Applied Micro Circuits 10-K 2012
Documents found in this filing:
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
For the fiscal year ended March 31, 2012
For the transition period from to
Commission file number: 000-23193
APPLIED MICRO CIRCUITS CORPORATION
(Exact name of registrant as specified in its charter)
Registrants telephone number, including area code:
Securities registered pursuant to Section 12(b) of the Act:
Securities registered pursuant to Section 12(g) of the Act:
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨ No þ
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No þ
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 þ 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 Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrants knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. þ
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:
Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2). Yes ¨ No þ
The aggregate market value of the voting common stock held by non-affiliates of the registrant, based upon the closing sale price of the registrants common stock on September 30, 2011 (the last day of the registrants second quarter of fiscal 2012) as reported on the Nasdaq Global Select Market, was approximately $275,724,000. Shares of common stock held by each officer and director and by each person who then owned 10% or more of the outstanding common stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes. The registrant has no non-voting common stock.
There were 62,084,504 shares of the registrants common stock issued and outstanding as of April 30, 2012.
Documents Incorporated by Reference
The following document is incorporated by reference in Part III (Items 10, 11, 12, 13 and 14) of this Annual Report on Form 10-K: portions of registrants definitive proxy statement for its annual meeting of stockholders to be held on August 14, 2012 which will be filed with the Securities and Exchange Commission within 120 days of March 31, 2012.
APPLIED MICRO CIRCUITS CORPORATION
ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED
MARCH 31, 2012
TABLE OF CONTENTS
CAUTIONARY STATEMENT ABOUT FORWARD-LOOKING STATEMENTS
All statements included or incorporated by reference in this report, other than statements or characterizations of historical fact, are forward-looking statements. These forward-looking statements are made as of the date of this Annual Report on Form 10-K for the fiscal year ended March 31, 2012 (this Annual Report). Any statement that refers to an expectation, projection or other characterization of future events or circumstances, including the underlying assumptions, is a forward-looking statement. We use certain words and their derivatives such as anticipate, believe, plan, expect, estimate, predict, intend, may, will, should, could, future, potential, and similar expressions in many of the forward-looking statements. The forward-looking statements are based on our current expectations, estimates and projections about our industry, managements beliefs, and other assumptions made by us. These statements and the expectations, estimates, projections, beliefs and other assumptions on which they are based are subject to many risks and uncertainties and are inherently subject to change. We describe many of the risks and uncertainties that we face in Part 1. Item 1A, Risk Factors and elsewhere in this Annual Report. Our actual results and actual events could differ materially from those anticipated in any forward-looking statement. Readers should not place undue reliance on any forward-looking statement.
In this Annual Report, Applied Micro Circuits Corporation, AMCC, APM, AppliedMicro, the Company, we, us and our refer to Applied Micro Circuits Corporation and all of our consolidated subsidiaries.
Applied Micro Circuits Corporation was incorporated and commenced operations in California in 1979. AppliedMicro was reincorporated in Delaware in 1987. Our principal executive offices are located at 215 Moffett Park Drive, Sunnyvale, California 94089 and our phone number is 408-542-8600. Our common stock trades on the Nasdaq Global Select Market under the symbol AMCC.
AppliedMicro provides semiconductor solutions for the data center, enterprise, telecom and consumer/small medium business (SMB) markets. We design, develop, market and support high-performance low power integrated circuits (ICs), which are essential for the processing, transporting and storing of information worldwide. In the telecom and enterprise markets, we utilize a combination of design expertise coupled with system-level knowledge and multiple technologies to offer IC products for wireline and wireless communications equipment such as wireless access points, wireless base stations, multi-function printers, enterprise and edge switches, blade servers, storage systems, gateways, core switches, routers, metro, long-haul, and ultra-long-haul transport platforms. In the consumer/SMB markets, we combine optimized software and system-level expertise with highly integrated semiconductors to deliver comprehensive reference designs and stand-alone semiconductor solutions for wireline and wireless communications equipment such as wireless access points, network attached storage, and residential and smart energy gateways. Our corporate headquarters are located in Sunnyvale, California. Sales and engineering offices are located throughout the world.
We maintain a web site to which we regularly post copies of our press releases as well as additional information about us. Our filings with the Securities and Exchange Commission (SEC), including our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended (the Exchange Act) are available free of charge through the Investor Relations section of our web site
at www.apm.com and are accessible as soon as reasonably practicable after being electronically filed with or furnished to the SEC. Interested persons can subscribe on our web site to email alerts that are sent automatically when we issue press releases, file our reports with the SEC or post certain other information to our web site. Information accessible through our web site does not constitute a part of this Annual Report.
Copies of this Annual Report are also available free of charge, upon request to our Investor Relations Department, 215 Moffett Park Drive, Sunnyvale, California 94089. In addition, our Board Guidelines, Code of Business Conduct and Ethics, other corporate policies and written charters for the various committees of our Board of Directors are accessible through the Corporate Governance tab in the Investor Relations section of our web site and are available in print free of charge to any shareholder who requests a copy.
You may read and copy materials that we file with the SEC at the SECs Public Reference Room at 100 F Street, NE, Washington DC 20549. Information on the operation of the Public Reference Room is available by calling the SEC at 1-800-SEC-0330. The SEC maintains a web site that contains reports, proxy statements and other information we file with the SEC. The address of the SECs web site is www.sec.gov.
The Communications Industry
Communications technology has evolved considerably over the last decade due to substantial growth in internet bandwidth. Consumers are now requiring ubiquitous access to content via a proliferation of smart wireless devices as well as high definition streaming services to their display devices in the home. As a result, the Wireline and the Wireless networks, along with the data centers that serve and store the content are experiencing a profound change to support the services, video acquisition and video generation habits of the general public.
In Wireline, the access, metro and core networks are shifting dramatically towards serving packet-based services which are fundamentally less expensive than the transitional synchronous optical network (SONET) and the synchronous data hierarchy (SDH) networks, but provide the same level of quality and guarantee of content delivery. Optical transport networks or Optical Transport Network (OTN) has emerged as the Layer One (L1) protocol to replace SONET/SDH in the metro and core. Combined with Wavelength-Division Multiplexing (WDM) and Dense Wavelength-Division Multiplexing (DWDM) technologies, the Service providers are now able to support the vast increases in bandwidth requirements at a much lower cost per bit and much easier configurability.
Wireless networks are also moving to 3/4G infrastructure in order to support the myriad of high speed wireless devices from smartphones to tablets. Further, backhauling all the data traffic from the base stations is requiring higher bandwidth packet-based Wireline connectivity for supporting Ethernet and Internet Protocol backhaul.
Finally, the data centers that are involved in processing, serving and storing the content are also transitioning to keep pace with end-user requirements. The concept of Cloud computing, or utilizing processing and storage capabilities in the Internet data centers, is just beginning to get traction with small scale developers, enterprises as well as the general public. And as these services are increasingly utilized across the board, data center equipment is now deployed with virtualization capabilities, which allow more efficient use of servers and storage equipment. To support virtualization, servers and switches are now rapidly adopting higher port densities with bandwidth per port moving to 10Gbps and beyond.
As the pace of these transitions increases, original equipment manufacturers (OEMs) are partnering with merchant silicon solution providers to help address larger complexity, lower power and cost, and higher performance devices. These trends have created a significant opportunity for IC suppliers that can design cost-effective solutions for the processing and transport of data.
AppliedMicro is a global leader in providing energy efficient sustainable solutions to process and transport information for current and next generation networks. Being a leader in mixed-signal design, high speed signal processing, internet protocol and Ethernet packet processing and embedded processors gives AppliedMicro the foundation to compete and excel in the next several generations of solutions. Our differentiated internet protocol and patented innovations provide high value, low power solutions in telecom (wireline and wireless), enterprise and consumer applications. Our products enable the development of converged internet protocol-based networks offering high-speed secure data, high-definition video and high-quality voice for service provider (metropolitan, access, home), data center, and enterprise applications. Late last year we announced the X-Gene family of multi-core processors based on a 64-bit ARM v8 core which was designed in-house and can scale to 128 cores operating at up to 3.0 GHz. This family will significantly enhance our market opportunity by enabling us to target web servers as well as higher end control and data plane applications that were previously not relevant to us.
Overall, as part of the evolution of our growth and execution strategy, and to remain competitive, we expect to continue to transition our products to silicon fabrication processes that utilize increasingly smaller feature geometries and to increasingly integrate more functions into our silicon solutions. To accomplish this, we will need to utilize very complex deep submicron technologies. This continuing transition to increased integration of additional functions combined with smaller geometry process technologies may result in reduced manufacturing yields, delays in product deliveries and increased expenses which may adversely impact our business, financial condition and operating results. For more information see our risk factor titled We may experience difficulties in transitioning to smaller geometry computing technologies or in achieving higher levels of design integration and, as a result may experience reduced manufacturing yields, delays in product deliveries and increased expenses in Part I, Item 1A, Risk Factors, below.
We have focused our product development efforts on high growth opportunities for Computing and Connectivity (formerly referred to as Process and Transport, respectively) information. Our strategy for each of these areas is as follows:
We are continuing to develop products based on the Power Architecture. This standard computing architecture, developed by IBM, is the leading architecture within the communications market for high-performance embedded systems. Many of our customers products require embedded computing solutions for managing control plane and data plane functionality. Our products combine the embedded central processing unit (CPU) core with peripheral functionality to create optimum solutions for applications such as wireless access points, residential gateways, wireless base-stations, storage controllers, network attached storage, network switches and routing products. We also have substantial expertise in special purpose network processing architectures for control plane computing. Products based on these architectures are broadly deployed and continue to be designed into major telecommunications, consumer, and networking equipment. We are developing integrated products that leverage the general purpose embedded computing capabilities of the Power Architecture in combination with technologies derived from our portfolio of traffic management and packet computing products to create solutions that are ideally suited for converged IP-based networks. Additionally, due to the general-purpose nature of our processors, many of our computing products find their way into auxiliary markets such as multi-function printers, storage devices, video surveillance and other consumer electronic devices.
In connection with our product development plans, we secured an architecture license with ARM Limited, a leading semiconductor IP supplier (ARM), to a new 64-bit version of ARMs core specification (ARM v8) which we believe will allow us to introduce new products into high growth markets in which a combination of low power and high computational capabilities are of importance. We believe that this brand new family of Company products, called X-Gene, will represent the worlds first 64-bit ARM v8 architecture compliant processors for next-generation cloud computing, wireless infrastructure, enterprise networking, and storage and security applications. We plan to use the 64-bit ARM core in our third-generation of processor products to
redefine the server architecture in a more energy efficient, cost-effective way to make cloud computing systems more sustainable. The X-Gene architecture combines AppliedMicros revolutionary 64-bit ARM v8 CPU with substantial portions of our high speed connectivity portfolio and interconnect technologies. This level of System-on-a-Chip (SoC) integration, unprecedented in cloud server systems designs, reduces the chip count while eliminating the power-hungry interfaces required in multi-chip implementations. The common technology leveraged into this 64-bit ARM architecture will be our proprietary SoC subsystem, already inherent in the Companys second generation PACKETpro processor architecture customers invested in our PACKETpro hardware will be future-proofing a migration path to X-Gene with our proprietary offload engines, hardware accelerators and intelligent SoC management, all delivering unprecedented capabilities in power management, security, packet processing, system isolation and resource protection. By leveraging our networking and computing heritage and making a quantum leap in performance-power density, X-Gene will enable AppliedMicro to set a new bar for next generation cloud computing with unparalleled single-thread performance, full CPU and I/O virtualization, and SoC-enabled glueless multi-computing.
Our connectivity technology products historical focus has been on the SONET/SDH optical telecommunications infrastructure where we are a leading vendor. Currently, our connectivity products sell into both the telecom/service provider and datacom/data center markets. In the service provider end market, emerging metro Ethernet and residential triple play applications such as internet protocol television (IPTV) and OTN deployments are driving substantial investments in optical infrastructure. These new deployments are increasingly based on metro or carrier class Ethernet with high performance signal processing to address the requirements of lower cost, lower power consumption and reduced equipment footprints for metro access, metro edge, metro, core and long haul networks. Our Forward Error Correction (FEC) and Physical layer (PHY) devices play a critical role in providing cost and power optimized solutions for the leading edge platforms in the Wide Area Network.
