 million and $0.1 million, respectively as compared to the same periods a year ago primarily due to higher sales volume of our Connectivity products.

Net sales in Americas for the three months ended December 30, 2012 decreased by $0.3 million as compared to the same period a year ago due to lower sales volume across all of our product lines in the region with the exception of Data Compression and Security products.

Net sales in Asia, Americas and EMEA for the nine months ended December 30, 2012 decreased by $5.0 million, $4.7 million and $2.2 million, respectively, as compared to the same periods a year ago due to lower sales volume across all of our product lines in the regions with the exception of Data Compression and Security products.

Gross Profit

Our gross profit in dollars and as a percentage of net sales was as follows for the periods indicated (in thousands, except percentages):

 

     Three Months Ended           Nine Months Ended        
     December 30,
2012
    January 1,
2012
    Change     December 30,
2012
    January 1,
2012
    Change  

Net sales

   $ 30,999         $ 29,679           $ 90,872         $ 102,777        

Cost of sales:

                        

Cost of sales

     16,006         52     15,429         52     4     47,903         53     53,147         52     (10 %) 

Amortization of acquired intangible assets

     801         3     905         3     (11 %)      2,578         3     2,715         3     (5 %) 
  

 

 

    

 

 

   

 

 

    

 

 

     

 

 

    

 

 

   

 

 

    

 

 

   

Gross profit

   $ 14,192         46   $ 13,345         45     $ 40,391         44   $ 46,915         46  
  

 

 

    

 

 

   

 

 

    

 

 

     

 

 

    

 

 

   

 

 

    

 

 

   

Gross profit represents net sales less cost of sales. Cost of sales includes:

 

   

the cost of purchasing finished silicon wafers manufactured by unaffiliated foundries;

 

   

the costs associated with assembly, packaging, test, quality assurance and product yield loss;

 

   

the cost of purchasing finished tested “turnkey” units;

 

   

the cost of personnel and equipment associated with manufacturing, engineering and support;

 

   

the cost of stock-based compensation associated with manufacturing, engineering and support personnel;

 

   

the amortization of purchased intangible assets and acquired intellectual property;

 

   

the provision for excess and obsolete inventory;

 

   

provisions for restructuring charges and exit costs.

 

26


Table of Contents

Gross profit as a percentage of net sales for the three months ended December 30, 2012, increased slightly compared to the same period a year ago. Gross profit as a percentage of net sales for the nine months ended December 30, 2012 decreased by approximately 2% as compared to the same period a year ago. The decrease in gross profit percentage was primarily due to unfavorable product mix.

We believe that gross profit will fluctuate as a percentage of sales and in absolute dollars due to, among other factors, product mix, manufacturing costs, our ability to leverage fixed operational costs, shipment volumes, competitive pricing pressure on our products, and currency fluctuations. We reduced employee-related costs through restructuring activities in the fourth quarter of fiscal year 2012. We began to realize the reduction in the underlying costs in fiscal year 2013.

Other Costs and Expenses

The following table shows other costs and expenses in dollars and as a percentage of net sales for the periods indicated (in thousands, except percentages):

 

     Three Months Ended           Nine Months Ended        
     December 30,
2012
    January 1,
2012
    Change     December 30,
2012
    January 1,
2012
    Change  

Net sales

   $ 30,999         $ 29,679           $ 90,872         $ 102,777        

R&D expense:

     5,376         17     8,871         30     (39 %)      16,598         18     26,989         26     (39 %) 

SG&A expense:

     8,645         28     9,909         33     (13 %)      24,066         26     28,824         28     (17 %) 

Research and Development (“R&D”)

Our R&D expenses consist primarily of:

 

   

the salaries, stock-based compensation, and related expenses of employees engaged in product research, design and development activities;

 

   

costs related to engineering design tools, expenses related to new mask tool sets, software amortization, test hardware, and engineering supplies and services;

 

   

amortization of acquired intangible assets such as existing technology and patents/core technology; and

 

   

facilities expenses.

R&D expenses for the three months ended December 30, 2012 decreased $3.5 million, or 39%, as compared to the same period a year ago. R&D expenses for the nine months ended December 30, 2012 decreased $10.4 million, or 39%, as compared to the same period a year ago. The decrease was primarily a result of lower labor and facility related expenses resulting from our reduction in force in the fourth quarter of fiscal year 2012 and lower maintenance costs on our design software.

We have a contractual agreement under which certain of our R&D costs are eligible for reimbursement. Amounts collected under this arrangement are offset against R&D expenses. For the third quarters of fiscal years 2013 and 2012, we offset $0.5 million and $1.0 million of R&D expenses in connection with this agreement, respectively. For the first nine months of fiscal years 2013 and 2012, we offset $1.5 million and $3.5 million of R&D expenses in connection with this agreement, respectively.

We believe that R&D expenses will fluctuate as a percentage of sales and increase in absolute dollars due to, among other factors, increased investment in software development, incentives, annual merit increases and fluctuations in reimbursements under a research and development contract. We reduced employee related costs, rent and electronic design automation tool expenses through restructuring activities in the fourth quarter of fiscal year 2012. In connection with the restructuring, we eliminated our internal capability to physically design certain deep submicron products and adopted an outsourcing model instead. Partially offsetting our cost reductions, we are incurring incremental subcontract costs for deep submicron design, will hire engineers to execute our strategy and expect salary increases, profit sharing costs and a year over year reduction in reimbursement under an R&D contract. We began to realize the net cost reduction in fiscal year 2013.

 

27


Table of Contents

Selling, General and Administrative (“SG&A”)

SG&A expenses consist primarily of:

 

   

salaries, stock-based compensation and related expenses;

 

   

sales commissions;

 

   

professional and legal fees;

 

   

amortization of acquired intangible assets such as distributor relationships, tradenames/trademarks and customer relationships;

 

   

facilities expenses; and

 

   

acquisition related costs.

SG&A expenses for the three months ended December 30, 2012 decreased $1.3 million, or 13%, as compared to the same period a year ago. SG&A expenses for the nine months ended December 30, 2012 decreased $4.8 million, or 17%, as compared to the same period a year ago. The decrease was primarily a result of lower labor-related costs, incentives and professional fees, offset by a provision for dispute resolution of $1 million.

We believe that SG&A expenses will fluctuate as a percentage of sales and in absolute dollars due to, among other factors, variable commissions, legal costs, incentives and annual merit increases. We reduced employee related costs through restructuring activities in the fourth quarter of fiscal year 2012. We began to realize the net cost reduction in fiscal year 2013.

Restructuring Charges and Exit Costs

 

     Three Months Ended            Nine Months Ended         
     December 30,
2012
    January  1,
2012
     Change     December 30,
2012
    January  1,
2012
     Change  

Net sales

   $ 30,999         $ 29,679            $ 90,872         $ 102,777         

Restructuring charges and exit
costs – cost of sales

     79         —          —           —           100     160         —          152         —           5

Restructuring charges and exit
costs – operating expenses

     524         2     —           —           100     1,619         2     173         —           836

During the three and nine months ended December 30, 2012, we incurred restructuring charges and exit costs of $0.6 million and $1.8 million, respectively. During the nine months ended January 1, 2012, we incurred restructuring charges and exit costs of $0.3 million. Restructuring charges and exit costs primarily consist of severance benefits. See “Note 8 – Restructuring Charges and Exit Costs.”

Other Income and Expenses

The following table shows other income and expenses in dollars and as a percentage of net sales for the periods indicated (in thousands, except percentages):

 

     Three Months Ended           Nine Months Ended        
     December 30,
2012
    January  1,
2012
    Change     December 30,
2012
    January  1,
2012
    Change  

Net sales

   $ 30,999        $ 29,679          $ 90,872        $ 102,777       

Interest income and other, net

     586        2     593        2     (1 %)      1,906        2     2,019        2     (6 %) 

Interest expense

     (56     —          (60     —          (7 %)      (128     —          (181     —          (29 %) 

 

28


Table of Contents

Interest Income and Other, Net

Interest income and other, net primarily consists of:

 

   

interest income;

 

   

foreign exchange gains or losses;

 

   

realized gains or losses on marketable securities; and

 

   

realized gains or losses on sales of fixed assets and intangible assets.

The decrease in interest income and other, net during the three and nine months ended December 30, 2012 as compared to the same period a year ago was primarily attributable to a decrease in interest income and other, net as a result of lower yield related to our cash and short-term investments.

Interest Expense

We have acquired engineering Design Tools under capital leases. We acquired design tools of $0.9 million in July 2012 under a three-year license, $4.5 million in December 2011 under a three-year license, $5.8 million in October 2011 under a three-year license, $1.0 million in June 2010 under a three-year license, $1.3 million in December 2009 under a 28-month license, and $1.1 million in July 2009 under a three-year license, all of which were accounted for as capital leases and recorded in the property, plant and equipment, net line item in the condensed consolidated balance sheets. The obligations related to Design Tools were included in other current liabilities and long-term lease financing obligations in our condensed consolidated balance sheets as of December 30, 2012 and April 1, 2012, respectively. The effective interest rates for the Design Tools range from 2.0% to 7.25%.