In the data center segment, the amount of data being created and consumed in the emerging cloud computing, data center and enterprise networks as they continue to deploy virtualization technologies for computing and storage is continuing unabated. To address the rapidly increasing volume of information, the data center networks are migrating from gigabit Ethernet to ten gigabit Ethernet (10GE) connectivity for server to server, intra-blade server and access to data center speeds. AppliedMicros data center 10G PHY portfolio which consists of optical, backplane and short reach copper solutions is specifically targeted to provide high speed connectivity and increased density at lower power and cost points to enable penetration of the present and future data center/enterprise server/switch platforms.
We are continuing to focus our current connectivity investments on these high growth 10G and beyond, data center markets, and on OTN-based and service provider market opportunities. We will continue to service the SONET/SDH market on a production basis with a broad portfolio of PHY, clock and data recovery (CDR), FEC and SONET/SDH mapper devices.
Products and Customers
We develop products for computing and for connectivity data as well as providing high speed connectivity solutions. These products are used in a wide variety of communications and other networking applications such as the infrastructure for wide area networks, carrier access networks, and enterprise networks.
Most of our products can be grouped into the functional categories listed below.
Physical Layer Products: Our mixed-signal PHY ICs transmit and receive signals in a very high-speed serial format. Our products are able to correctly receive these signals in challenging environments through the inclusion of highly efficient dispersion compensation methodologies. This low noise capability permits the transmission of signals over greater distances with fewer errors. Our PHY ICs also convert high-speed serial
formats to low-speed parallel formats and vice versa. These products set a new benchmark for performance and power consumption in the industry. We announced availability of our Gearbox product in February, 2012. It features four 28 Gbps interfaces, the fastest available in CMOS in the industry. Its initial applications are for 100G optical modules that are used by our mainstream service provider customer base. With current industry products for Gearbox-type products based on more expensive and power-hungry processes, AppliedMicros CMOS-based Gearbox offers much lower power and better likelihood of assured supply compared to other suppliers. Our customers include virtually all of the leading OEMs for both wide area and access network equipment: Cisco, Juniper Networks, Fujitsu, Huawei, Nokia-Siemens Networks, Alcatel-Lucent, ZTE and many others.
AppliedMicro also designs and markets competitive mixed-signal datacom 10GE optical PHYs. These products, such as the QT2025 and the QT2225, are targeted at the higher volume data center switching and server markets served by system vendors such as Cisco, Force-10, Extreme Networks, Juniper Networks, Hewlett-Packard, Dell, IBM, Fujitsu and others. Our newer family of 10GBaseT (10 Gigabit Copper Ethernet) products appeal to the same customer base, enabling them to utilize existing copper cabling infrastructure, particularly in high growth data center environments.
Framer and Mapper Products: Our framing layer ICs transmit and receive signals to and from the physical layer in a parallel format and are used in high-speed optical network infrastructure equipment. For OTN applications, AppliedMicros framer products incorporate our industry-leading FEC Technology to dramatically improve performance. We are experiencing continuing production volume shipments for the Rubicon and Pemaquid OTN devices. Most customers in the service provider space have production life cycles of five to seven years, and we are in the middle stage of this life cycle with Rubicon and Pemaquid. We followed these products with our Yahara, which improves on the functionality of Rubicon and integrates 10G PHY. Customers have found Yahara to be a very effective upgrade to Rubicon for newer line cards. Finally, we went into production with our PQ60 family of OTN framers in fiscal year 2012. Where Rubicon and Yahara feature a single primary 10G interface, PQ60 offers six of them. Our current customers for framers and mappers include Adva, Alcatel-Lucent, Ciena, Cisco, ECI, Ericsson, NEC, Nortel, Tellabs, Fujitsu, Huawei, Juniper and ZTE.
Embedded Computing Products: We are one of the leading suppliers of embedded processors. Our embedded processors are widely deployed in a variety of critical applications in target markets such as Wireless Infrastructure, Wireless LAN (WLAN), Residential, Data Centers and Enterprise. In Wireless Infrastructure, our embedded processors are used in base station controllers by leading suppliers of Wideband Code Division Multiple Access (W-CDMA) and GSM equipment. In networking equipment such as edge, core and enterprise routers, our embedded processors handle overall system maintenance and management functions. In WLAN applications, our embedded processors are installed in a significant share of all Enterprise class access points shipped worldwide. Our products utilize IBMs Power Architecture 4xx processor cores in various speed grades. These cores are integrated with various peripheral functionality to create specialized SoC product solutions. As carrier and metro networks transition to Ethernet and IP-based networks, the need for high performance general purpose embedded processing increases. Versions of our processors are also targeted at large opportunities in RAID storage processing, multi-function printers and a variety of other embedded applications. In fiscal 2011, we introduced our second generation of PACKETpro embedded processors. Identified with the product nomenclature of APM86xxx, this new family of processors feature our first processor built on TSMCs standard 40nm CMOS process and an SoC that enabled us to offer value-added multi-core solutions to our customers. While PACKETpro is AppliedMicros second-generation of embedded processors, it is the first to feature offload acceleration of critical features at performance levels up to 1.5 GHz. The innovative SoC subsystem design features the Scalable Lightweight Intelligent Management processor, or SLIMpro, to enable breakthrough flexibility in SoC power management, protected asymmetric multiprocessing (PMP), failover protection, resiliency and end-to-end security for a wide range of mission-critical applications in wireless and wired networking, multi-function printer, industrial, NAS, consumer and enterprise access point markets. The first product in the PACKETpro family, Green Mamba, is a dual core processor solution supporting Gigabit Ethernet, PCI Express, USB and integrated security processing acceleration at up to 1.5 GHz (Gigahertz) in a
power envelope of less than 5W. An additional member of the PACKETpro family, Keelback, began sampling in our fourth fiscal quarter and a third processor is expected to begin sampling in the first fiscal quarter of fiscal 2013. Overall, our current embedded processor customers include Cisco, Nokia-Siemens Networks, Brocade, Hewlett-Packard, Kyocera, Western Digital, Netgear, Apple, Fujitsu, Panasonic and Ericsson.
Server Processor Products: In October 2011, AppliedMicro announced X-Gene, the worlds first 64-bit ARM architecture compliant processor for next-generation cloud computing and networking applications. X-Gene multi-core processors are based on high-performance ARM v8 compliant cores operating at up to 3.0 GHz, but at a fraction of the power and significantly lower Total Cost of Ownership (TCO) of existing solutions. This server-on-a-chip will integrate multiple copies of AppliedMicros ARM v8 compliant 64-bit cores and a high-performance terabit coherent fabric with on-chip 10-Gigabit LAN, storage and WAN physical layer IP, as well as a 100-Gigabit per second inter socket communications interface to extend coherency to multi-chip configurations. This newest product family provides an optimal balance of processor performance with memory, cost and bandwidth, for an optimized TCO. This level of SoC integration, unprecedented in todays cloud server system designs, reduces the chip count while also eliminating the power-hungry interfaces required in multi-chip implementations.
Reception to date of our X-Gene announcement has been extremely positive. Effectively, AppliedMicro is now able to offer multiple ISAs to our customers based on their needs and requirements. By being ISA agnostic, we are able to offer an expansive and scalable portfolio with either architecture (ARM or Power) predicated on our customer interests and proprietary SoC technology. With the continued investment in both our Power Architecture business and new ARM architecture, AppliedMicro now spans to be an end-to-end market play from Enterprise and SMB networking applications to high-end data center computing.
Packet Processing Products: Our packet processor ICs are programmable processors that receive and transmit signals to and from the framing layer and perform the processing of packet and cell headers. Our current customers for packet processors include Alcatel-Lucent, Cisco, Fujitsu, Nortel, Huawei and Juniper.
Cell Switching Products: Our switch fabric ICs switch information in the proper priority and to the proper destinations. Our switch fabric product portfolio includes our packet routing switch (PRS) fabric devices such as the PRS 80G, Q-80G and queuing managers like C48X and C192X. Our current customers for switching layer products include Alcatel-Lucent, Fujitsu, Huawei, Ericsson, Ciena and Tellabs.
We utilize our technological and design competencies to solve the problems of high-speed analog, digital and mixed-signal circuit designs, high performance processors that combine to provide many essential products for the connectivity and computing of information worldwide. We blend systems and software expertise with a high-level of silicon integration to deliver communications ICs and software for global communication networks. Our embedded computing product lines deliver performance and a rich mix of features for Internet data centers, communication networks, data storage, consumer and imaging applications.
Our systems architects, design engineers, technical marketing and applications engineers have a deep understanding of the copper and fiber optic communications systems for which we design and build application specific standard products. Using this systems expertise, we develop semiconductor connectivity devices to meet the OEMs high-bandwidth requirements. By understanding the systems into which our products are designed, the end application of our products among carriers and service providers and the requirements driven by their service level agreements, we believe that we are better able to anticipate and develop solutions optimized for the various cost, power and performance trade-offs faced by our customers. We believe that our systems knowledge also enables us to develop more comprehensive, interoperable solutions.
We have developed multiple generations of products that integrate both analog and digital elements on the same IC, while balancing the difficult trade-offs of speed, power and timing inherent in very dense high-speed applications. The mixing of digital and analog signals poses difficult challenges for IC designers, particularly at
high frequencies. We have gained significant expertise in mixed-signal IC designs through the development of multiple product generations. We were one of the first companies to embed analog phase locked loops in bipolar chips with digital logic for high-speed data transmission and reception applications. Since the introduction of our first on-chip clock recovery and clock synthesis products in 1993, we have refined these products and have successfully integrated multiple analog functions and multiple channels on the same IC. We will continue to apply these competencies in the development of more complex products in the future.
Although we completed the sale of our 3ware storage adapter business to LSI Corporation on April 21, 2009, as discussed in Sale of the 3ware Storage Adapter Business to LSI Corporation in Part II, Item 7, Managements Discussion and Analysis of Financial Conditions and Results of Operations, we remain active in the storage industry with our design and sale of embedded storage computing chips and 10 gigabit connectivity solutions with our Embedded Computing products. We intend to continue working closely with leaders in the storage, networking and computing industries to design and develop new and enhanced storage connectivity products. We believe that establishing strategic relationships with technology partners is essential to ensure that we continue to design and develop competitive products that integrate well with solutions from other leading participants in the storage markets.
Our products incorporate a combination of internally developed and licensed technologies. For certain of our embedded and server processor products, we are a licensee of ARMs 32-bit cores and their 64-bit architecture. We also license various other technology components used in our products, as well as various engineering design and verification tools.
Research and Development
Our research and development (R&D) expertise and efforts are focused on the development of high-performance analog, digital and mixed-signal ICs and on the development of highly integrated embedded processing SoC ICs for the communications market. We also develop high-performance libraries and design methodologies that are optimized for each of these applications. Our primary R&D facilities are located in Sunnyvale, San Diego and Santa Clara, California, Austin, Texas and Andover, Massachusetts in the United States, Ottawa in Canada, Ho Chi Minh City in Vietnam, Pune and Bangalore in India and Copenhagen in Denmark. During the fiscal years ended March 31, 2012, 2011 and 2010, we expended $175.7 million, 108.7 million and $88.1 million, respectively, on R&D activities.
Our IC product development is focused on building high-performance, high-complexity digital and analog-intensive designs that are incorporated into well-documented blocks that can be reused for multiple products. We have made and will continue to make significant investments in advanced design tools to leverage the efforts of our engineering staff. Our product development is driven by the imperatives of reducing design cycle time, increasing first-time design correctness, adhering to disciplined, well documented design processes and continuing to be responsive to customer needs. We are also developing high-performance final assembly packages for our products in collaboration with our packaging suppliers and our customers.
Our Printed Circuit Board Assembly (PCBA) development efforts are focused on building advanced telecom computing architecture (ATCA) evaluation boards and software for our switch fabric, network processors and embedded Power Architecture processors for the communications market. Before a new product is developed, our R&D engineers work with marketing managers and customers to develop a comprehensive requirements specification. After the product is designed and commercially released, our engineers continue to work with customers on early design-in efforts to understand requirements for future generations and upgrades.
The Company and Veloce Technologies, Inc. (Veloce) are parties to a development agreement, dated as of May 17, 2009, as amended on November 8, 2010 and July 18, 2011 (the Development Agreement), pursuant to which Veloce has agreed to perform product development work for the Company on an exclusive basis for up to five years for cash and other consideration, including a warrant to purchase shares of the Companys common stock which was scheduled to vest in quarterly increments through December 2012. A portion of the vested
warrant has been committed to be distributed to the employees of Veloce and will be settled in cash instead of common stock. Therefore, the Company has recognized stock-based compensation expense in R&D expense and recorded a corresponding liability for this distribution in the Companys consolidated financial statements. The warrant was 69% vested as of March 31, 2012.