Interest expenses recorded for the design tools capital lease obligations for the periods indicated below were as follow (in thousands):

 

     Three Months Ended      Nine Months Ended  
     December 30,
2012
     January 1,
2012
     December 30,
2012
     January 1,
2012
 

Interest expense

   $ 35       $ 60       $ 107       $ 181   

Impairment Charges on Investments

We periodically review and determine whether our investments with unrealized loss positions are other-than-temporarily impaired. This evaluation includes, but is not limited to, significant quantitative and qualitative assessments and estimates regarding credit ratings, collateralized support, the length of time and significance of a security’s loss position, our intent not to sell the security, and whether it is more likely than not that we will not have to sell the security before recovery of its cost basis. Realized gains or losses on the sale of marketable securities are determined by the specific identification method and are reflected in the interest income and other, net line on the condensed consolidated statements of operations. Declines in value of our investments both marketable and non-marketable, judged to be other-than-temporary, are reported in the impairment charges on investments line in the condensed consolidated statements of operations. We did not record any impairment charges in either the three and nine months ended December 30, 2012 or January 1, 2012, respectively.

Our long-term investment consists of our investment in Skypoint Telecom Fund II (US), L.P. (“Skypoint Fund”). Skypoint Fund is a venture capital fund that invested primarily in private companies in the telecommunications and/or networking industries. We account for this non-marketable equity investment under the cost method. We periodically review and determine whether the investment is other-than-temporarily impaired, in which case the investment is written down to its impaired value. Any decline in the value of our non-marketable investments is reported in the impairment charges on investments line in condensed consolidated statements of operations. We did not record any impairment charges after our assessment of the valuation of the fund performance in either the three and nine months ended December 30, 2012 or January 1, 2012.

Provision for (Benefit from) Income Taxes

In the three and nine months ended December 30, 2012, we recorded $1.3 million of income tax benefit which mainly resulted from the release of a $1.3 million reserve for uncertain tax positions related to an NOL carryback refund. The reserve was released due to the expiration of the statute of limitations in U. S. tax jurisdictions.

 

29


Table of Contents

During the three months ended January 1, 2012, we recorded an income tax benefit of $169,000, which mainly resulted from the partial release of the liability for unrecognized tax benefits due to the expiration of the statute of limitations in U.S. tax jurisdictions. During the nine months ended January 1, 2012, we recorded an income tax expense of $3,000, which was due to expenses recorded for foreign taxable income offset by the partial release of the liability for unrecognized tax benefits.

LIQUIDITY AND CAPITAL RESOURCES

 

     Nine Months Ended  
     December 30,
2012
    January 1,
2012
 
     (dollars in thousands)  

Cash and cash equivalents

   $ 15,334      $ 9,745   

Short-term investments

     185,784        188,724   
  

 

 

   

 

 

 

Total cash, cash equivalents, and short-term investments

   $ 201,118      $ 198,469   
  

 

 

   

 

 

 

Percentage of total assets

     73     69

Net cash provided by operating activities

   $ 3,654      $ 2,907   

Net cash provided by (used in) investing activities

     780        (5,781

Net cash provided by (used in) financing activities

     2,186        (2,420
  

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents

   $ 6,620      $ (5,294
  

 

 

   

 

 

 

Fiscal Year 2013

Our net income was approximately $1.2 million for the nine months ended December 30, 2012. After adjustments for non-cash items and changes in working capital, we generated $3.7 million of cash from operating activities.

Significant non-cash charges included:

 

   

depreciation and amortization expenses of $8.3 million; and

 

   

stock-based compensation expense of $3.0 million;

Working capital changes included:

 

   

a $3.7 million increase in accounts receivable primarily due to the timing of shipments and certain large customer payments;

 

   

a $0.3 million increase in inventory due to expected increase in future shipments; and

 

   

a $4.1 million decrease in accrued restructuring charges and exit costs, primarily due to payments made.

In the nine months ended December 30, 2012, net cash provided by investing activities was $0.8 million. Proceeds of $134.8 million from sales and maturities of investments were offset by $133.0 million purchase of investments and $1.3 million used for purchases of property, plant and equipment and intellectual property.

In the nine months ended December 30, 2012, net cash provided by financing activities reflects $4.7 million of proceeds associated with our employee stock plans partially offset by the $2.5 million repayment of lease financing obligations.

Fiscal Year 2012

Our net loss was approximately $7.2 million for the nine months ended January 1, 2012. After adjustments for non-cash items and changes in working capital, we generated $2.9 million of cash from operating activities.

Significant non-cash charges included:

 

   

depreciation and amortization expenses of $10.1 million; and

 

   

stock-based compensation expense of $3.4 million;

 

30


Table of Contents

Working capital changes included:

 

   

a $1.2 million decrease in accounts receivable primarily due to lower shipments;

 

   

a $1.2 million decrease in accrued compensation and related benefits primarily due to the timing of payroll related accruals and the payment of our 401(k) employer match; and

 

   

a $1.0 million increase in other current non-trade receivables due to the timing of our research and development reimbursement costs.

In the nine months ended January 1, 2012, net cash used in investing activities reflects net purchase of short-term marketable securities of $3.5 million and $2.7 million in purchases of property, plant and equipment and intellectual property.

From time to time, we acquire outstanding shares of our common stock in the open market to partially offset dilution from our equity awards, to increase our return on our invested capital and to bring our cash to a more appropriate level for our Company. On August 28, 2007, we established a share repurchase plan (“2007 SRP”) and authorized the repurchase of up to $100 million of our common stock. As of March 27, 2011, we had purchased shares valued at $88.2 million under the 2007 SRP. During the three and nine months ended December 30, 2012 and January 1, 2012, respectively, we did not repurchase any shares under the 2007 SRP. As of December 30, 2012, the remaining authorized amount for stock repurchases under the 2007 SRP was $11.8 million. The 2007 SRP does not have a termination date. We may continue to utilize our share repurchase plan, which would reduce our cash, cash equivalents and/or short-term investments available to fund future operations and to meet other liquidity requirements.

To date, inflation has not had a significant impact on our operating results.

We believe that our cash and cash equivalents, short-term marketable securities and expected cash flows from operations will be sufficient to satisfy working capital requirements, capital equipment and intellectual property needs for at least the next 12 months. However, should the demand for our products decrease in the future, the availability of cash flows from operations may be limited, which could have a material adverse effect on our financial condition and results of operations. From time to time, we evaluate potential acquisitions, strategic arrangements and equity investments that we believe are complementary to our design expertise and market strategy. To the extent that we pursue or position ourselves to pursue these transactions, we could consume a significant portion of our capital resources or choose to seek additional equity or debt financing. Additional financing may not be available on terms acceptable to us or at all. The sale of additional equity or convertible debt could result in dilution to our stockholders.

RECENT ACCOUNTING PRONOUNCEMENTS

Please refer to “Part I, Item 1. Financial Statements” and “Notes to Condensed Consolidated Financial Statements, Note 2 – Recent Accounting Pronouncements.”

OFF-BALANCE SHEET ARRANGEMENTS

We have not utilized special purpose entities to facilitate off-balance sheet financing arrangements. However, we have, in the normal course of business, entered into agreements which impose warranty obligations with respect to our products or which obligate us to provide indemnification of varying scope and terms to customers, vendors, lessors and business partners, our directors and executive officers, purchasers of assets or subsidiaries, and other parties with respect to certain matters. These arrangements may constitute “off-balance sheet transactions” as defined in Section 303(a)(4) of Regulation S-K. Please see “Note 14. Commitments and Contingencies” to the condensed consolidated financial statements for further discussion of our product warranty liabilities and indemnification obligations.

As discussed in “Note 14. Commitments and Contingencies,” during the normal course of business, we make certain indemnities and commitments under which we may be required to make payments in relation to certain transactions. These indemnities include non-infringement of patents and intellectual property, indemnities to our customers in connection with the delivery, design, manufacture and sale of our products, indemnities to our directors and officers in connection with legal proceedings, indemnities to various lessors in connection with facility leases for certain claims arising from such facility or lease and indemnities to other parties to certain acquisition agreements. The duration of these indemnities and commitments varies and in certain cases is indefinite. We believe that substantially all of our indemnities and commitments provide for limitations on the maximum potential future payments we could be obligated to make. However, we are unable to estimate the maximum amount of liability related to our indemnities and commitments because such liabilities are contingent upon the occurrence of events which are not reasonably determinable.

 

31


Table of Contents

CONTRACTUAL OBLIGATIONS AND COMMITMENTS

Our contractual obligations and commitments at December 30, 2012 were as follows (in thousands):

 

     Payments due by period  

Contractual Obligations

   Total      Less than
1 year
     1-3
years
     3-5
years
     More than
5 years
 

Purchase commitments (1)

   $ 19,555       $ 19,555       $       $  —         $  —     

Lease obligations (2)

     613         308         196         109         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 20,168       $ 19,863       $ 196       $ 109       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) We place purchase orders with wafer foundries, back end suppliers and other vendors as part of our normal course of business. We expect to receive and pay for wafers, capital equipment and various service contracts over the next 12 months from our existing cash and cash equivalent balances.
(2) Includes lease payments related to worldwide offices and buildings.