Pursuant to the Development Agreement, the Company is paying Veloce $2.3 million per quarter for up to twelve consecutive quarters in order to assist Veloce in meeting its expenses to perform its obligations under the agreement. In July 2011, the Company agreed to pay Veloce an additional $2.0 million over four quarters to cover certain increased expenses under the Development Agreement. These additional payments started in July 2011 and will end in the quarter ending June 30, 2012, or earlier in the event the Company acquires Veloce. The Company recognizes the payments as research and development expenses when such operating costs have been incurred by Veloce. During the fiscal years ended March 31, 2012, 2011 and 2010, the Company recognized $13.1 million, $11.2 million and $6.2 million of costs incurred by Veloce as research and development expense, respectively.
As of March 31, 2012, the Company proposed to acquire Veloce in accordance with the terms and conditions of the Agreement and Plan of Merger, entered into as of May 17, 2009, as amended by Amendment No. 1 to the Agreement and Plan of Merger, entered into as of November 8, 2010, and collectively referred to as the Original Merger Agreement. Under the Original Merger Agreement, the Company agreed to acquire Veloce if certain performance milestones and delivery schedules set forth therein are achieved. Should the Company acquire Veloce pursuant to the Original Merger Agreement, the purchase price payable by the Company was estimated to be in the range of approximately $7 million up to approximately $135 million. The final price would be based upon the achievement and timing of multiple product development and milestones, as adjusted based upon actual technical performance results. For accounting purposes, Veloce is a variable interest entity (VIE) of which the Company is the primary beneficiary. Upon entering into the Development Agreement and the Original Merger Agreement, the consolidated financial statements of the Company have included all of the accounts of Veloce for all fiscal years presented.
On April 5, 2012 the Original Merger Agreement was amended (Second Amendment). Pursuant to the Second Amendment, the closing of the Companys acquisition of Veloce was set to occur upon achievement of a specified FPGA product development milestone by Veloce and the satisfaction or waiver of certain closing conditions and consummation of certain other transactions contemplated by the Second Amendment, and the purchase price was modified to be in the range of $60.4 million up to approximately $135 million, based upon the achievement and timing of product development milestones and technical performance results as described above. The merger is currently expected to occur during the first quarter of fiscal 2013.
In September 2010, we completed the acquisition of TPack, a Denmark-based company which specializes in the development and sale of OTN chips that are based on FPGAs, which enables AppliedMicro to expand its presence and customer relationships in the OTN and Carrier Ethernet markets.
Manufacturing of Integrated Circuits
The manufacturing of ICs requires a combination of competencies in advanced silicon technologies, package design and manufacturing and high speed test and characterization. We have obtained access to advanced complementary metal-oxide semiconductor (CMOS) manufacturing technology through foundry relationships. We have substantial experience in the development and use of plastic and ceramic packages for high-performance applications. The selection of the optimal package solution is a vital element of the delivery of high-performance products and involves balancing cost, size, thermal management and technical performance. We purchase our ceramic and plastic packages from several vendors including Advanced Semiconductor Engineering (ASE), Siliconware Precision Industries Co Ltd. (SPIL), IBM, Kyocera, Unimicron and NTK.
We do not own or operate foundries for the production of silicon wafers from which our products are made. We use external foundries such as IBM, Taiwan Semiconductor Manufacturing Corporation (TSMC) and United Microelectronics Corporation (UMC) for the majority of our production of silicon wafers. Subcontracting our manufacturing requirements eliminates the high fixed cost of owning and operating a semiconductor wafer fabrication facility and enables us to focus our resources on design of ICs and applications where we believe we have greater core competencies and competitive advantages.
Assembly and Testing
Our wafer probe and other product testing are conducted at independent test subcontractors. After wafer testing is complete, the majority of our products are sent to multiple subcontractors for assembly, predominately located in Asia. Following assembly, the devices are tested at subcontractors and returned to us ready for shipment to our customers. Certain of these services are available from a limited number of sources and lead times are occasionally extended.
Sales and Marketing
Our sales and marketing strategy is to develop strong, engineering-intensive relationships with the customer design teams for the creation of market leading platforms. We maintain close working relationships with these customers so our marketing team can focus on identifying and developing new products that will meet their needs in the future, involving us in the early stages of our customers plans to design new equipment. We sell our products both directly and through a network of independent manufacturers representatives and distributors. Our direct sales force is technically trained. Expert technical support is critical to our customers success and we provide such support through our field applications engineers, technical marketing team and engineering staff, as well as through our extranet technical support web site.
We augment this strategic account sales approach with domestic and foreign distributors that service some of our accounts purchasing standard ICs. Typically, these distributors handle a wide variety of products, including those that compete with our products and fill orders for many customers. We use marketing programs to augment the distribution effort to reach many of our customers. Most of our sales to distributors are made under agreements allowing for price protection and stock rotation of unsold merchandise. Our sales headquarters is located in Sunnyvale, California. We maintain sales offices throughout the world. Net revenues generated from each category of our products as well as information regarding net revenue generated from each of our significant customers and a geographic breakdown of our net revenues is summarized in Part II, Item 7, Managements Discussion and Analysis of Financial Condition and Results of Operations.
Our sales are made primarily pursuant to standard purchase orders for the delivery of products. Quantities of our products to be delivered and delivery schedules are frequently revised to reflect changes in customers needs; customer orders generally can be cancelled or rescheduled without significant penalty to the customer. For these reasons, our backlog as of any particular date is not representative of actual sales for any succeeding period and therefore, we believe that backlog is not necessarily a good indicator of future revenue trends.
In the Connectivity communications IC markets, we compete primarily against companies such as Broadcom, PMC-Sierra, Cortina and Vitesse. In the embedded computing communications IC market, we compete with technology companies such as Freescale Semiconductor, Cavium and Intel. In addition, some of our customers and potential customers have internal IC designs or manufacturing capabilities with which we compete.
The communications IC market is highly competitive and is subject to rapid technological change. The nature of the communications IC market is that design cycles are often measured in years. As such, an IC suppliers timing of delivery to market is critical since once an IC suppliers product is designed into a customers products, the IC supplier can often enjoy sales of the product for several years. Conversely, if a supplier misses a design cycle or develops an uncompetitive product, the supplier may never generate significant revenues from the product. We typically face competition at the design stage when our customers are selecting which components to use in their next generation device and equipment products. We believe that the principal factors of competition for the markets we serve include: product performance, quality, reliability, integration, price and time-to-market, as well as our engineering expertise, reputation and level of customer support. Our ability to successfully compete in these markets depends on our ability to design and subcontract the manufacture of new products that implement new technologies and gain end-market acceptance in a time-efficient and cost-effective manner.
We rely in part on patents to protect our intellectual property (IP). We have been issued approximately 340 patents, which principally cover certain aspects of the design and architecture of our IC and enterprise storage products. In addition, we have over 161 inventions in various stages of the patenting process in the United States and abroad. There can be no assurance that any of our pending patent applications or any future applications will be approved, or that any issued patents will provide us with competitive advantages or will not be challenged by third parties or that if challenged, will be found to be valid or enforceable, or that the patents of others will not have an adverse effect on our ability to do business. There can be no assurance that others will not independently develop similar products or processes, duplicate our products or processes or design around any patents that may be issued to us.
To protect our IP, we also rely on a combination of mask work protection under the Federal Semiconductor Chip Protection Act of 1984, trademarks, copyrights, trade secret laws, employee and third-party nondisclosure agreements and licensing arrangements.
As a general matter, the semiconductor and enterprise storage industries are characterized by substantial litigation regarding patent and other IP rights. In the past we have been, and in the future may be, notified that we may be infringing on the IP rights of third parties. In some cases, the third parties have demanded that we pay significant patent license fees in order to avoid litigation asserting IP infringement; to date, we have refused to enter into any such patent license agreements. We have certain indemnification obligations to customers with respect to the infringement of third party IP rights by our products. There can be no assurance that infringement claims by third parties or claims for indemnification by customers or end users of our products resulting from infringement claims will not be asserted in the future or that such assertions, if proven to be true, will not have a materially adverse affect on our business, financial condition or operating results. In the event of any adverse ruling in any such matter, we could be required to pay substantial damages, which could include treble damages, cease the manufacture, use and sale of infringing products, discontinue the use of certain processes or obtain a license under the IP rights of the third party claiming infringement. There can be no assurance that a license would be available on reasonable terms, or at all. Any limitations on our ability to market our products, any delays and costs associated with redesigning our products or payments of license fees to third parties or any failure by us to develop or license a substitute technology on commercially reasonable terms could have a material adverse effect on our business, financial condition and operating results.
We are subject to a variety of federal, state and local governmental regulations related to the use, storage, discharge and disposal of toxic, volatile or otherwise hazardous chemicals that were used in our manufacturing process. Any failure to comply with present or future regulations could result in the imposition of fines, the suspension of production or a cessation of operations. Such regulations could require us to acquire costly equipment or incur other significant expenses to comply with environmental regulations or clean up prior
discharges. Since 1993, we have been named as a potentially responsible party (PRP) along with a large number of other companies that used Omega Chemical Corporation in Whittier, California to handle and dispose of certain hazardous waste material. We are a member of a large group of PRPs that has agreed to fund certain remediation efforts at the Omega Chemical Corporation site and the surrounding groundwater acquifers, which efforts are ongoing. For more information see our risk factor titled We could incur substantial fines or litigation costs associated with our storage, use and disposal of hazardous materials in Part I, Item 1A, Risk Factors, below and refer to footnote 11 Legal Proceedings to the financial statements.
As of March 31, 2012, the Company and our VIE, Veloce, on a consolidated basis had 728 full-time employees: 80 in administration, 535 in research and development, 24 in operations and 89 in marketing and sales. Our ability, as the economy recovers, to attract and retain qualified personnel is essential to our continued success. None of our or Veloces employees are covered by a collective bargaining agreement, nor have we ever experienced any work stoppage.
Executive Officers of the Registrant
Our current executive officers and their ages as of March 31, 2012 are as follows:
Dr. Paramesh Gopi joined us as Senior Vice President and Chief Operating Officer in June 2008 and was promoted to President and Chief Executive Officer in May 2009. On April 29, 2009, Dr. Gopi became a member of our Board of Directors. From September 2002 to June 2008, he was with Marvell Semiconductor, a provider of mixed-signal and digital signal processing integrated circuits to broadband digital data networking markets, where he most recently served as Vice President and General Manager of the Embedded and Emerging Business Unit. At Marvell, Dr. Gopi held several executive-level positions including Chief Technology Officer of Embedded and Emerging Business Unit and Director of Technology Strategy. From June 2001 to August 2002, Dr. Gopi was Executive Director of Strategic Marketing and Applications at Conexant Systems, Inc., a mixed-signal processing company. He joined Conexant Systems, Inc. as part of its acquisition of Entridia Corporation in 2001. Dr. Gopi founded Entridia, a provider of Network Processing ASICs for Optical Networks, in 1999. Prior to Entridia, Dr. Gopi held principal engineering positions at Western Digital and Texas Instruments where he was responsible for the development of key mixed signal networking products. Dr. Gopi holds a PhD in Electrical and Computing Engineering and a Masters and Bachelor of Science degree in Electrical Engineering from the University of California, Irvine.
Robert G. Gargus joined us in October 2005 as Senior Vice President and Chief Financial Officer. From May 2005 to October 2005, he was Chief Financial Officer of Open-Silicon, a privately held fabless ASIC company. From October 2001 to April 2005, he was Chief Financial Officer of Silicon Image, a public semiconductor company specializing in high-speed serial communications technology, where the Company experienced significant growth, a return to solid profitability, and a ten-fold improvement in their market cap. Mr. Gargus served as President and Chief Executive Officer of Telcom Semiconductor, a supplier of semiconductor products for the wireless market, from April 2000 to April 2001 and as Chief Financial Officer from May 1998 to April 2000. Under his leadership, Telcom Semiconductor was selected by Forbes Magazine in October 2000 as one of the 200 Best Small Companies. Prior to Telcom Semiconductor, Mr. Gargus held
various financial and general management positions with Tandem Computers, Atalla Corporation, and Unisys Corporation. Mr. Gargus holds a Master of Business Administration degree in Finance and a Bachelor of Science degree in Accounting from the University of Detroit.