Other commitments

As of December 30, 2012, our unrecognized tax benefits were $15.7 million, of which $2.2 million was classified as other non-current obligations. We believe that it is reasonably possible that the amount of gross unrecognized tax benefits related to the resolution of income tax matters could be reduced by approximately $1.4 million during the next 12 months as the statute of limitations expires. See “Note 16 – Income Taxes.”

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Foreign Currency Fluctuations. We are exposed to foreign currency fluctuations primarily through our foreign operations. This exposure is the result of foreign operating expenses being denominated in foreign currency. Operational currency requirements are typically forecasted for a one-month period. If there is a need to hedge this risk, we may enter into transactions to purchase currency in the open market or enter into forward currency exchange contracts.

If our foreign operations forecasts are overstated or understated during periods of currency volatility, we could experience unanticipated currency gains or losses. At December 30, 2012, we did not have significant foreign currency denominated net assets or net liabilities positions and had no foreign currency contracts outstanding.

Investment Risk and Interest Rate Sensitivity. We maintain investment portfolio holdings of various issuers, types, and maturity dates with two professional money management institutions. The fair value of these investments on any given day during the investment term may vary as a result of market interest rate fluctuations. Our investment portfolio consisted of cash equivalents, money market funds and fixed income securities of $195.0 million as of December 30, 2012 and $190.8 million as of April 1, 2012. These securities, like all fixed income instruments, are subject to interest rate risk and will vary in value as market interest rates fluctuate. If market interest rates were to increase or decline immediately and uniformly by 10% or less from levels as of December 30, 2012, the increase or decline in the fair value of the portfolio would not be material. At December 30, 2012, the difference between the fair value and the underlying cost of the investments portfolio was an unrealized loss of $0.4 million, net of taxes.

Our short-term investments are classified as “available-for-sale” securities, and the cost of securities sold is based on the specific identification method. At December 30, 2012, short-term investments consisted of corporate bonds and notes, asset and mortgage-backed securities, U.S. government agency securities, U.S. Treasury securities and state and local government securities of $185.8 million.

 

32


Table of Contents

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures (“Disclosure Controls”)

Disclosure Controls, as defined in Rule 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), are controls and procedures designed to ensure that information required to be disclosed in the reports filed or submitted under the Exchange Act, is recorded, processed, summarized and reported within the time periods as specified in the SEC’s rules and forms. In addition, Disclosure Controls are designed to ensure the accumulation and communication of information required to be disclosed in reports filed or submitted under the Exchange Act to our management, including the Chief Executive Officer (our principal executive officer) (the “CEO”) and Chief Financial Officer (our principal financial officer) (the “CFO”), to allow timely decisions regarding required disclosure.

We evaluated the effectiveness of the design and operation of our Disclosure Controls, as defined by the rules and regulations of the SEC (the “Evaluation”), as of the end of the period covered by this Quarterly Report on Form 10-Q. This Evaluation was performed under the supervision and with the participation of management, including our CEO, as principal executive officer, and CFO, as principal financial officer.

Attached as Exhibits 31.1 and 31.2 of this Quarterly Report on Form 10-Q are the certifications of the CEO and the CFO, respectively, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (the “Certifications”). This section of the Quarterly Report on Form 10-Q provides information concerning the Evaluation referred to in the Certifications and should be read in conjunction with the Certifications.

Based on the Evaluation, our CEO and CFO have concluded that our Disclosure Controls are effective at the reasonable assurance level as of December 30, 2012.

Inherent Limitations on the Effectiveness of Disclosure Controls

Our management, including the CEO and CFO, does not expect that our Disclosure Controls will prevent all errors and all fraud. Disclosure Controls, no matter how well conceived, managed, utilized and monitored, can provide only reasonable assurance that the objectives of such controls are met. Therefore, because of the inherent limitation of Disclosure Controls, no evaluation of such controls can provide absolute assurance that all control issues and instances of fraud, if any, within us have been detected.

Changes in Internal Control over Financial Reporting

There has been no change in our internal control over financial reporting that occurred during the period covered by this Quarterly Report that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II – OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

The disclosure in “Notes to Condensed Consolidated Financial Statements, Note 15– Legal Proceedings” contained in “Part I, Item 1. Financial Statements” is hereby incorporated by reference.

ITEM 1A. RISK FACTORS

We are subject to the following risks, as well as others, that could materially and adversely affect our business, results of operations and financial condition. The following risk factors and other information included in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for our fiscal year ended April 1, 2012 should be carefully considered. The risks and uncertainties described below, in the Quarterly Reports on Form 10-Q for the fiscal quarters ended July 1, 2012 and September 30, 2012 and in our Annual Report on Form 10-K for our fiscal year ended April 1, 2012 are not the only ones we face. Additional risks and uncertainties not presently known to us or that we currently deem immaterial also may impair our business operations if circumstances change. If any of the following risks occur, our business, financial condition, operating results and cash flows could be materially adversely affected.

 

33


Table of Contents

Global capital, credit market, employment, and general economic and political conditions, and resulting declines in consumer confidence and spending, could have a material adverse effect on our business, operating results and financial condition.

Because our customers, suppliers and other business partners are in many countries around the world, we must monitor general global conditions for impact on our business. Economies throughout global regions continue to be volatile and, in many countries, inconsistent with trends in the U.S. or other stable economies. In Europe uncertainty continues regarding the ability of certain countries to service their level of debt. In recent quarters in China and certain other Asian countries growth has continued but at a slower pace than earlier in the recovery. Political conditions in individual countries or across regions can also impact our business.

Our current operating plans are based on assumptions concerning levels of consumer and corporate spending. If weak global and domestic economic and market conditions remain unstable or deteriorate, we may experience material adverse impacts on our business, operating results and financial condition which could result in a decline in the price of our common stock. If economic conditions continue to be erratic, we may have to implement additional cost reduction measures which may adversely impact our ability to generate revenue or introduce new products and technologies. Adverse economic and market conditions could also harm our business by negatively affecting the parties with whom we do business, including our business partners, customers and suppliers. These conditions could impair the ability of our customers to pay for products they have ordered from us. As a result, allowances for doubtful accounts and write-offs of accounts receivable from our customers may increase. In addition, our suppliers may experience financial difficulties that could negatively affect their operations and their ability to supply us or our subcontractors with the parts we need to manufacture our products.

If global economic, political and financial market conditions deteriorate or recovery is slow for an extended period of time, many related factors could have a material adverse effect on our business, operating results, and financial condition, including the following:

 

   

slower spending by consumers and market fluctuations may result in reduced demand for our products, reduced orders for our products, order cancellations, lower revenues, increased inventories, and lower gross margins;

 

   

if recent restructuring activities insufficiently lower our operating expense or we fail to execute on our growth strategy, our restructuring efforts may not be successful and we may not be able to realize the cost savings and other anticipated benefits;

 

   

if we further reduce our workforce or curtail or redirect research and development efforts, it may adversely impact our ability to respond rapidly to product development or growth opportunities;

 

   

we may be unable to predict the strength or duration of market conditions or the effects of consolidation of our customers or competitors in their industries, which may result in project delays or cancellations;

 

   

we may be unable to find suitable investments that are safe or liquid, or that provide a reasonable return resulting in lower interest income or longer investment horizons, and disruptions to capital markets or the banking system may also impair the value of investments or bank deposits we currently consider safe or liquid;

 

   

the failure of financial institution counterparties to honor their obligations to us under credit instruments could jeopardize our ability to rely on and benefit from those instruments, and our ability to replace those instruments on the same or similar terms may be limited under poor market conditions;

 

   

continued volatility in the markets and prices for commodities, such as gold, and raw materials we use in our products and in our supply chain, could have a material adverse effect on our costs, gross margins, and profitability;

 

   

if distributors of our products experience declining revenues, experience difficulty obtaining financing in the capital and credit markets to purchase our products or experience severe financial difficulty, it could result in insolvency, reduced orders for our products, order cancellations, inability to timely meet payment obligations to us, extended payment terms, higher accounts receivable, reduced cash flows, greater expenses associated with collection efforts and increased bad debt expenses;

 

   

if contract manufacturers or foundries of our products or other participants in our supply chain experience difficulty obtaining financing in the capital and credit markets to purchase raw materials or to finance general working capital needs, it may result in delays or non-delivery of shipments of our products;

 

   

potential shutdowns or over capacity constraints by our third-party foundry, assembly and test subcontractors could result in longer lead-times, higher buffer inventory levels and degraded on-time delivery performance; and

 

   

the current macroeconomic environment also limits our visibility into future purchases by our customers and renewals of existing agreements, which may necessitate changes to our business model.

 

34


Table of Contents

If we are unable to grow or secure and convert a significant portion of our design wins into revenue, our business, financial condition and results of operations would be materially and adversely impacted.