L. William Caraccio joined us in June 2010 as Vice President, General Counsel and Secretary. In December 2002, he was a co-founder of RMI Corporation (formerly Raza Microelectronics, Inc.), a privately held fabless semiconductor company where he was most recently Senior Vice President, General Counsel and Secretary, and, following RMI Corporations acquisition by Netlogic Microsystems, Inc. in October 2009, he served a transition role at Netlogic as Senior Counsel until January 2010. From March 2000 to January 2003, he was Vice President, General Counsel and Secretary of Foundry Holdings, Inc., a privately held investment firm and incubator of high technology companies. From June 1992 to March 2000, he was at Pillsbury Madison & Sutro LLP (now Pillsbury Winthrop LLP), an international law firm where he was most recently a Partner and co-chair of the firms Corporate Securities and Technologies Group. Mr. Caraccio earned his Juris Doctor degree from the University of California, Berkeley and holds a Bachelor of Arts degree from the University of California, Irvine.
Shiva K. Natarajan joined us in December 2006 as Senior Director of Accounting and was promoted to Vice President, Corporate Controller and Chief Accounting Officer in January 2008. From September 2005 to December 2006, he was Corporate Controller of Open-Silicon, a privately held fabless ASIC company. From May 2003 to August 2005, he was Director of Accounting of Silicon Image, a public semiconductor company specializing in high-speed serial communications technology. From October 1997 to April 2003, he was with Ernst & Young LLP, a public accounting firm, where he was most recently a Senior Manager of Assurance and Advisory Business Services. Mr. Natarajan is a Certified Public Accountant.
Hector Berardi joined us as Vice President of Operations in July 2008. From August 2002 to July 2008, he was with PLX Technology, Inc., a semiconductor device company, as Vice President of Operations. From April 1999 to July 2002, Mr. Berardi was with Ubicom, Inc., a developer of wireless network processors and software platforms, as Vice President of Operations. From June 1998 to April 1999, he was with STMicroelectronics, a semiconductor company, as a Design and Program Manager for the advanced RISC core development group. From July 1987 to May 1998, he was with National Semiconductor Corporation, a semiconductor company, where he was most recently Senior Product Engineering Manager for microcontroller technologies. Mr. Berardi holds a Masters in Business Administration and Bachelors of Science in Electrical Engineering from Santa Clara University.
Michael Major joined us in February 2006 as Senior Director of Human Resources. Mr. Major was promoted to Vice President of Human Resources in April 2008. Mr. Major has 30 years of experience with Human Resources and related activities. Prior to joining us, Mr. Major was Senior Director of Human Resources at Silicon Image, a public semiconductor company specializing in high-speed serial communications technology, from September 2002 to January 2006. Prior to Silicon Image, Mr. Major served as Vice President of Human Resources for MedChannel, a technology startup. Before his role at MedChannel, Mr. Major was Director of HR Operations at Netscape Communications. In addition to his experience within Human Resources, Mr. Major spent almost 20 years consulting with companies in the areas of employee benefits and compensation. Mr. Major is a graduate of the University of Michigans Advanced Human Resources Executive Program and holds a Bachelor of Arts Degree from Stanford University.
Before deciding to invest in us or to maintain or increase your investment, you should carefully consider the risks described below, in addition to the other information contained in this Annual Report and in our other filings with the SEC. We update our descriptions of the risks and uncertainties facing us in our periodic reports filed with the SEC. The risks and uncertainties described below and in our other filings are not the only ones facing us. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also affect our business. If any of these known or unknown risks or uncertainties actually occurs, our business, financial condition and results of operations could be seriously harmed. In that event, the market price for our common stock could decline and you may lose your investment.
If we are unable to timely develop new products or new generations and versions of our existing products to replace our current products, our operating results and competitive position will be materially harmed.
Our industry is characterized by intense competition, rapidly evolving technology and continually changing customer requirements. These factors could render our existing products obsolete. Accordingly, our ability to compete in the future will depend in large part on our ability to identify and develop new products or new generations and versions of our existing products that achieve market acceptance on a timely and cost-effective basis, and to respond to changing requirements. If we are unable to do so, our business, operating results and financial condition will be negatively affected.
The successful development and market acceptance of our products depend on a number of factors, including, but not limited to:
We have in recent years devoted substantial engineering and financial resources to designing, developing and rolling out new products and technologies, including without limitation our product development arrangement with Veloce, discussed in more detail below, and the recent introduction of several new products in our Connectivity and Computing business units. However, there can be no assurance that Veloces product development efforts will be successful (see additional risk factor below) or that the other products and technologies we have recently developed and which we are currently developing will achieve market acceptance. If these products and technologies fail to achieve market acceptance, or if we are unable to continue developing
new products and technologies that achieve market acceptance, our business, financial condition and operating results will be materially and adversely affected. In addition, for our X-GeneTM and other server processor products, we are a licensee of the ARM v8 64-bit architecture, and will depend upon the continuing timely completion and delivery by ARM of various updates and other deliverables under the license agreement. Any failure or material delay by ARM in completing its deliverables to us under the license could adversely affect our product development arrangement with Veloce and other planned server processor products that utilize the ARM 64-bit architecture.
Our agreements with and significant investment in Veloce may not result in the successful development of new technologies or products.
As part of our product development efforts, in November 2010 we amended our development agreement with Veloce pursuant to which Veloce agreed to perform certain ARM v8 compliant processor development work for us on an exclusive basis. As compensation for such development work, Veloce is receiving cash and other consideration, including a warrant to purchase shares of our common stock, which will vest quarterly through December 2012. We also provided Veloce a $1.5 million loan which is being forgiven in equal installments over eight quarters starting on March 31, 2011. Pursuant to the development agreement, as amended, we are paying Veloce $2.3 million per quarter for up to twelve consecutive quarters in order to assist Veloce in meeting its expenses to perform its obligations under the agreement. In July 2011, we agreed to pay Veloce an additional $2.0 million over the next four quarters to cover certain increased expenses under the agreement. These additional payments started in July 2011 and will end in the quarter ending June 30, 2012. These amounts have increased in the past and may change again in the future. We also paid, and will likely do so again, certain product development and manufacturing expenses incurred by Veloce.
Under a merger agreement we entered into with Veloce in May 2009, as amended in November 2010 and April 2012, we agreed to acquire Veloce if certain performance milestones and delivery schedules set forth under the merger agreement are achieved. As amended, the merger agreement provides for us to complete our acquisition of Veloce upon its achievement of a specified FPGA product development milestone and the satisfaction or waiver of certain closing conditions. It is currently anticipated that the FPGA milestone and other closing conditions will be satisfied, and that our acquisition of Veloce will be completed, in June 2012. Should we acquire Veloce pursuant to the merger agreement, as currently amended, the purchase price is estimated to be in the range of $60.4 million up to approximately $135 million, depending upon the achievement and timing of multiple product development milestones and technical performance results. At this time the eventual outcome is not determinable and as such we are unable to provide a narrower range for the estimated total merger consideration. We will update the range in the future when additional relevant information is available.
Even if we successfully complete the acquisition of Veloce as described above, we may fail to appropriately integrate the operations of Veloce into the Company. Although we have spent considerable time and resources in the developmental effort, eventually Veloce may be unsuccessful in developing the products that are described in the development and merger agreements, in which case our investment in Veloce would not bear any significant value to our business and financial results and condition.
We face intense competition and price pressure.
The semiconductor industry is intensely competitive. We expect competition to continue to increase as our industry and our competitors evolves and develop.
Many of our competitors have longer operating histories and presences in key markets, greater name recognition, larger customer bases, and significantly greater financial, sales and marketing, manufacturing, distribution, technical and other resources than we do, and in some cases operate their own fabrication facilities. These competitors may be able to adapt more quickly to new or emerging technologies and changes in customer requirements. They may also be able to devote greater resources to the promotion and sale of their products. We also face competition from newly established competitors, suppliers of products, and customers who choose to develop their own semiconductor solutions.
Existing or new competitors may develop technologies that more effectively address our markets with products that offer enhanced features and functionality, lower power requirements, greater levels of integration or lower cost. Increased competition also has resulted in and is likely to continue to result in increased expenditures on research and development, declining average selling prices, reduced gross margins and loss of market share in certain markets. These factors in turn create increased pressure to consolidate. We cannot assure you that we will be able to continue to compete successfully against current or new competitors. If we do not compete successfully, we may lose market share in our existing markets and our revenues may fail to increase or may decline.
We and our customers face intense price pressure from competition from companies in lower cost countries like China. In response to these price pressures, our customers could require us to reduce prices which could impact our financial results adversely. These price pressures could cause our customers and us to not be competitive and lose significant revenues. Furthermore, our discrete legacy products are being and could continue to be integrated into ASICs that could cause our revenues from such products to decline at a faster rate.
Our dependence on third-party manufacturing and supply relationships increases the risk that we will not have an adequate supply of products to meet demand or that our cost of materials will be higher than expected.
We depend upon third parties to manufacture, assemble, package or test certain of our products. As a result, we are subject to risks associated with these third parties, including:
Our outside foundries generally manufacture our products on a purchase order basis, and we have few long-term supply arrangements with these suppliers. We have less control over delivery schedules, manufacturing yields and costs than competitors with their own fabrication facilities. A manufacturing disruption or capacity constraint experienced by one or more of our outside foundries or a disruption of our relationship with an outside foundry, including discontinuance of our products by that foundry, would negatively impact the production of certain of our products for a substantial period of time.
As our third-party manufacturing suppliers extend their lead time requirements, we will likely need to also extend our lead time requirements to our customers. This could cause our customers to lower their competitive assessment of us as a supplier and, as a result, we may not be considered for future design awards.
Our IC products are generally only qualified for production at a single foundry. These suppliers can allocate, and in the past have allocated, capacity to the production of other companies products while reducing deliveries to us on short notice. There is also the potential that they may discontinue manufacturing our products or go out
of business. Because establishing relationships, designing or redesigning ICs, and ramping production with new outside foundries may take over a year, there is no readily available alternative source of supply for these products.
Difficulties associated with adapting our technology and product design to the proprietary process technology and design rules of outside foundries can lead to reduced yields of our IC products. The process technology of an outside foundry is typically proprietary to the manufacturer. Since low yields may result from either design or process technology failures, yield problems may not be effectively determined or resolved until an actual product exists that can be analyzed and tested to identify process sensitivities relating to the design rules that are used. As a result, yield problems may not be identified until well into the production process, and resolution of yield problems may require cooperation between us and our manufacturer. This risk could be compounded by the offshore location of certain of our manufacturers, increasing the effort and time required to identify, communicate and resolve manufacturing yield problems. Manufacturing defects that we do not discover during the manufacturing or testing process may lead to costly product recalls. These risks may lead to increased costs or delayed product delivery, which would harm our profitability and customer relationships.
If the foundries or subcontractors we use to manufacture our products discontinue the manufacturing processes needed to meet our demands, or fail to upgrade their technologies needed to manufacture our products, we may be unable to deliver products to our customers, which could materially adversely affect our operating results and harm our reputation. The transition to the next generation of manufacturing technologies at one or more of our outside foundries could be unsuccessful or delayed.
Our requirements typically represent a very small portion of the total production of the third-party foundries. As a result, we are subject to the risk that a producer will cease production of an older or lower-volume process that it uses to produce our parts. We cannot assure you that our external foundries will continue to devote resources to the production of parts for our products or continue to advance the process design technologies on which the manufacturing of our products are based. Each of these events could increase our costs, lower our gross margin, cause us to hold more inventories or materially impact our ability to deliver our products on time. As our volumes decrease with any third-party foundry, the likelihood of unfavorable pricing increases.
Some companies that supply our customers are similarly dependent on a limited number of suppliers to produce their products. These other companies products may be designed into the same networking equipment into which our products are designed. Our order levels could be reduced materially if these companies are unable to access sufficient production capacity to produce in volumes demanded by our customers because our customers may be forced to slow down or halt production on the equipment into which our products are designed.
Natural disasters in certain regions, such as Japan and Thailand, could adversely affect our manufacturing and supply chain which, in turn, could have a material adverse effect on our business, our results of operations and our financial condition.
The occurrence of natural disasters in certain regions, such as the earthquake and tsunami in Japan and flooding in Thailand, could negatively impact our manufacturing and supply chain, our ability to deliver products, on a timely basis or at all, to our customers, the cost of our products, and the demand for our products. The occurrence of natural disasters could also cause delays in our customers supply chains, causing them to delay their requirements for our products until they resolve shortages from their other suppliers. Any such occurrences of natural disasters could have a material adverse effect on our business, our results of operations and our financial condition.
We may experience difficulties in transitioning to smaller geometry computing technologies or in achieving higher levels of design integration and, as a result, may experience reduced manufacturing yields, delays in product deliveries and increased expenses.
As smaller line width geometry processes become more prevalent, we expect to integrate greater levels of functionality into our IC products and to transition our IC products to increasingly smaller geometries. This transition will require us to redesign certain products and will require us and our foundries to migrate to new manufacturing processes for our products.
We may not be able to achieve higher levels of design integration or deliver new integrated products on a timely basis. We periodically evaluate the benefits, on a product-by-product basis, of migrating to smaller geometry process technologies to reduce our costs and increase performance, and we have designed IC products to be manufactured at as little as .04 micron geometry processes. We have experienced some difficulties in shifting to smaller geometry process technologies and new manufacturing processes. These difficulties resulted in reduced manufacturing yields, delays in product deliveries and increased expenses. The transition to smaller geometries is inherently more expensive and as we manufacture more products using smaller geometries, the incremental costs could have an adverse impact on our earnings. We may face similar difficulties, delays and expenses as we continue to transition our IC products to smaller geometry processes. We are dependent on our relationships with our foundries to transition to smaller geometry processes successfully. We cannot assure you that our foundries will be able to effectively manage the transition or that we will be able to maintain our relationships with our foundries. If we or our foundries experience significant delays in this transition or fail to implement this transition, our business, financial condition and results of operations could be materially and adversely affected.
The gross margins for our products could decrease rapidly or not increase as forecasted, which will negatively impact our business, financial conditions and results of operations.
The gross margins for our solutions have historically declined over time. Factors that we expect to cause downward pressure on the gross margins for our products include competitive pricing pressures, the cost sensitivity of our customers, particularly in the higher-volume markets, new product introductions by us or our competitors, the overall mix of our products sold during a particular quarter, and other factors. From time to time, for strategic reasons, we may accept orders at less than optimal gross margins in order to facilitate the introduction of new products or the market penetration of existing products. To maintain acceptable operating results, we will need to offset any reduction in gross margins of our products by reducing costs, increasing sales volume, developing and introducing new products and developing new generations and versions of existing products on a timely basis. If the gross margins for our products decline or not increase as anticipated and we are unable to offset those reductions, our business, financial condition and results of operations will be materially and adversely affected.
The current economic circumstances and uncertain political conditions could harm our revenues, operating results and financial condition.
The economies of the United States and other developed or developing countries appear to be slowly emerging from an economic downturn. We cannot predict whether this economic recovery will continue or reverse course.
The recent downturn has caused a decline in our near term revenues and it will take some time for our near-term revenues to return to their previous levels. Our current operating plans are based on assumptions concerning levels of consumer and corporate spending. If weak global and domestic economic and market conditions persist or deteriorate, we may experience further material 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 worsen, we may have to implement additional cost reduction measures or delay certain R&D spending, which may adversely impact our ability to introduce new products and technologies.
We maintain an investment portfolio of various holdings, types of instruments and maturities. These securities are generally classified as available-for-sale and, consequently, are recorded on our consolidated balance sheets at fair value with unrealized gains or losses reported as a separate component of accumulated other comprehensive income (loss). Our portfolio primarily includes fixed income securities, mutual funds and preferred stock, the values of which are subject to market price volatility. The deterioration of these market prices has had an unfavorable impact on our portfolio and has caused us to record impairment charges to our earnings. During the fiscal years ended March 31, 2012 and 2011, we did not record any other-than-temporary impairment charges while during the fiscal year ended March 31, 2010 we recorded other-than-temporary impairment charges of $4.1 million. If market prices continue to decline or securities continue to be in a loss position over time, we may recognize additional impairments in the fair value of our investments.
Adverse economic and market conditions could also harm our business by negatively affecting the parties with whom we do business, including our business partners, our customers and our suppliers. These conditions could impair the ability of our customers to pay for products they have purchased 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 with the parts we need to manufacture our products.
We have invested, and will continue to invest, in privately-held companies, most of which can still be considered to be in startup or developmental stages. These investments are inherently risky as the market for the technologies or products they have under development are typically in the early stages and may never materialize. We could lose all or substantially all of the value of our investments in these companies and, in some cases, we have lost all or substantially all of the value of our investment in such entities.
Our operating results may fluctuate because of a number of factors, many of which are beyond our control.
If our operating results are below the expectations of research analysts or investors, then the market price of our common stock could decline. Some of the factors that affect our quarterly and annual results, but which are difficult to control or predict, are:
Our business, financial condition and operating results would be harmed if we do not achieve anticipated revenues.
We can have revenue shortfalls for a variety of reasons, including:
Our business is characterized by short-term orders and shipment schedules. Customer orders typically can be cancelled or rescheduled without significant penalty to the customer. Because we do not have substantial non-cancellable backlog, we typically plan our production and inventory levels based on internal forecasts of customer demand, which is highly unpredictable and can fluctuate substantially. Customer orders for our products typically have non-standard lead times, which make it difficult for us to predict revenues and plan inventory levels and production schedules. If we are unable to plan inventory levels and production schedules effectively, our business, financial condition and operating results could be materially and adversely affected.
From time to time, in response to anticipated long lead times to obtain inventory and materials from our outside contract manufacturers, suppliers and foundries, we may order materials in advance of anticipated customer demand. This advance ordering has in the past resulted and may in the future result in excess inventory levels or unanticipated inventory write-downs if expected orders fail to materialize, or other factors render our products less marketable. If we are forced to hold excess inventory or we incur unanticipated inventory write-downs, our financial condition and operating results could be materially and adversely affected.
Our expense levels are relatively fixed in the short-term and are based on our expectations of future revenues. We have limited ability to reduce expenses quickly in response to any revenue shortfalls. Changes to production volumes and impact of overhead absorption may result in a decline in our financial condition or liquidity.
Our business is dependent on the pace of recovery of the communications industry.
We are currently seeing certain signs that would indicate to us that we can expect the slowdown in our Connectivity business to reverse in the near future. It is possible that our estimations are incorrect and that it will take longer for the reversal of the slowdown to occur, or that our estimated market share in the Connectivity space is in fact much lower than we anticipate.
Our liquidity may deteriorate on our future uses of cash
Although we currently believe we have adequate liquidity to operate normally, our cash balances could decrement significantly if we decide to pay for the Veloce acquisition using a greater proportion of cash or if our
normal operations require us to expend more cash. If our cash balances decline significantly, we may be faced with liquidity issues and may be forced to raise capital from other sources, which may or may not be possible to do so on reasonable terms.
Interruptions, delays, security breaches or other unauthorized activities at third-party data centers or other Cloud Computing infrastructure providers could materially harm our business.
We conduct significant business functions and computer operations, including without limitation data storage and email, using the infrastructure systems of third-party vendors, such as remote data centers, virtual servers and other cloud computing resources. Cloud computing is an information technology hosting and delivery system in which data is stored outside of the users physical infrastructure and is delivered to and used by the user as an internet-based application service. These third-party systems may experience cyber attacks and other security breaches, along with the possible risk of loss, theft or unauthorized publication of our technical, proprietary and trade secret information or other confidential information of our employees and customers. Any interruptions or problems at such data centers or other cloud computing facilities could result in significant disruptions to our business operations hosted at or affected by such site. We do not control the operation of such data center or other providers, and each is vulnerable to damage or interruption from earthquakes, floods, fires, vandalism, power loss, telecommunications failures and similar events. These third-party vendor relationships present further risk management challenges for us, including, among others: confirming and monitoring the third-partys security measures; the potential for improper handling of or access to our data; and data location uncertainty, including the possibility of data storage in inappropriate jurisdictions, where laws or security measures may be inadequate, or the unauthorized movement of technical data between locations in violation of applicable export laws. We undertake substantial efforts to assure the security and confidentiality of information provided to our vendors under cloud computing or other arrangements through appropriate risk evaluation, security and financial due diligence, contracts designed to set and maintain high security and confidentiality standards, and ongoing evaluation of third-party compliance with the required standards. While we expend significant resources on these measures, there can be no assurance that we will be successful in preventing attacks, breaches or other unauthorized activities or detecting and stopping them once they have begun. Our failure to effectively manage and communicate our strategies with our outsourced service providers, or their failure to perform as required or to properly protect our data, may result in operational difficulties which may adversely affect our business, financial condition and results of operations. In addition, such data center and other providers have no obligation to renew their agreements with us on commercially reasonable terms, or at all. If we are unable to renew our agreements with the data center and other providers on commercially reasonable terms, we may experience costs or down time in connection with the transfer to new third-party providers.
We are dependent on orders that are received and shipped in the same quarter and are therefore limited in our visibility of future product shipments.
Our net sales in any given quarter depend upon a combination of shipments from backlog and orders received in that quarter for shipment in that quarter, which we refer to as turns business. We measure turns business at the beginning of a quarter based on the orders needed to meet the shipment forecasts that we set entering the quarter. Historically, we have relied on our ability to respond quickly to customer orders as part of our competitive strategy, resulting in customers placing orders with relatively short delivery schedules. Shorter lead times generally mean that turns orders as a percentage of our business are relatively high in any particular quarter and reduce our backlog visibility on future product shipments. Turns business correlate to overall semiconductor industry conditions and product lead times. Because turns business is difficult to predict, varying levels of turns business make our net sales more difficult to forecast. If we do not achieve a sufficient level of turns business in a particular quarter relative to our revenue forecasts, our revenue and operation results may suffer.
Our business is dependent on selling to distributors.
Sales to distributors accounted for approximately 58% of our revenues during the fiscal year ended March 31, 2012 and 46% during the fiscal year ended March 31, 2011. Our largest distributor accounted for approximately 20% of our revenues for the fiscal year ended March 31, 2012 and 29% during the fiscal year ended March 31, 2011. We do not have long-term agreements with our distributors and either party can terminate the relationship with little advance notice
Any future adverse conditions in the U.S. and global economies or in the U.S. and global credit markets could materially impact the operations of our distributors. Any deterioration in the financial condition of our distributors or any disruption in the operations of our distributors could adversely impact the flow of our products to our end customers and adversely impact our results of operations. In addition, during an industry or economic downturn, it is possible there will be an oversupply of products and a decrease in sell-through of our products by our distributors which could cause them to hold excess inventories and reduce our net sales in a given period and result in an increase in stock rotations.
Our business substantially depends upon the continued growth of the technology sector and the Internet.
The technology equipment industry is cyclical and has in the past experienced significant and extended downturns. The recent downturn was significant and we cannot predict if the current improvement is sustainable in the near future. A substantial portion of our business and revenue depends on the continued growth of the technology sector and the Internet. We sell our communications IC products primarily to communications equipment manufacturers that in turn sell their equipment to customers that depend on the growth of the Internet. The past downturn has caused a reduction in capital spending on information technology. While we are beginning to see indications of improvement, there are no guarantees that this growth will sustain, resulting in potential volatility. If there is another downturn, our business, operating results and financial condition may be materially and adversely affected.
The loss of one or more key customers, the diminished demand for our products from a key customer, or the failure to obtain certifications from a key customer or its distribution channel could significantly reduce our revenues and profits.
A relatively small number of customers have accounted for a significant portion of our revenues in any particular period. We have no long-term volume purchase commitments from our key customers. One or more of our key customers may discontinue operations as a result of consolidation, bankruptcy or otherwise. Reductions, delays and cancellation of orders from our key customers or the loss of one or more key customers could significantly reduce our revenues and profits. We cannot assure you that our current customers will continue to place orders with us, that orders by existing customers will continue at current or historical levels or that we will be able to obtain orders from new customers.
Our ability to maintain or increase sales to key customers and attract significant new customers is subject to a variety of factors, including:
The occurrence of any one of the factors above could have a material adverse effect on our business, financial condition and results of operations.
There is no guarantee that design wins will become actual orders and sales.
A design win occurs when a customer or prospective customer notifies us that our product has been selected to be integrated with the customers product. There can be delays of several months or more between the design win and when a customer initiates actual orders of our product. Following a design win, we will commit significant resources to the integration of our product into the customers product before receiving the initial order. Receipt of an initial order from a customer following a design win, however, is dependent on a number of factors, including the success of the customers product, and cannot be guaranteed. The design win may never result in an actual order or sale of our products.
Any significant order cancellations or order deferrals could cause unplanned inventory growth resulting in excess inventory, which may adversely affect our operating results.
Our customers may increase orders during periods of product shortages or cancel orders if their inventories are too high. Major inventory corrections by our customers are not uncommon and can last for significant periods of time and affect demand for our products. Customers may also cancel or delay orders in anticipation of new products or for other reasons. Cancellations or deferrals could cause us to hold excess inventory, which could reduce our profit margins by reducing sales prices, incurring inventory write-downs or writing off additional obsolete products.