We continue to secure design wins for new and existing products. Such design wins are necessary for revenue growth. However, many of our design wins may never generate revenues if end-customer projects are unsuccessful in the market place, the end-customer terminates the project, which may occur for a variety of reasons. Mergers, consolidations, changing market requirements or cost reduction activities among our customers may lead to termination of certain projects before the associated design win generates revenue. If design wins do generate revenue, the time lag between the design win and meaningful revenue is typically between six months to greater than eighteen months. If we fail to grow and convert a significant portion of our design wins into substantial revenue, our business, financial condition and results of operations could be materially and adversely impacted. Under continued uncertain global economic conditions, our design wins could be delayed even longer than the typical lag period and our eventual revenue could be less than anticipated from products that were introduced within the last eighteen to thirty-six months, which would likely materially and adversely affect our business, financial condition and results of operations.

If we fail to develop, introduce or enhance products that meet evolving needs or which are necessitated by technological advances, or we are unable to grow revenue in our served markets, then our business, financial condition and results of operations could be materially and adversely impacted.

The markets for our products are characterized by a number of factors, some of which are listed below:

 

   

changing or disruptive technologies;

 

   

evolving and competing industry standards;

 

   

changing customer requirements;

 

   

increasing price pressure from lower priced solutions;

 

   

increasing product development costs;

 

   

finite market windows for product introductions;

 

   

design-to-production cycles;

 

   

increasing functional integration;

 

   

competitive solutions;

 

   

fluctuations in capital equipment spending levels and/or deployment;

 

   

rapid adjustments in customer demand and inventory;

 

   

moderate to slow growth;

 

   

frequent product introductions and enhancements; and

 

   

changing competitive landscape (consolidation, financial viability).

 

35


Table of Contents

Our growth depends in large part on our successful continued development of new products for our core markets. We must: (i) anticipate customer and market requirements and changes in technology and industry standards; (ii) properly define, develop and introduce new products on a timely basis; (iii) gain access to and use technologies in a cost-effective manner; (iv) have suppliers produce quality products consistent with our requirements; (v) continue to expand and retain our technical and design expertise; (vi) introduce and cost-effectively deliver new products in line with our customer product introduction requirements; (vii) differentiate our products from our competitors’ offerings; and (viii) gain customer acceptance of our products. In addition, we must continue to have our products designed into our customers’ future products and maintain close working relationships with key customers to define and develop new products that meet their evolving needs. Moreover, we must respond in a rapid and cost-effective manner to shifts in market demands to increased functional integration and other changes. Migration from older products to newer products may result in earnings volatility as revenues from older products decline and revenues from newer products begin to grow.

Products for our customers’ applications are subject to continually evolving industry standards and new technologies. Our ability to compete will depend in part on our ability to identify and ensure compliance with these industry standards. The emergence of new standards could render our products incompatible with other products that meet those standards. We could be required to invest significant time, effort and expense to develop and qualify new products to ensure compliance with industry standards.

The process of developing and supporting new products is complex, expensive and uncertain, and if we fail to accurately predict and understand our customers’ changing needs and emerging technological trends, our business, financial condition and results of operations may be harmed. In addition, we may make significant investments to define new products according to input from our customers who may choose a competitor’s or an internal solution or cancel their projects. We may not be able to identify new product opportunities successfully, develop and bring to market new products, achieve design wins, ensure when and which design wins actually get released to production, or respond effectively to technological changes or product announcements by our competitors. In addition, we may not be successful in developing or using new technologies or may incorrectly anticipate market demand and develop products that achieve little or no market acceptance. Our pursuit of technological advances may require substantial time and expense and may ultimately prove unsuccessful. Failure in any of these areas may materially and adversely harm our business, financial condition and results of operations.

We derive a substantial portion of our revenues from distributors, especially from our two primary distributors, Future Electronics Inc. (“Future”), a related party, and Arrow Electronics, Inc. (“Arrow”). Our revenues would likely decline significantly if our primary distributors elected not to or we were unable to effectively promote or sell our products or if they elected to cancel, reduce or defer purchases of our products.

Future and Arrow have historically accounted for a significant portion of our revenues and they are our two primary distributors worldwide. We anticipate that sales of our products to these distributors will continue to account for a significant portion of our revenues. The loss of either Future or Arrow as a distributor, for any reason, or a significant reduction in orders from either of them would materially and adversely affect our business, financial condition and results of operations.

Sales to Future and Arrow are made under agreements that provide protection against price reduction for their inventory of our products. As such, we could be exposed to significant liability if the inventory value of the products held by Future and Arrow declined dramatically. Our distributor agreements with Future and Arrow do not contain minimum purchase commitments. As a result, Future and Arrow could cease purchasing our products with short notice or cease distributing our products. In addition, they may defer or cancel orders without penalty, which would likely cause our revenues to decline and materially and adversely impact our business, financial condition and results of operations.

If our distributors or sales representatives stop selling or fail to successfully promote our products, our business, financial condition and results of operations could be materially and adversely impacted.

We sell many of our products through sales representatives and distributors, many of which sell directly to OEMs, contract manufacturers and end customers. Our non-exclusive distributors and sales representatives may carry our competitors’ products, which could adversely impact or limit sales of our products. Additionally, they could reduce or discontinue sales of our products or may not devote the resources necessary to sell our products in the volumes and within the time frames that we expect. Our agreements with distributors contain limited provisions for return of our products, including stock rotations whereby distributors may return a percentage of their purchases from us based upon a percentage of their most recent three or six months of shipments. In addition, in certain circumstances upon termination of the distributor relationship, distributors may return some portion of their prior purchases. The loss of business from any of our significant distributors or the delay of significant orders from any of them, even if only temporary, could materially and adversely impact our business, financial conditions and results of operations.

 

36


Table of Contents

Moreover, we depend on the continued viability and financial resources of these distributors and sales representatives, some of which are small organizations with limited working capital. In turn, these distributors and sales representatives are subject to general economic and semiconductor industry conditions. We believe that our success will continue to depend on these distributors and sales representatives. If some or all of our distributors and sales representatives experience financial difficulties, or otherwise become unable or unwilling to promote and sell our products, our business, financial condition and results of operations could be materially and adversely impacted.

Certain of our distributors may rely heavily on the availability of short-term capital at reasonable rates to fund their ongoing operations. If this capital is not available, or is only available on onerous terms, certain distributors may not be able to pay for inventory received or we may experience a reduction in orders from these distributors, which would likely cause our revenue to decline and materially and adversely impact our business, financial condition and results of operations.

If we are unable to accurately forecast demand for our products, we may be unable to efficiently manage our inventory.

Due to the absence of substantial non-cancelable backlog, we typically plan our production and inventory levels based on customer forecasts, internal evaluation of customer demand and current backlog, which can fluctuate substantially. Due to the possibility of customer changes in delivery schedules and quantities actually purchased, cancellation of orders, distributor returns or price reductions, our backlog at any particular date is not necessarily indicative of actual sales for any succeeding period. The still unsettled and weak economy increases the risk of purchase order cancellations or delays, product returns and price reductions. We may not be able to meet our expected revenue levels or results of operations if there is a reduction in our order backlog for any particular period and we are unable to replace those sales during the same period. Our forecast accuracy can be adversely affected by a number of factors, including inaccurate forecasting by our customers, changes in market conditions, new part introductions by our competitors, loss of previous design wins, adverse changes in our product order mix and demand for our customers’ products or models. As a consequence of these factors and other inaccuracies inherent in forecasting, inventory imbalances periodically occur that result in surplus amounts of some of our products and shortages of others. Such shortages can adversely impact customer relations and surpluses can result in larger-than-desired inventory levels, either of which can materially and adversely impact our business, financial condition and results of operations. Due to the unpredictability of global economic conditions and increased difficulty in forecasting demand for our products, we could experience an increase in inventory levels.

In instances where we have hub agreements with certain vendors, the inability of our partners to provide accurate and timely information regarding inventory and related shipments of the inventory may impact our ability to maintain the proper amount of inventory at the hubs, forecast usage of the inventory and record accurate revenue recognition which could materially and adversely impact our business, financial conditions and the results of operations.

We depend on third-party subcontractors to manufacture our products. We utilize wafer foundries for processing our wafers and assembly and test subcontractors for manufacturing and testing our integrated circuit products and board assembly subcontractors for our board-level products. Any disruption in or loss of our subcontractors’ capacity to manufacture and test our products subjects us to a number of risks, including the potential for an inadequate supply of products and higher materials costs. These risks may lead to delayed product delivery or increased costs, which could materially and adversely impact our business, financial condition and results of operations.

We do not own or operate a semiconductor fabrication facility or a foundry. We utilize various foundries for different processes. Our products are based on complementary metal oxide semiconductor (“CMOS”) processes, bipolar processes and bipolar-CMOS (“BiCMOS”) processes. Globalfoundries Singapore Pte. Ltd. (f.k.a. Chartered Semiconductor Manufacturing Ltd.) (“Globalfoundries”) manufactures the majority of the CMOS wafers from which the majority of our communications products are produced. Hangzhou Silan Microelectronics Co. Ltd. and Hangzhou Silan Integrated Circuit Co. Ltd. (collectively “Silan”), located in China, manufacture the majority of the CMOS and bipolar wafers from which our power management and serial products are produced. High Voltage BiCMOS power products are supplied by TowerJazz Semiconductor, Inc. All of these foundries produce semiconductors for many other companies (many of which have greater volume requirements than us), and therefore, we may not have access on a timely basis to sufficient capacity or certain process technologies and we do, from time to time, experience extended lead times on some products. In addition, we rely on our foundries’ continued financial health and ability to continue to invest in smaller geometry manufacturing processes and additional wafer processing capacity.