The book-to-bill ratio is commonly used by investors to compare and evaluate technology and semiconductor companies. The book-to-bill ratio is a demand-to-supply ratio that compares the total amount of orders received to the total amount of orders filled. This ratio tells whether the Company has more orders than it delivered (if greater than 1), has the same amount of orders that it delivered (equals 1), or has less orders than it delivered (under 1). Though the ratio provides an indicator of whether orders are rising or falling, it does not consider the timing of, or if the order will result in future revenues and the effect of changing lead times on bookings. As lead times increase, customers will place orders sooner, therefore increasing our bookings and book-to-bill ratio.
The increasing lead times from our suppliers cause us to make commitments for inventory purchases earlier in our production cycle which in turn increases our risk of having excess inventory. In addition, some of our suppliers are delivering based on allocations which in turn cause us to increase our inventory levels. We must balance our inventory levels between the risk of losing a significant customer to a competitor because we cannot meet our customers requirements and the risk of having excess inventory if a significant order is cancelled.
Inventory fluctuations could affect our results of operations and restrict our ability to fund our operations. Inventory management remains an area of focus as we balance the need to maintain strategic inventory levels to ensure competitive lead times, meet customer expectations and guard against the risk of inventory obsolescence because of changing technology and customer requirements.
We generally recognize revenue upon shipment of products to a customer. If a customer refuses to accept shipped products or does not pay for these products, we could miss future revenue projections or incur significant charges against our income, which could materially and adversely affect our operating results.
Our customers products typically have lengthy design cycles. A customer may decide to cancel or change its product plans, which could cause us to lose anticipated sales.
After we have developed and delivered a product to a customer, the customer will usually test and evaluate our product prior to designing its own equipment to incorporate our product. Our customers may need more than six months to test, evaluate and adopt our product and an additional nine months or more to begin volume production of the equipment or devices that incorporate our product. Due to this generally lengthy design cycle, we may experience significant delays from the time we increase our operating expenses and make investments in inventory until the time that we generate revenue from these products. It is possible that we may never generate any revenue from these products after incurring such expenditures. Even if a customer selects our product to incorporate into its equipment, we cannot guarantee that the customer will ultimately market and sell its equipment or devices that such efforts by our customer will be successful. The delays inherent in this lengthy design cycle increases the risk that a customer will decide to cancel or change its product plans. Such a cancellation or change in plans by a customer could cause us to lose sales that we had anticipated. While our customers design cycles are typically long, some of our product life cycles tend to be short as a result of the rapidly changing technology environment in which we operate. As a result, the resources devoted to R&D, product sales and marketing may not generate material revenue for us, and from time to time, we may need to write off excess and obsolete inventory. If we incur significant R&D and marketing expenses and investments in inventory in the future that we are not able to recover, and we are not able to mitigate those expenses, our operating results could be adversely affected. In addition, if we sell our products at reduced prices in anticipation of cost reductions but still hold higher cost products in inventory, our operating results would be harmed.
An important part of our strategy is to focus on the markets for communications equipment. If we change strategy or are unable to further expand our share of these markets or react timely or properly to emerging trends, our revenues may not grow and could decline.
Our markets frequently undergo transitions in which products rapidly incorporate new features and performance standards on an industry-wide basis. If our products are unable to support the new features or performance levels required by OEMs in these markets, or if our products fail to be certified by OEMs, we will lose business from an existing or potential customer and may not have the opportunity to compete for new design wins or certification until the next product transition occurs. If we fail to develop products with required features or performance standards, or if we experience a delay as short as a few months in certifying or bringing a new product to market, or if our customers fail to achieve market acceptance of their products, our revenues could be significantly reduced for a substantial period.
We expect a significant portion of our revenues to continue to be derived from sales of products based on current, widely accepted transmission standards. If the communications market evolves to new standards, we may not be able to successfully design and manufacture new products that address the needs of our customers or gain substantial market acceptance.
If we do not identify and pursue the correct emerging trends and align ourselves with the correct market leaders, we may not be successful and our business, financial condition and results of operations could be materially and adversely affected.
Customers for our products generally have substantial technological capabilities and financial resources. Some customers have traditionally used these resources to internally develop their own products. The future prospects for our products in these markets are dependent upon our customers acceptance of our products as an alternative to their internally developed products. Future sales prospects also are dependent upon acceptance of third-party sourcing for products as an alternative to in-house development. Network equipment vendors may in the future continue to use internally developed components. They also may decide to develop or acquire components, technologies or products that are similar to, or that may be substituted for, our products.
If our network equipment vendor customers fail to accept our products as an alternative, if they develop or acquire the technology to develop such components internally rather than purchase our products, or if we are otherwise unable to develop or maintain strong relationships with them, our business, financial condition and results of operations would be materially and adversely affected.
Our business strategy contemplates the acquisition of other companies, products and technologies. Merger and acquisition activities involve numerous risks and we may not be able to address these risks successfully without substantial expense, delay or other operational or financial problems that could disrupt our business and harm our results of operations and financial condition.
Acquiring products, technologies or businesses from third parties, making equity investments in companies developing such products, technologies or businesses, and making additional investments in companies in which we already have an interest are all part of our long-term business strategy. The risks involved with merger and acquisition and equity investment activities include:
In addition, in the event of any such investments, mergers or acquisitions, we could;
Any of these risks could materially harm our business, financial condition and results of operations.
As with past acquisitions, future acquisitions could adversely affect operating results. In particular, acquisitions may materially and adversely affect our results of operations because they may require large one-time charges or could result in increased debt or contingent liabilities, unanticipated third-party litigation, adverse tax consequences, substantial additional depreciation or deferred compensation charges. Our past purchase acquisitions required us to capitalize significant amounts of goodwill and purchased intangible assets. As a result of the slowdown in our industry and reduction of our market capitalization, we have been required to record significant impairment charges against these assets as noted in our previous financial statements. These market conditions continuously change and it is difficult to project how long these current uncertain economic conditions may last. These conditions have caused a decline in our near term revenues and it will take some time to ramp back up to our previous levels, if at all. Additionally, market values had deteriorated, which had an unfavorable impact on our valuations which are part of the goodwill and purchased intangible asset impairment tests. There can be no assurances that market conditions will not deteriorate further or that our market capitalization will not decline further. At March 31, 2012, we had $29.8 million of goodwill and purchased intangible assets. We cannot assure you that we will not be required to take significant charges as a result of impairment to the carrying value of the purchased intangible assets, due to further adverse changes in market conditions.
In September 2010, we completed the acquisition of TPack for $32 million in cash, exclusive of $0.5 million cash acquired, and potentially up to an additional $5 million if certain performance milestones are achieved during an 18 month period following the closing of the acquisition. In conjunction with the acquisition, we recorded $23.7 million in amortizable intangible assets and $13.2 million in goodwill. Please see Note 12 of the Consolidated Financial Statements for additional information.
In January 2011, TPacks primary supplier of FPGAs announced it had acquired a competitor of TPack. This supplier will continue to provide FPGAs for TPacks current products and products currently under development, but not for any future products. While we were negotiating with another supplier of FPGAs, they too acquired a competitor of TPack in March 2011. The increased competition from these synergistic acquisitions could adversely affect the future revenue streams from TPack as we implement a library strategy where customers can choose either FPGA supplier. The financial forecasts and other assumptions used to evaluate the acquisition that is included as part of the overall reporting unit may not materialize as expected.
In April 2012, the Company amended its Original Merger Agreement with Veloce and proposes to acquire Veloce for an initial consideration of $60.4 million with potential additional consideration that could range from $0 to $75 million, as adjusted based upon actual technical performance results. The acquisition is expected to close in June 2012.
Our industry and markets are subject to consolidation, which may result in stronger competitors, fewer customers and reduced demand.
There has been industry consolidation among communications IC companies, network equipment companies and telecommunications companies in the past, such as the acquisition of Seamicro Inc. by Advanced Micro Devices in February 2012, Netlogic Microsystems, Inc. by Broadcom Corporation in February 2012 and Gennum Corporation by Semtech Corporation in March 2012. We expect this consolidation to continue as companies attempt to strengthen or hold their positions in evolving markets. Consolidation may result in stronger competitors, fewer customers and reduced demand, which in turn could have a material adverse effect on our business, operating results, and financial condition.
Our operating results are subject to fluctuations because we rely heavily on international sales.
International sales account for a significant part of our revenues and may account for an increasing portion of our future revenues. The revenues we derive from international sales may be subject to certain risks, including:
We are subject to risks associated with the imposition of legislation and regulations relating to the import or export of high technology products, information and technology. We cannot predict whether quotas, duties, taxes or other charges or restrictions upon the importation or exportation of our products will be implemented by the United States or other countries. Because sales of our products have been denominated to date primarily in United States dollars, increases in the value of the United States dollar could increase the price of our products so that they become relatively more expensive to customers in the local currency of a particular country, leading to a reduction in sales and profitability in that country. Future international activity may result in increased foreign currency denominated sales. Gains and losses on the conversion to United States dollars of accounts payable and other monetary assets and liabilities arising from international operations may contribute to fluctuations in our results of operations.
Some of our customer purchase orders and agreements are governed by foreign laws, which may differ significantly from laws in the United States, or may require that dispute resolution occur in a foreign country. As a result, our ability to enforce our rights under such agreements may be limited compared with our ability to enforce our rights under agreements governed by laws in the United States and adjudicated in the United States.
Our foreign operations may subject us to risks relating to the U.S. Foreign Corrupt Practices Act and similar foreign anti-bribery regulations that may have a material adverse impact on our business, financial condition or results of operations.
Our international operations are also subject to laws regarding the conduct of business overseas, such as the U.S. Foreign Corrupt Practices Act, or FCPA, and similar anti-bribery regulations in foreign jurisdictions where we do business, such as China, India, Vietnam and in Europe. The FCPA prohibits the provision of illegal or improper inducements to foreign government officials in connection with obtaining or retaining business overseas or to secure an improper commercial advantage. The FCPA also requires us to keep accurate books and records of business transactions and maintain an adequate system of internal accounting controls. Violations of the FCPA or other similar laws by us, any of our foreign subsidiaries, or any of our or their employees, executive officers, distributors or other agents or intermediaries could subject us and the individuals involved to significant criminal or civil liability. In recent years, the Department of Justice and SEC have significantly stepped up their
investigation and prosecution of alleged FCPA violations. Any such allegations of non-compliance with the FCPA or other similar laws could harm our reputation, divert management attention and result in significant expenses, and could therefore materially harm our business, financial condition or results of operations.
Our portfolio of short-term investments is exposed to certain market risks.
We maintain an investment portfolio of various holdings, types of instruments and maturities. These securities are recorded on our consolidated balance sheets at fair value with unrealized gains or losses reported as a separate component of accumulated other comprehensive income (loss), net of tax. Our investment portfolio is exposed to market risks related to changes in interest rates and credit ratings of the issuers, as well as to the risks of default by the issuers and lack of overall market liquidity. Substantially all of these securities are subject to interest rate and credit rating risk and will decline in value if interest rates increase or one of the issuers credit ratings is reduced. Increases in interest rates or decreases in the credit worthiness of one or more of the issuers in our investment portfolio could have a material adverse impact on our financial condition or results of operations. During the fiscal year ended March 31, 2010, we recorded $4.1 million in write-downs in the carrying value of certain securities as we determined the decline in the fair value of these securities to be other-than-temporary. If there is a further deterioration in market conditions or there are additional losses incurred, we may be required to record a further decline in the carrying value of these securities resulting in further charges. At March 31, 2012, the unrealized losses on these securities that were not written down as an other-than-temporary impairment charge were approximately $1.7 million, of which substantially the entire amount has been at an unrealized loss for greater than 12 months. If the fair value of any of these securities does not recover to at least the amortized cost of such security or we are unable to hold these securities until they recover, we may be required to record a decline in the carrying value of these securities.
Our restructuring activities could result in management distractions, operational disruptions and other difficulties.
Over the past several years, we have initiated several restructuring activities in an effort to reduce operating costs and such restructuring activities are likely to continue. Employees whose positions were eliminated in connection with these restructuring activities may seek employment with our competitors, customers or suppliers. Although each of our employees is required to sign a confidentiality agreement with us at the time of hire, which agreement contains covenants prohibiting among other things the disclosure or use of our confidential information and the solicitation of our employees, we cannot guarantee that the confidential nature of our proprietary information will be maintained in the course of such future employment, or that our key continuing employees will not be solicited to terminate their employment with us. Any additional restructuring efforts could divert the attention of our management away from our operations, harm our reputation, increase our expenses, increase the work load placed upon remaining employees and cause our remaining employees to lose confidence in the future performance of the Company and decide to leave. We cannot guarantee that any additional restructuring activities undertaken in the future will be successful, or that we will be able to realize the cost savings and other anticipated benefits from our previous or future restructuring plans. In addition, if we continue to reduce our workforce, it may adversely impact our ability to respond rapidly to new growth opportunities.
Our markets are subject to rapid technological change, so our success depends heavily on our ability to develop and introduce new products.
The markets for our products are characterized by:
To develop new products for the communications or other technology markets, we must develop, gain access to and use leading technologies in a cost-effective and timely manner and continue to develop technical and design expertise. We must have our products designed into our customers future products and maintain close working relationships with key customers in order to develop new products that meet customers changing needs. We must respond to changing industry standards, trends towards increased integration and other technological changes on a timely and cost-effective basis. Our pursuit of technological advances may require substantial time and expense and may ultimately prove unsuccessful. If we are not successful in adopting such advances, we may be unable to timely bring to market new products and our revenues will suffer.
Many of our products are based on industry standards that are continually evolving. Our ability to compete in the future will depend on our ability to identify and ensure compliance with these evolving industry standards. The emergence of new industry standards could render our products incompatible with products developed by major systems manufacturers. As a result, we could be required to invest significant time and effort and to incur significant expense to redesign our products to ensure compliance with relevant standards. If our products are not in compliance with prevailing industry standards or requirements, we could miss opportunities to achieve crucial design wins which in turn could have a material adverse effect on our business, operating results and financial condition.
The markets in which we compete are highly competitive, and we expect competition to increase in these markets in the future.
The markets in which we compete are highly competitive, and we expect that domestic and international competition will increase in these markets, due in part to deregulation, rapid technological advances, price erosion, changing customer preferences and evolving industry standards. Increased competition could result in significant price competition, reduced revenues, lower profit margins or loss of market share. Our ability to compete successfully in our markets depends on a number of factors, including:
Our competitors may offer enhancements to existing products, or offer new products based on new technologies, industry standards or customer requirements that are available to customers on a more timely basis than comparable products from us or that have the potential to replace or provide lower cost alternatives to our products. The introduction of enhancements or new products by our competitors could render our existing and future products obsolete or unmarketable. We expect that certain of our competitors and other semiconductor companies may seek to develop and introduce products that integrate the functions performed by our IC products
on a single chip, thus eliminating the need for our products. Each of these factors could have a material adverse effect on our business, financial condition and results of operations.
In the transport communications IC markets, we compete primarily against companies such as Broadcom, Cortina, PMC-Sierra and Vitesse. In the embedded processor communications IC market, we compete with technology companies such as Freescale Semiconductor, Cavium and Intel. Many of these companies may have substantially greater financial, marketing and distribution resources than we have. Certain of our customers or potential customers have internal IC design or manufacturing capabilities with which we compete. We may also face competition from new entrants to our target markets, including larger technology companies that may develop or acquire differentiating technology and then apply their resources to our detriment. Any failure by us to compete successfully in these target markets would have a material adverse effect on our business, financial condition and results of operations.
Our operating results depend on manufacturing output and yields of our ICs and printed circuit board assemblies, which may not meet expectations.
The yields on wafers we have manufactured decline whenever a substantial percentage of wafers must be rejected or a significant number of die on each wafer are nonfunctional. Such declines can be caused by many factors, including minute levels of contaminants in the manufacturing environment, design issues, defects in masks used to print circuits on a wafer and difficulties in the fabrication process. Design iterations and process changes by our suppliers can cause a risk of defects. Many of these problems are difficult to diagnose, are time consuming and expensive to remedy and can result in shipment delays.
We estimate yields per wafer and final packaged parts in order to estimate the value of inventory. If yields are materially different than projected, work-in-process inventory may need to be re-valued. We may have to take inventory write-downs as a result of decreases in manufacturing yields. We may suffer periodic yield problems in connection with new or existing products or in connection with the commencement of production using a new design geometry or at a new manufacturing facility.
We must develop or otherwise gain access to improved IC process technologies.
Our future success will depend upon our ability to access new IC process technologies. In the future, we will be required to transition one or more of our IC products to process technologies with smaller geometries, other materials or higher speeds in order to reduce costs or improve product performance. We may not be able to gain access to new process technologies in a timely or affordable manner or products based on these new technologies may not achieve market acceptance.
The complexity of our products may lead to errors, defects and bugs, which could negatively impact our reputation with customers and result in liability.
Products as complex as ours may contain errors, defects and bugs when first introduced or as new versions are released. Our products have in the past experienced such errors, defects and bugs. Delivery of products with production defects or reliability, quality or compatibility problems could significantly delay or hinder market acceptance of the products or result in a costly recall and could damage our reputation and adversely affect our ability to retain existing customers and attract new customers. Errors, defects or bugs could cause problems with device functionality, resulting in interruptions, delays or cessation of sales to our customers.
We may also be required to make significant expenditures of capital and resources to resolve such problems. We cannot assure you that problems will not be found in new products after commencement of commercial production, despite testing by us, our suppliers or our customers. Any such problems could result in:
Any such event could have a material adverse effect on our business, financial condition and results of operations.
Regulatory authorities in jurisdictions into which we ship out products could levy fines or restrict our ability to export products.
A significant portion of our sales are made outside of the U.S. through the exporting and re-exporting of products. In addition to local jurisdictions export regulations, our U.S.-manufactured products and products based on U.S. technology are subject to U.S. laws and regulations governing international trade and exports. These laws and regulations include, but not limited to, the Foreign Corrupt Practices Act, the Export Administration Regulations (EAR), and trade sanctions against embargoed countries and destinations administered by the U.S. Department of the Treasury, Office of Foreign Assets Control (OFAC). Licenses or proper license exceptions are required for the shipment of our products to certain countries as well as for the transfer of certain information and technology to certain foreign countries, foreign nationals or other prohibited persons within the United States or abroad. A determination by the U.S. or local government that we have failed to comply with these or other export or anti-bribery regulations can result in penalties which may include denial of export privileges, fines, civil and criminal penalties and seizure of products. Such penalties could have a material adverse effect on our business, including our ability to meet our sales and earnings forecasts. Further, a change in these laws and regulations could restrict our ability to export to previously permitted countries, customers, distributors or other third parties. Any one or more of these sanctions or a change in laws or regulations could have a material adverse effect on our business, financial condition and results of operations.
Potential U.S. tax legislation regarding our foreign earnings could materially and adversely impact our business and financial results.
Currently, a majority of our revenue is generated from customers located outside the U.S. and a substantial portion of our employees are located outside the U.S. Present U.S. income taxes and foreign withholding taxes have not been provided on undistributed earnings for our nonU.S. subsidiaries, because such earning are intended to be indefinitely reinvested in the operations of those subsidiaries.
If our internal control over financial reporting is not considered effective, our business and stock price could be adversely affected.
Section 404 of the Sarbanes-Oxley Act of 2002 requires us to evaluate the effectiveness of our internal control over financial reporting as of the end of each fiscal year, and to include a management report assessing the effectiveness of our internal control over financial reporting in our annual report on Form 10-K for that fiscal year. Section 404 also requires our independent registered public accounting firm to attest to and report on the effectiveness of our internal control over financial reporting.
Our management, including our chief executive officer and chief financial officer, does not expect that our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control systems
objectives will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of control must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of internal control can provide absolute assurance that all control issues and instances of fraud involving a company have been, or will be, detected. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and we cannot assure you that any design will succeed in achieving its stated goals under all potential future conditions. Over time, our internal control over financial reporting may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
Our management has concluded, and our independent registered public accounting firm has attested, that our internal control over financial reporting was effective as of March 31, 2012. We cannot assure you that we or our independent registered public accounting firm will not identify a material weakness in our internal control over financial reporting in the future. A material weakness in our internal control over financial reporting would require management and our independent registered public accounting firm to report our internal control over financial reporting as ineffective. If our internal control over financial reporting is not considered effective, we may experience a restatement like we have in the past of our financial statements and/or a loss of public confidence, either of which could have an adverse effect on our business and on the market price of our common stock.
Our future success depends in part on the continued service of our key senior management, design engineering, sales, marketing, and manufacturing personnel, our ability to identify, hire and retain additional, qualified personnel and successful succession planning.
Our future success depends to a significant extent upon the continued service of our senior management and engineering personnel and successful succession planning. The loss of key senior executives or engineers could have a material adverse effect on our business. There is intense competition for qualified personnel in the semiconductor industry, in particular design, product and test engineers. We may not be able to continue to attract and retain engineers or other qualified personnel necessary for the development of our business, or to replace engineers or other qualified personnel who may leave our employment in the future.
We also face the risks associated with our former employees assisting their new employers to recruit our key talent, in violation of their contractual non-solicitation and confidentiality covenants to us. For example, in December 2010 we commenced a lawsuit in the California Superior Court in Santa Clara County against two former AppliedMicro employees one of whom was a former Company officer and their new employer for causes of action including, among other things, breach of the employees contractual non-solicitation covenants to us in connection with their efforts to recruit key AppliedMicro engineers to join their new company. In August 2011, following the results of our discovery in that action, we amended our complaint to add an additional defendant and additional causes of action, including breach of fiduciary duty and new breach of contract and contract interference claims. In such action, which is not yet scheduled for trial, we are seeking damages, including exemplary and punitive damages, injunctive relief and costs of suit. In addition, while we encourage our employees to abide by all contractual and legal obligations owed to their former employers, there can be no assurance that we will not be the target of allegations made by other companies that we have, directly or indirectly, unlawfully solicited their employees to join us. There are significant costs associated with recruiting, hiring and retaining personnel, as well as significant actual and potential losses to our business arising from the delays in or cancellation of technology development, product completion and roll-out, customer design wins and product orders, and sales revenues caused by the departure of key engineering resources.
To manage our operations effectively, we will be required to continue to improve our operational, financial and management systems and to successfully hire, train, motivate, and manage our employees. Also, the integration of future business acquisitions would require significant additional management, technical and administrative resources. We cannot guarantee that we would be able to manage our expanded operations effectively.
Periods of contraction in our business may also inhibit our ability to attract and retain our personnel. As we respond to declining revenues and/or implement additional cost improvement measures such as reductions in force, our remaining key employees may lose confidence in the future performance of the Company and decide to leave. Loss of the services of, or failure to recruit, key design engineers or other technical and management personnel could be significantly detrimental to our product development or other aspects of our business.
Our ability to supply a sufficient number of products to meet demand could be severely hampered by a shortage of water, electricity or other supplies or by natural disasters or other catastrophes or by the effects of war, acts of terrorism or global threats.
The manufacture of our products requires significant amounts of water. Previous droughts have resulted in restrictions being placed on water use by manufacturers. In the event of a future drought, reductions in water use may be mandated generally and our external foundries ability to manufacture our products could be impaired.
Several of our facilities, including our principal executive offices, are located in California. California has experienced prolonged energy alerts and blackouts caused by disruption in energy supplies. As a consequence, businesses and other energy consumers in California continue to experience substantially increased costs of electricity and natural gas. We are unsure whether energy alerts and blackouts will reoccur or how severe they may become in the future. Many of our customers and suppliers are also headquartered or have substantial operations in California. If we or any of our major customers or suppliers located in California experience a sustained disruption in energy supplies, our results of operations could be materially and adversely affected.
A significant portion of our manufacturing operations are located in Asia. These areas are subject to natural disasters such as earthquakes or floods, like Japan and Thailand. We do not have earthquake insurance for these facilities, because adequate coverage is not offered at economically justifiable rates. A significant natural disaster or other catastrophic event could have a material adverse impact on our business, financial condition and operating results.
The effects of war, acts of terrorism or global threats, including, but not limited to, the outbreak of epidemic disease, could have a material adverse effect on our business, operating results and financial condition. The continued threat of terrorism and heightened security and military action in response to this threat, or any future acts of terrorism, may cause further disruptions to local and global economies and create further uncertainties. To the extent that such disruptions or uncertainties result in delays or cancellations of customer orders, or the manufacture or shipment of our products, our business, operating results and financial condition could be materially and adversely affected.
We could incur substantial fines or litigation costs associated with our storage, use and disposal of hazardous materials.
We are subject to a variety of federal, state and local governmental regulations related to the use, storage, discharge and disposal of toxic, volatile or otherwise hazardous chemicals used in our manufacturing process. Any failure to comply with present or future regulations could result in the imposition of fines, the suspension of production or a cessation of operations. These regulations could require us to acquire costly equipment or incur other significant expenses to comply with environmental regulations or clean up prior discharges.