Many of our new products are designed to take advantage of smaller geometry manufacturing processes. Due to the complexity and increased cost of migrating to smaller geometries, as well as process changes, we could experience interruptions in production or significantly reduced yields causing product introduction or delivery delays. If such delays occur, our products may have delayed market acceptance or customers may select our competitors’ products during the design process.

 

37


Table of Contents

New and current process technologies or products can be subject to wide variations in manufacturing yields and efficiency. Our foundries or the foundries of our suppliers may experience unfavorable yield variances or other manufacturing problems that result in delayed product introduction or delivery delays. Further, if the products manufactured by our foundries contain production defects, reliability issues or quality or compatibility problems that are significant to our customers, our reputation may be damaged and customers may cancel orders or be reluctant to continue to buy our products, which could adversely affect our ability to retain and attract new customers. In addition, these defects or bugs could interrupt or delay sales of affected products, which could materially and adversely affect our business, financial condition and results of operations.

Our foundries and test assembly subcontractors manufacture our products on a purchase order basis. We provide our foundries with rolling forecasts of our production requirements; however, the ability of our foundries to provide wafers is limited by the foundries’ available capacity. Our third-party foundries may not allocate sufficient capacity to satisfy our requirements. In addition, we may not continue to do business with our foundries on terms as favorable as our current terms.

Furthermore, any sudden reduction or elimination of any primary source or sources of fully processed wafers could result in a material delay in the shipment of our products. Any delays or shortages would likely materially and adversely impact our business, financial condition and results of operations. In particular, the products produced from the wafers manufactured by Silan currently constitute a significant part of our total revenue, and so any delay, reduction or elimination of our ability to obtain wafers from either foundry could materially and adversely impact our business, financial condition and results of operations.

Our reliance on our wafer foundries, assembly and test subcontractors and board assembly subcontractors involves the following risks, among others:

 

   

a manufacturing disruption or sudden reduction or elimination of any existing source(s) of semiconductor manufacturing materials or processes, which might include the potential closure, change of ownership, change in business conditions or relationships, change of management or consolidation by one of our foundries;

 

   

disruption of manufacturing or assembly or test services due to vendor transition, relocation or limited capacity of the foundries or subcontractors;

 

   

inability to obtain or develop technologies needed to manufacture our products;

 

   

extended time required to identify, qualify and transfer to alternative manufacturing sources for existing or new products or the possible inability to obtain an adequate alternative;

 

   

failure of our foundries or subcontractors to obtain raw materials and equipment;

 

   

increasing cost of commodities, such as gold, raw materials and energy resulting in higher wafer or package costs;

 

   

long-term financial and operating stability of the foundries or their suppliers or subcontractors and their ability to invest in new capabilities and expand capacity to meet increasing demand, to remain solvent or to obtain financing in tight credit markets;

 

   

continuing measures taken by our suppliers such as reductions in force, pay reductions, forced time off or shut down of production for extended periods of time to reduce and/or control operating expenses in response to weakened customer demand;

 

   

subcontractors’ inability to transition to smaller package types or new package compositions;

 

   

a sudden, sharp increase in demand for semiconductor devices, which could strain the foundries’ or subcontractors’ manufacturing resources and cause delays in manufacturing and shipment of our products;

 

   

manufacturing quality control or process control issues, including reduced control over manufacturing yields, production schedules and product quality;

 

   

potential misappropriation of our intellectual property;

 

   

disruption of transportation to and from Asia where most of our foundries and subcontractors are located;

 

   

political, civil, labor or economic instability;

 

38


Table of Contents
   

embargoes or other regulatory limitations affecting the availability of raw materials, equipment or changes in tax laws, tariffs, services and freight rates; and

 

   

compliance with U.S., local or international regulatory requirements.

Other additional risks associated with subcontractors include:

 

   

subcontractors imposing higher minimum order quantities for substrates;

 

   

potential increase in assembly and test costs;

 

   

our board level product volume may not be attractive to preferred manufacturing partners, which could result in higher pricing, extended lead times or having to qualify an alternative vendor;

 

   

difficulties in selecting, qualifying and integrating new subcontractors;

 

   

inventory management issues relating to hub arrangements;

 

   

entry into “take-or-pay” agreements; and

 

   

limited warranties from our subcontractors for products assembled and tested for us.

We depend in part on the continued service of our key engineering and management personnel and our ability to identify, hire, incentivize and retain qualified personnel. If we lose key employees or fail to identify, hire, incentivize and retain these individuals, our business, financial condition and results of operations could be materially and adversely impacted.

Our future success depends, in part, on the continued service of our key design, engineering, technical, sales, marketing and executive personnel and our ability to identify, hire, motivate and retain qualified personnel, as well as effectively and quickly replace key personnel with qualified successors with competitive incentive compensation packages.

Under certain circumstances, including a company acquisition, significant restructuring or business downturn, current and prospective employees may experience uncertainty about their future roles with us. Volatility or lack of positive performance in our stock price and the ability or willingness to offer meaningful competitive equity compensation and incentive plans to as many key employees or in amounts consistent with market practices may also adversely affect our ability to retain and incentivize key employees. In addition, competitors may recruit our employees, as is common in the high tech sector. If we are unable to retain personnel that are critical to our future operations, we could face disruptions in operations, loss of existing customers, loss of key information, expertise or know-how, unanticipated additional recruiting and training costs, and potentially higher compensation costs.

Competition for skilled employees having specialized technical capabilities and industry-specific expertise is intense and continues to be a considerable risk inherent in the markets in which we compete. At times, competition for such employees has been particularly notable in California and People’s Republic of China (“PRC”). Further, the PRC historically has different managing principles from Western style management and financial reporting concepts and practices, as well as different banking, computer and other control systems, making the successful identification and employment of qualified personnel particularly important, and hiring and retaining a sufficient number of such qualified employees may be difficult. As a result of these factors, we may experience difficulty in establishing and maintaining management, legal and financial controls, collecting financial data, books of account and records and instituting business practices that meet Western standards and regulations, which could materially and adversely impact our business, financial condition and results of operations.

Our employees are employed “at-will”, which means that they can terminate their employment at any time. Our international locations are subject to local labor laws, which are often significantly different from U.S. labor laws and which may under certain conditions, result in large separation costs upon termination. Further, employing individuals in international locations is subject to other risks inherent in international operations, such as those discussed with respect to international sales below, among others. The failure to recruit and retain, as necessary, key design engineers and technical, sales, marketing and executive personnel could materially and adversely impact our business, financial condition and results of operations.

 

39


Table of Contents

Stock-based awards are critical to our ability to recruit, retain and motivate highly skilled talent. In making employment decisions, particularly in the semiconductor industry and the geographies where our employees are located, a key consideration of current and potential employees is the value of the equity awards they receive in connection with their employment. If we are unable to offer employment packages with a competitive equity award component, our ability to attract highly skilled employees would be harmed. In addition, volatility in our stock price could result in a stock option’s exercise price exceeding the market value of our common stock or a deterioration in the value of restricted stock units granted, thus lessening the effectiveness of stock-based awards for retaining and motivating employees. Similarly, decreases in the number of unvested in-the-money stock options held by existing employees, whether because our stock price has declined, options have vested, or because the size of follow-on option grants has decreased, may make it more difficult to retain and motivate employees. Consequently, we may not continue to successfully attract and retain key employees, which could have an adverse effect on our business, financial condition and results of operations.

Our financial results may fluctuate significantly because of a number of factors, many of which are beyond our control.

Our financial results may fluctuate significantly as a result of a number of factors, many of which are difficult or impossible to control or predict, which include:

 

   

the continuing effects of economic uncertainty;

 

   

the cyclical nature of the general economy and the semiconductor industry;

 

   

difficulty in predicting revenues and ordering the correct mix of components from suppliers due to limited visibility into customers and channel partners;

 

   

changes in the mix of product sales as our margins vary by product;

 

   

fluctuations in the capitalization and amortization of unabsorbed manufacturing costs;

 

   

the impact of our revenue recognition policies on reported results; and

 

   

the reduction, rescheduling, cancellation or timing of orders by our customers, distributors and channel partners due to, among others, the following factors:

 

   

management of customer, subcontractor, logistic provider and/or channel inventory;

 

   

delays in shipments from our foundries and subcontractors causing supply shortages;

 

   

inability of our foundries and subcontractors to provide quality products, in adequate quantities and in a timely manner;

 

   

dependency on a single product with a single customer and/or distributor;

 

   

volatility of demand for equipment sold by our large customers, which in turn, introduces demand volatility for our products;

 

   

disruption in customer demand if customers change or modify their complex subcontract manufacturing supply chain;

 

   

disruption in customer demand due to technical or quality issues with our devices or components in their system;

 

   

the inability of our customers to obtain components from their other suppliers;

 

   

disruption in sales or distribution channels;

 

   

our ability to maintain and expand distributor relationships;

 

   

changes in sales and implementation cycles for our products;

 

   

the ability of our suppliers and customers to remain solvent, obtain financing or fund capital expenditures as a result of the recent global economic slowdown;

 

40


Table of Contents
   

risks associated with entering new markets;

 

   

the announcement or introduction of products by our existing competitors or new competitors;

 

   

loss of market share by our customers;

 

   

competitive pressures on selling prices or product availability;

 

   

pressures on selling prices overseas due to foreign currency exchange fluctuations;

 

   

erosion of average selling prices coupled with the inability to sell newer products with higher average selling prices, resulting in lower overall revenue and margins;

 

   

delays in product design releases;

 

   

market and/or customer acceptance of our products;

 

   

consolidation among our competitors, our customers and/or our customers’ customers;

 

   

changes in our customers’ end user concentration or requirements;

 

   

loss of one or more major customers;

 

   

significant changes in ordering pattern by major customers;

 

   

our or our channel partners’ or logistic providers’ ability to maintain and manage appropriate inventory levels;

 

   

the availability and cost of materials and services, including foundry, assembly and test capacity, needed by us from our foundries and other manufacturing suppliers;

 

   

disruptions in our or our customers’ supply chain due to natural disasters, fire, outbreak of communicable diseases, labor disputes, civil unrest or other reasons;

 

   

delays in successful transfer of manufacturing processes to our subcontractors;

 

   

fluctuations in the manufacturing output, yields, and capacity of our suppliers;

 

   

fluctuation in suppliers’ capacity due to reorganization, relocation or shift in business focus, financial constraints, or other reasons;

 

   

problems, costs, or delays that we may face in shifting our products to smaller geometry process technologies and in achieving higher levels of design and device integration;

 

   

our ability to successfully introduce and transfer into production new products and/or integrate new technologies;

 

   

increased manufacturing costs;

 

   

higher mask tooling costs associated with advanced technologies; and

 

   

the amount and timing of our investment in research and development;

 

   

costs and business disruptions associated with stockholder or regulatory issues;

 

   

the timing and amount of employer payroll tax to be paid on our employees’ gains on exercise of stock options;

 

   

an inability to generate profits to utilize net operating losses;

 

   

increased costs and time associated with compliance with new accounting rules or new regulatory requirements;

 

41


Table of Contents
   

changes in accounting or other regulatory rules, such as the requirement to record assets and liabilities at fair value;

 

   

write-off of some or all of our goodwill and other intangible assets;

 

   

fluctuations in interest rates and/or market values of our marketable securities;

 

   

litigation costs associated with the defense of suits brought or complaints made against us or enforcement of our rights; and

 

   

changes in or continuation of certain tax provisions.

Our fixed operating expenses and practice of ordering materials in anticipation of projected customer demand could make it difficult for us to respond effectively to sudden swings in product demand/mix and result in higher than expected costs and excess inventory. Such sudden swings in demand/mix could therefore have a material adverse impact on our business, financial condition and results of operations.

Our operating expenses are relatively fixed in the short to medium term, and therefore we have limited ability to reduce expenses quickly and sufficiently in response to any revenue shortfall. In addition, we typically plan our production and inventory levels based on forecasts of customer demand, which is highly unpredictable and can fluctuate substantially. From time to time, in response to anticipated long lead times to obtain inventory and materials from our outside suppliers and foundries, we may order or build materials in advance of anticipated customer demand. This advance ordering or build may result in excess inventory levels or unanticipated inventory write-downs if expected orders fail to materialize or inventory becomes obsolete. These incremental costs could have a material adverse impact on our business, financial condition and results of operations.

We have made, and in the future may make, acquisitions and significant strategic equity investments, which may involve a number of risks. If we are unable to address these risks successfully, such acquisitions and investments could have a material adverse effect on our business, financial condition and results of operations.

We have undertaken a number of strategic acquisitions, have made strategic investments in the past, and may make further strategic acquisitions and investments from time to time in the future. The risks involved with these acquisitions and investments include:

 

   

the possibility that we may not receive a favorable return on our investment or incur losses from our investment or the original investment may become impaired;

 

   

revenues or synergies could fall below projections or fail to materialize as assumed;

 

   

failure to satisfy or set effective strategic objectives;

 

   

the possibility of litigation arising from or in connection with these acquisitions;

 

   

our assumption of known or unknown liabilities or other unanticipated events or circumstances; and

 

   

the diversion of management’s attention from day-to-day operations of the business and the resulting potential disruptions to the ongoing business.

Additional risks involved with acquisitions include:

 

   

difficulties in integrating and managing various functional areas such as sales, engineering, marketing, and operations;

 

   

difficulties in incorporating or leveraging acquired technologies and intellectual property rights in new products;

 

   

difficulties or delays in the transfer of manufacturing flows and supply chains of products of acquired businesses;

 

   

failure to retain and integrate key personnel;

 

   

failure to retain and maintain relationships with existing customers, distributors, channel partners and other parties;

 

42


Table of Contents
   

failure to manage and operate multiple geographic locations both effectively and efficiently;

 

   

failure to coordinate research and development activities to enhance and develop new products and services in a timely manner that optimize the assets and resources of the combined company;

 

   

difficulties in creating uniform standards, controls (including internal control over financial reporting), procedures, policies and information systems;

 

   

unexpected capital equipment outlays and continuing expenses related to technical and operational integration;

 

   

difficulties in entering markets or retaining current markets in which we have limited or no direct prior experience or where competitors in such markets may have stronger market positions;

 

   

insufficient revenues to offset increased expenses associated with acquisitions;

 

   

under-performance problems with an acquired company;

 

   

issuance of common stock that would dilute our current stockholders’ percentage ownership;

 

   

reduction in liquidity and interest income on lower cash balances;

 

   

recording of goodwill and intangible assets that will be subject to periodic impairment testing and potential impairment charges against our future earnings;

 

   

incurring amortization expenses related to certain intangible assets; and

 

   

incurring large and immediate write-offs of assets.

Strategic equity investments also involve risks associated with third parties managing the funds and the risk of poor strategic choices or execution of strategic and operating plans.

We may not address these risks successfully without substantial expense, delay or other operational or financial problems, or at all. Any delays or other such operations or financial problems could materially and adversely impact our business, financial condition and results of operations.

Our business may be materially and adversely impacted if we fail to effectively utilize and incorporate acquired technologies.

We have acquired and may in the future acquire intellectual property in order to accelerate our time to market for new products. Acquisitions of intellectual property may involve risks relating to, among other things, valuation of innovative capabilities, successful technical integration into new products, compliance with contractual obligations, market acceptance of new product features or capabilities, and achievement of planned return on investment. Successful technical integration in particular requires a variety of capabilities that we may not currently have, such as available technical staff with sufficient time to devote to integration, the requisite skills to understand the acquired technology and the necessary support tools to effectively utilize the technology. The timely and efficient integration of acquired technology may be adversely impacted by inherent design deficiencies or application requirements. The potential failure of or delay in product introduction utilizing acquired intellectual property could lead to an impairment of capitalized intellectual property acquisition costs, which could materially and adversely impact our business, financial condition and results of operations.

Because a significant portion of our total assets were, and may again be with future potential acquisitions, represented by goodwill and other intangible assets, which are subject to mandatory annual impairment evaluations, we could be required to write-off some or all of our goodwill and other intangible assets, which could materially and adversely impact our business, financial condition and results of operations.

A significant portion of the purchase price for any business combination may be allocated to identifiable tangible and intangible assets and assumed liabilities based on estimated fair values at the date of consummation. As required by U.S. Generally Accepted Accounting Principles (“GAAP”), the excess purchase price, if any, over the fair value of these assets less liabilities typically would be allocated to goodwill. We evaluate goodwill for impairment on an annual basis or whenever events and changes in circumstances suggest that the carrying amount may not be recoverable. We typically conduct our annual analysis of our goodwill in the fourth quarter of our fiscal year.

 

43


Table of Contents

The assessment of goodwill and other intangible assets impairment is a subjective process. Estimations and assumptions regarding future performance, results of our operations and comparability of our market capitalization and its net book value will be used. Changes in estimates and assumptions could impact fair value resulting in an impairment, which could materially and adversely impact our business, financial condition and results of operations.

Because some of our integrated circuit products have lengthy sales cycles, we may experience substantial delays between incurring expenses related to product development and the revenue derived from these products.

A portion of our revenue is derived from selling integrated circuits to end customer equipment vendors. Due to their product development cycle, we have typically experienced at least an eighteen-month time lapse between our initial contact with a customer and realizing volume shipments. We first work with customers to achieve a design win, which may take six months or longer. Our customers then complete their design, test and evaluation process and begin to ramp-up production, a period which typically lasts an additional six months. The customers of equipment manufacturers may also require a period of time for testing and evaluation, which may cause further delays. As a result, a significant period of time may elapse between our research and development efforts and our realization of revenue, if any, from volume purchasing of our products by our customers. Due to the length of the end customer equipment vendors’ product development cycle, the risks of project cancellation by our customers, price erosion or volume reduction are common aspects of such engagements.

The complexity of our products may lead to errors, defects and bugs, which could subject us to significant costs or damages and adversely affect market acceptance of our products.

Although we, our customers and our suppliers rigorously test our products, they may contain undetected errors, performance weaknesses, defects or bugs when first introduced, as new versions are released when manufacturing or process changes are made. If any of our products contain production defects or reliability issues, quality or compatibility problems that are significant to our customers, our reputation may be damaged and customers may be reluctant to continue to design or buy our products, which could adversely affect our ability to retain and attract new customers. In addition, these defects or bugs could interrupt or delay sales of affected products, which could materially and adversely affect our business, financial condition and results of operations.

If defects or bugs are discovered after commencement of commercial production, we may be required to make significant expenditures of capital and other resources to resolve the problems. This could result in significant additional development costs and the diversion of technical and other resources from our other business development efforts. We could also incur significant costs to repair or replace defective products or may agree to be liable for certain damages incurred. These costs or damages could have a material adverse effect on our business, financial condition and results of operations.

If we are unable to compete effectively with existing or new competitors, we will experience fewer customer orders, reduced revenues, reduced gross margins and lost market share.

We compete in markets that are intensely competitive, and which are subject to both rapid technological change, continued price erosion and changing business terms with regard to risk allocation. Our competitors include many large domestic and foreign companies that have substantially greater financial, market share, technical and management resources, name recognition and leverage than we have. As a result, they may be able to adapt more quickly to new or emerging technologies and changes in customer requirements or to devote greater resources to promote the sale of their products.

We have experienced increased competition at the design stage, where customers evaluate alternative solutions based on a number of factors, including price, performance, product features, technologies, and availability of long-term product supply and/or roadmap guarantee. Additionally, we experience, and may in the future experience, in some cases, severe pressure on pricing from competitors or on-going cost reduction expectations from customers. Such circumstances may make some of our products unattractive due to price or performance measures and result in the loss of our design opportunities or a decrease in our revenue and margins.

Also, competition from new companies, including those from emerging economy countries, with significantly lower costs could affect our selling price and gross margins. In addition, if competitors in Asia continue to reduce prices on commodity products, it would adversely affect our ability to compete effectively in that region. Specifically, we have licensed rights to Silan in China to market our commodity connectivity products, which could reduce our sales in the future should they become a meaningful competitor. Loss of competitive position could result in price reductions, fewer customer orders, reduced revenues, reduced gross margins and loss of market share, any of which would adversely affect our operating results and financial condition.

 

44


Table of Contents

Furthermore, many of our existing and potential customers internally develop solutions which attempt to perform all or a portion of the functions performed by our products. To remain competitive, we continue to evaluate our manufacturing operations for opportunities for additional cost savings and technological improvements. If we or our contract partners are unable to successfully implement new process technologies and to achieve volume production of new products at acceptable yields, our business, financial condition and results of operations may be materially and adversely affected.

Our stock price is volatile.

The market price of our common stock has fluctuated significantly at times. In the future, the market price of our common stock could be subject to significant fluctuations due to, among other reasons:

 

   

our anticipated or actual operating results;

 

   

announcements or introductions of new products by us or our competitors;

 

   

technological innovations by us or our competitors;

 

   

investor perception of the semiconductor sector;

 

   

loss of or changes to key executives;

 

   

product delays or setbacks by us, our customers or our competitors;

 

   

potential supply disruptions;

 

   

sales channel interruptions;

 

   

concentration of sales among a small number of customers;

 

   

conditions in our customers’ markets and the semiconductor markets;

 

   

the commencement and/or results of litigation;

 

   

changes in estimates of our performance by securities analysts;

 

   

decreases in the value of our investments or long-lived assets, thereby requiring an asset impairment charge against earnings;

 

   

repurchasing shares of our common stock;

 

   

announcements of merger or acquisition transactions; and/or

 

   

general global economic and capital market conditions.

In the past, securities and class action litigation has been brought against companies following periods of volatility in the market prices of their securities. We may be the target of one or more of these class action suits, which could result in significant costs and divert management’s attention, thereby materially and adversely impacting our business, financial condition and results of operations.

In addition, at times the stock market has experienced extreme price, volume and value fluctuations that affect the market prices of the stock of many high technology companies, including semiconductor companies, that are unrelated or disproportionate to the operating performance of those companies. Any such fluctuations may harm the market price of our common stock.

Occasionally, we enter into agreements that expose us to potential damages that exceed the value of the agreement.

We have given certain customers increased indemnification protection for product deficiencies or intellectual property infringement that is in excess of our standard limited warranty and indemnification provisions and could possibly result in greater costs in excess of the original contract value. In an attempt to limit this liability, we have purchased insurance coverage to partially offset some of these potential additional costs; however, our insurance coverage could be insufficient in terms of amount and/or coverage to prevent us from suffering material losses if the indemnification amounts are large enough or if there are coverage issues.

 

45


Table of Contents

As of December 30, 2012, affiliates of Future, Alonim Investments Inc. and two of its affiliates (collectively “Alonim”), beneficially own approximately 17% of our common stock and Soros Fund Management LLC, as principal investment manager for Quantum Partners LP (“Soros”), beneficially owns approximately 15% of our common stock. As such, Alonim and Soros are our largest stockholders. These substantial ownership positions provide the opportunity for Alonim and Soros to significantly influence matters requiring stockholder approval, which may or may not be in our best interests or the interest of our other stockholders. In addition, Alonim is an affiliate of Future and an executive officer of Future is on our board of directors, which could lead to actual or perceived influence from Future.

Alonim and Soros each own a significant percentage of our outstanding shares. Due to such ownership, Alonim and Soros, acting independently or jointly, have not in the past, but may in the future, exert strong influence over actions requiring the approval of our stockholders, including the election of directors, many types of change of control transactions and amendments to our charter documents. Further, if one of these stockholders were to sell or even propose to sell a large number of their shares, the market price of our common stock could decline significantly.

Although we have no reason to believe it to be the case, the interests of these significant stockholders could conflict with our best interests or the interests of the other stockholders. For example, the significant ownership percentages of these two stockholders could have the effect of delaying or preventing a change of control or otherwise discouraging a potential acquirer from obtaining control of us, regardless of whether the change of control is supported by us and our other stockholders. Conversely, by virtue of their percentage ownership of our stock, Alonim and/or Soros could facilitate a takeover transaction that our board of directors and/or other stockholders did not approve.

Further, Alonim is an affiliate of Future, our largest distributor, and Pierre Guilbault, executive vice president and chief financial officer of Future, is a member of our board of directors. These relationships could also result in actual or perceived attempts to influence management or take actions beneficial to Future which may or may not be beneficial to us or in our best interests. Future could attempt to obtain terms and conditions more favorable than those we would typically provide our distributors because of its relationship with us. Any such actual or perceived preferential treatment could materially and adversely affect our business, financial condition and results of operations.

Earthquakes and other natural disasters, may damage our facilities or those of our suppliers and customers.

The occurrence of natural disasters in certain regions, such as the recent natural disasters in Asia, could adversely impact our manufacturing and supply chain, our ability to deliver products on a timely basis (or at all) to our customers and the cost of or demand for our products. Our corporate headquarters in Fremont, California is located near major earthquake faults that have experienced seismic activity and is approximately 170 miles from a nuclear power plant. In addition, some of our other offices, customers and suppliers are in locations which may be subject to similar natural disasters. In the event of a major earthquake or other natural disaster near our offices, our operations could be disrupted. Similarly, a major earthquake or other natural disaster, such as the flooding in Thailand, affecting one or more of our major customers or suppliers could adversely impact the operations of those affected, which could disrupt the supply or sales of our products and harm our business, financial condition and results of operations.

Any error in our sell-through revenue recognition judgment or estimates could lead to inaccurate reporting of our net sales, gross profit, deferred income and allowances on sales to distributors and net income.

Sell-through revenue recognition is highly dependent on receiving pertinent and accurate data from our distributors in a timely fashion. Distributors provide us periodic data regarding the product, price, quantity, and end customer when products are resold as well as the quantities of our products they still have in stock. We must use estimates and apply judgment to reconcile distributors’ reported inventories to their activities. Any error in our judgment could lead to inaccurate reporting of our net sales, gross profit, deferred income and allowances on sales to distributors and net income, which could have an adverse effect on our business, financial condition and results of operations.

Our results of operations could vary as a result of the methods, estimations and judgments we use in applying our accounting policies.

The methods, estimates and judgments we use in applying our accounting policies have a significant impact on our results of operations. Such methods, estimates and judgments are, by their nature, subject to substantial risks, uncertainties, assumptions and changes in rulemaking by regulatory bodies; and factors may arise over time that lead us to change our methods, estimates, and judgments. Changes in those methods, estimates and judgments could materially and adversely impact our business, financial condition and results of operations.

 

46


Table of Contents

Our revenue reporting is highly dependent on receiving pertinent and accurate data from our distributors in a timely fashion. Distributors provide us periodic data regarding the product, price, quantity and end customer when products are resold as well as the quantities of our products they still have in stock. We must use estimates and apply judgment to reconcile distributors’ reported inventories to their activities. Any error in our judgment could lead to inaccurate reporting of our net sales, gross profit, deferred income and allowances on sales to distributors and net income.

We estimate the fair value of stock options on the date of grant using the Black-Scholes option-pricing model. The assumptions used in calculating the fair value of stock-based compensation represent our estimates, but these estimates involve inherent uncertainties and the application of management judgments which include the expected term of the stock-based awards, stock price volatility and forfeiture rates. As a result, if factors change and we use different assumptions, our stock-based compensation expense could be materially different in the future.

On an on-going basis, we use estimate and judgment to evaluate valuation of inventories, income taxes, goodwill and long-lived assets in preparing our consolidated financial statements. Actual results could differ from these estimates and material effects on operating results and financial position may result.

The final determination of our income tax liability may be materially different from our income tax provision, which could have an adverse effect on our results of operations.

Our future effective tax rates may be adversely affected by a number of factors including:

 

   

the jurisdictions in which profits are determined to be earned and taxed;

 

   

the resolution of issues arising from tax audits with various tax authorities;

 

   

changes in the valuation of our deferred tax assets and liabilities;

 

   

adjustments to estimated taxes upon finalization of various tax returns;

 

   

increases in expenses not deductible for tax purposes, including write-offs of acquired in-process research and development and impairment of goodwill in connection with acquisitions;

 

   

changes in available tax credits;

 

   

changes in stock-based compensation expense;

 

   

changes in tax laws or the interpretation of such tax laws and changes in generally accepted accounting principles; and/or

 

   

the repatriation of non-U.S. earnings for which we have not previously provided for U.S. taxes.

Any significant increase in our future effective tax rates could adversely impact net income for future periods. In addition, the U.S. Internal Revenue Service (“IRS”) and other tax authorities regularly examine our income tax returns. Our business, financial condition and results of operations could be materially and adversely impacted if these assessments or any other assessments resulting from the examination of our income tax returns by the IRS or other taxing authorities are not resolved in our favor.

We have acquired significant Net Operating Loss (“NOL”) carryforwards as a result of our acquisitions. The utilization of acquired NOL carryforwards is subject to the IRS’s complex limitation rules that carry significant burdens of proof. Limitations include certain levels of a change in ownership. As a publicly traded company, such change in ownership may be out of our control. Our eventual ability to utilize our estimated NOL carryforwards is subject to IRS scrutiny and our future results may not benefit as a result of potential unfavorable IRS rulings.

We may be exposed to additional credit risk as a result of the addition of significant direct customers through acquisitions.

From time to time one of our customers has contributed more than 10% of our quarterly net sales. A number of our customers are OEMs, or the manufacturing subcontractors of OEMs, which might result in an increase in concentrated credit risk with respect to our trade receivables and therefore, if a large customer were to be unable to pay, it could materially and adversely impact our business, financial condition and results of operations.

 

47


Table of Contents

Our engagement with foreign customers could cause fluctuations in our operating results, which could materially and adversely impact our business, financial condition and results of operations.

International sales have accounted for, and will likely continue to account for a significant portion of our revenues, which subjects us to the following risks, among others:

 

   

changes in regulatory requirements;

 

   

tariffs, embargoes, directives and other trade barriers which impact our or our customers’ business operations;

 

   

timing and availability of export or import licenses;

 

   

disruption of services due to political, civil, labor or economic instability;

 

   

disruption of services due to natural disasters outside the United States;

 

   

disruptions to customer operations outside the United States due to the outbreak of communicable diseases;

 

   

difficulties in accounts receivable collections;

 

   

difficulties in staffing and managing foreign subsidiary and branch operations;

 

   

difficulties in managing sales channel partners;

 

   

difficulties in obtaining governmental approvals for our products;

 

   

limited intellectual property protection;

 

   

foreign currency exchange fluctuations;

 

   

the burden of complying with foreign laws and treaties;

 

   

contractual or indemnity issues that are materially different from our standard sales terms; and

 

   

potentially adverse tax consequences.

In addition, because sales of our products have been denominated primarily in U.S. dollars, increases in the value of the U.S. dollar as compared with local currencies could make our products more expensive to customers in the local currency of a particular country resulting in pricing pressures on our products. Increased international activity in the future may result in foreign currency denominated sales. Furthermore, because some of our customers’ purchase orders and agreements are governed by foreign laws, we may be limited in our ability, or it may be too costly for us, to enforce our rights under these agreements and to collect damages, if awarded.

We may be unable to protect our intellectual property rights, which could harm our competitive position.

Our ability to compete is affected by our ability to protect our intellectual property rights. We rely on a combination of patents, trademarks, copyrights, mask work registrations, trade secrets, confidentiality procedures and non-disclosure and licensing arrangements to protect our intellectual property rights. Despite these efforts, we may be unable to protect our proprietary information. Such intellectual property rights may not be recognized or if recognized, may not be commercially feasible to enforce. Moreover, our competitors may independently develop technology that is substantially similar or superior to our technology.

More specifically, our pending patent applications or any future applications may not be approved, and any issued patents may not provide us with competitive advantages or may be challenged by third parties. If challenged, our patents may be found to be invalid or unenforceable, and the patents of others may have an adverse effect on our ability to do business. Furthermore, others may independently develop similar products or processes, duplicate our products or processes or design around any patents that may be issued to us.

 

48


Table of Contents

We could be required to pay substantial damages or could be subject to various equitable remedies if it were proven that we infringed the intellectual property rights of others.

As a general matter, semiconductor companies may from time to time become involved with ongoing litigation regarding patents and other intellectual property rights. If a third party were to prove that our technology infringed its intellectual property rights, we could be required to pay substantial damages for past infringement and could be required to pay license fees or royalties on future sales of our products. If we were required to pay such license fees whenever we sold our products, such fees could exceed our revenue. In addition, if it was proven that we willfully infringed a third party’s proprietary rights, we could be held liable for three times the amount of the damages that we would otherwise have to pay. Such intellectual property litigation could also require us to:

 

   

stop selling, incorporating or using our products that use the infringed intellectual property;

 

   

obtain a license to make, sell or use the relevant technology from the owner of the infringed intellectual property, which license may not be available on commercially reasonable terms, if at all; and/or

 

   

redesign our products so as not to use the infringed intellectual property, which may not be technically or commercially feasible.

The defense of infringement claims and lawsuits, regardless of their outcome, would likely be expensive and could require a significant portion of management’s time. In addition, rather than litigating an infringement matter, we may determine that it is in our best interests to settle the matter. Terms of a settlement may include the payment of damages and our agreement to license technology in exchange for a license fee and ongoing royalties. These fees could be substantial. If we were required to pay damages or otherwise became subject to equitable remedies, our business, financial condition and results of operations would suffer. Similarly, if we were required to pay license fees to third parties based on a successful infringement claim brought against us, such fees could exceed our revenue.

ITEM 6. EXHIBITS

(a) Exhibits required by Item 601 of Regulation S-K

See the Exhibit Index, which follows the signature page to this Quarterly Report on Form 10-Q.

 

49


Table of Contents

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Quarterly Report on Form 10-Q of Exar Corporation to be signed on its behalf by the undersigned thereunto duly authorized.

 

   

EXAR CORPORATION

(Registrant)

February 5, 2013   By  

/s/ Ryan A. Benton

   

Ryan A. Benton

Senior Vice President and Chief Financial Officer

(On the Registrant’s Behalf and as Principal Financial and Accounting Officer)

 

50


Table of Contents

INDEX TO EXHIBITS

 

Exhibit

Number

  

Exhibit

   Incorporated by Reference     
      Form    File No.    Exhibit    Filing Date    Filed
Herewith
    3.1    Restated Certificate of Incorporation of Exar Corporation    8-K    0-14225    3.3    9/17/2010   
    3.2    Bylaws of Exar Corporation    8-K    0-14225    3.1    3/16/2012   
  10.1    Separation Agreement between the Company and Kevin S. Bauer, dated December 14, 2012                X
  10.2    Services Agreement between the Company and Kevin S. Bauer, dated December 14. 2012                X
  10.3    Employment Agreement between the Company and Ryan Benton, dated December 10, 2012                X
  31.1    Certification of Chief Executive Officer pursuant to Rule 13a-14(a) or 15d-14(a)                X
  31.2    Certification of Chief Financial Officer pursuant to Rule 13a-14(a) or 15d-14(a)                X
  32.1    Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                X
  32.2    Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                X
101.INS    XBRL Instance Document                X
101.SCH    XBRL Taxonomy Extension Schema Document                X
101.CAL    XBRL Taxonomy Extension Calculation Linkbase Document                X
101.DEF    XBRL Taxonomy Extension Definition Linkbase Document                X
101.LAB    XBRL Taxonomy Extension Label Linkbase Document                X
101.PRE    XBRL Taxonomy Extension Presentation Linkbase Document                X

 

51