Since 1993, we have been named as a potentially responsible party (PRP) along with more than 100 other companies that used Omega Chemical Corporation waste treatment facility in Whittier, California (the Omega Site). The U.S. Environmental Protection Agency (EPA) has alleged that the Omega Site failed to properly treat and dispose of certain hazardous waste material. We are a member of a large group of PRPs that has agreed to fund certain on-going remediation efforts at the Omega Site and with respect to the regional groundwater allegedly contaminated thereby.
In 2007, the PRPs were sued by a chemical company located downstream from the Omega Site, seeking a judicial determination that the Omega PRPs are responsible for some or all of the plaintiffs potential liability to clean up groundwater contamination beneath Plaintiffs site; that action has been stayed since March 2008 to allow for further delineation of the regional groundwater. In September 2011, EPA issued an interim remedial action proposal, designed to arrest the further spread of groundwater contamination; in the next few months EPA is expected to notify the PRPs with requests to implement the interim remedial action. In 2010, a toxic tort litigation was commenced against Omega and the PRP group by individuals alleging injuries caused by the Omega Site; trial in such action has been scheduled for November 2012.
Based on currently available information, we have a loss accrual for the Omega site that is not material and we believe that the actual amount of costs and liabilities will not be materially different from the amount accrued. However, proceedings are ongoing and the eventual outcome of the clean-up efforts and the pending litigation matters is uncertain at this time. Based on currently available information, we do not believe that any eventual outcome will have a material adverse effect on our operations but we cannot guarantee this result. In 2009, the U.S. Supreme Court decided U.S. v. Burlington Northern & Santa Fe Railway Co., 129 S.Ct. 1870, which determined that hazardous substance cleanup liability need not be joint and several in all cases. As a result of this decision, the liability is potentially divisible among the PRPs at an earlier stage in superfund cases such as Omega. At this time we do not know and cannot predict the full impact of this decision on our liability.
In November 2011, a significant member of the PRP group withdrew from the group. In January 2012, as a result of the PRP groups modification of its allocation formulae and group member withdrawal, our proportional allocation of responsibility among the PRPs for the current remediation space increased. Any future increases to our proportional allocation of responsibility among the PRPs or the future reduction of parties participating in the PRP group due to additional member withdrawals could materially increase our potential liability relating to the Omega Site. Although we believe that we have been and currently are in material compliance with applicable environmental laws and regulations, we cannot guarantee that we are or will be in material compliance with these laws or regulations or that our future obligations to fund any remediation efforts, including those at the Omega Site, or expenses and potential liabilities relating to the pending litigation matters, will not have a material adverse effect on our business and financial condition.
Customers demands and new regulations related to conflict-free minerals may force us to incur additional expenses.
The Dodd-Frank Wall Street Reform and Consumer Protection Act may require disclosure of use of conflict minerals mined from the Democratic Republic of Congo and adjoining countries and efforts to prevent the use of such minerals. In the semiconductor industry, these minerals are most commonly found in metals. As there may be only a limited number of suppliers offering conflict free metals, we cannot be sure that we will be able to obtain necessary metals in sufficient quantities or at competitive prices. Also, since our supply chain is complex and some suppliers will not share their confidential supplier information, we may face challenges with our customers and suppliers if we are unable to sufficiently verify that the metals used in our products are conflict free. Some customers may choose to disqualify us as a supplier and we may have to write off inventory in the event that it becomes unsalable as a result of these regulations.
Environmental laws and regulations could cause a disruption in our business and operations.
We are subject to various state, federal and international laws and regulations governing the environment, including those restricting the presence of certain substances in electronic products and making manufacturers of those products financially responsible for the collection, treatment, recycling and disposal of certain products. Such laws and regulations have been passed in several jurisdictions in which we operate, including various European Union (EU) member countries. For example, the EU has enacted the Restriction of the Use of Certain Hazardous Substances in Electrical and Electronic Equipment (RoHS) and the Waste Electrical and
Electronic Equipment (WEEE) directives. RoHS prohibits the use of lead and other substances in semiconductors and other products put on the market after July 1, 2006. The WEEE directive obligates parties that place electrical and electronic equipment on the market in the EU to put a clearly identifiable mark on the equipment, register with and report to EU member countries regarding distribution of the equipment, and provide a mechanism to take back and properly dispose of the equipment. There can be no assurance that similar programs will not be implemented in other jurisdictions resulting in additional costs, possible delays in delivering products, and even the discontinuance of existing and planned future product replacements if the cost were to become prohibitive.
We may not be able to protect our intellectual property adequately.
We rely in part on patents to protect our IP. We cannot assure you that our pending patent applications or any future applications will be approved, or that any issued patents will adequately protect the IP in our products and processes, will provide us with competitive advantages or will not be challenged by third parties or that if challenged, any such patents will be found to be valid or enforceable. Others may independently develop similar products or processes, duplicate our products or processes or design around any patents we currently hold or that may be issued to us.
To protect our IP, we also rely on the combination of mask work protection under the Federal Semiconductor Chip Protection Act of 1984, trademarks, copyrights, trade secret laws, employee and third-party nondisclosure agreements, and licensing arrangements. Despite these efforts, we cannot assure you that others will not independently develop substantially equivalent IP or otherwise gain access to our trade secrets or IP, or disclose such IP or trade secrets, or that we can meaningfully protect our IP. A failure by us to meaningfully protect our IP could have a material adverse effect on our business, financial condition and operating results.
We generally enter into confidentiality agreements with our employees, consultants, suppliers, customers and strategic partners. We also try to control access to and distribution of our technologies, documentation and other proprietary information. Despite these efforts, parties may attempt to copy, disclose, obtain or use our products, services or technology without our authorization. Also, former employees may seek employment with our business partners, customers or competitors and we cannot assure you that the confidential nature of our proprietary information will be maintained in the course of such future employment. Additionally, former employees or third parties could attempt to penetrate our network to misappropriate our proprietary information or interrupt our business. Because the techniques used by computer hackers to access or sabotage networks change frequently and generally are not recognized until launched against a target, we may be unable to anticipate these techniques. As a result, our technologies and processes may be misappropriated, particularly in foreign countries where laws may not protect our proprietary rights as fully as in the United States.
We could be harmed by litigation involving patents, proprietary rights or other claims.
Litigation may be necessary to enforce our IP rights, to determine the validity and scope of the proprietary rights of others or to defend against claims of infringement or misappropriation. The semiconductor industry is characterized by substantial litigation regarding patent and other IP rights. Currently the Company is not a named defendant in any IP infringement lawsuits. Nevertheless, as our products and IP become instantiated in more and more customer products and applications, and as patent infringement litigation brought by our competitors, non-practicing entities (also known as patent trolls) and patent-licensing companies is on the rise, we are at an increased risk of being named as a defendant in such litigation. Due in part to the factors described above, the Company has been or currently is subject to the following:
Such claims, demands and litigation could result in substantial costs and diversion of resources, including the attention of our management and technical personnel, and could have a material adverse effect on our business, financial condition and results of operations.
We may be accused of infringing on or misappropriating the IP rights of third parties. In addition, we have contractual indemnification obligations to some of our customers, and other customers or end users may assert we have duties to indemnify them, with respect to claims that our products infringe third-party IP rights. For example, in connection with the patent infringement lawsuit previously brought by Broadcom Corporation against Emulex Corporation in the United States District Court in the Central District of California, Emulex has demanded that several of its components suppliers, including AppliedMicro, indemnify Emulex from and against certain legal expenses and other potential liabilities arising from the lawsuit. Although we are a supplier of components used by Emulex in certain products accused in the Broadcom litigation, we do not currently believe we have any obligations under the terms of our existing supply agreement with Emulex to indemnify it with respect to the Broadcom litigation. Notwithstanding the foregoing, there can be no assurance that IP infringement or misappropriation claims by third parties, or additional claims for indemnification by customers or end users resulting from infringement claims against them, will not be asserted in the future, or that any such existing or future assertions will not harm our business.
Any litigation relating to the IP rights of third parties would at a minimum be costly and could divert the efforts and attention of our management and technical personnel. In the event of any adverse ruling in any such litigation, we could be required to pay substantial damages, cease the manufacturing, use and sale of infringing products, discontinue the use of certain processes or obtain a license under the IP rights of the third party claiming infringement. A license might not be available on reasonable, economic and other terms or at all. From time to time, we may be involved in litigation relating to other claims arising out of our operations in the normal course of business. The ultimate outcome of any such litigation matters could have a material, adverse effect on our business, financial condition or operating results.
Our stock price is volatile.
The market price of our common stock has fluctuated significantly. In the future, the market price of our common stock could be subject to significant fluctuations due to general economic and market conditions and in response to quarter-to-quarter variations in:
The stock market in recent years has experienced extreme price and volume fluctuations that have affected the market prices of many high technology companies, particularly semiconductor companies. In some instances, these fluctuations appear to have been unrelated or disproportionate to the operating performance of the affected companies. Whether or not our stock is part of one or more Index funds could have a significant impact on our stock. We cannot assure you that our stock will be part of any Index fund. In addition, the current decline of the financial markets and related factors beyond our control, including the credit and mortgage crisis in both the U.S. and worldwide, may cause our stock price to decline rapidly and unexpectedly.
Delaware law and our corporate charter and bylaws contain anti-takeover provisions that could delay or discourage takeover attempts that stockholders may consider favorable.
Provisions in our certificate of incorporation, as amended, and our bylaws, as amended and restated, may have the effect of delaying or preventing a change of control or changes in our directors and management. These provisions include the following:
Our board of directors has the authority to issue up to 2.0 million shares of preferred stock and to determine the price, rights, preferences and privileges and restrictions, including voting rights, of those shares without any further vote or action by our stockholders. The rights of the holders of common stock will be subject to, and may be harmed by, the rights of the holders of any shares of preferred stock that may be issued in the future. The issuance of preferred stock may delay, defer or prevent a change in control, as the terms of the preferred stock that might be issued could potentially prohibit our consummation of any merger, reorganization, sale of substantially all of our assets, liquidation or other extraordinary corporate transaction without the approval of the holders of the outstanding shares of preferred stock. The issuance of preferred stock could have a dilutive effect on our stockholders.
Because we are incorporated in Delaware, we are governed by the provisions of Section 203 of the Delaware General Corporation Law. These provisions may prohibit, restrict or significantly delay large stockholders, in particular those owning 15% or more of our outstanding voting stock, from merging or combining with us.
Although we believe these provisions in our charter and bylaws and under Delaware law collectively provide for an opportunity to receive higher bids by requiring potential acquirers to negotiate with our board of directors, they would apply even if the offer may be considered beneficial by some stockholders. In any event, these provisions may delay or prevent a third party from acquiring us. Any such delay or prevention could cause the market price of our common stock to decline.
If we issue additional shares of stock in the future, it may have a dilutive effect on our stockholders.
We have a significant number of authorized and unissued shares of our common stock available. These shares will provide us with the flexibility to issue our common stock for proper corporate purposes, which may include making acquisitions (including without limitation, our proposed acquisition of Veloce) through the use of stock, adopting additional equity incentive plans and raising equity capital. Any issuance of our common stock may result in immediate dilution of our stockholders.
Our corporate headquarters are located in an approximately 150,000 square foot building in Sunnyvale, California that we own. The facility contains administration, sales and marketing, research and development and operations functions. In addition to these facilities, we lease additional domestic facilities in San Diego and Santa Clara, California, Andover, Massachusetts, Austin, Texas and Cary, North Carolina.
Our foreign leased locations consist of the following: Ottawa, Canada; Cheshire, United Kingdom; Tokyo, Japan; Beijing, Shenzhen and Shanghai, the Peoples Republic of China; Taipei and Kaohsiung, Taiwan; Seoul, Korea; Copenhagen, Denmark; Ho Chi Minh City, Vietnam; Pune and Bangalore, India and Singapore.
The domestic and international leased facilities comprise an aggregate of approximately 167,000 square feet. These facilities have lease terms expiring between 2012 and 2016. We believe that the facilities under lease by us will be adequate for at least the next 12 months.
For additional information regarding our obligations under property leases, see Note 8 of the Notes to Consolidated Financial Statements, included in Part IV, Item 15, Exhibits, Financial Statement Schedules, of this Annual Report.
The information set forth under Note 11 of Notes to Consolidated Financial Statements, included in Part IV, Item 15, Exhibits, Financial Statement Schedules, of this Annual Report, is incorporated herein by reference.
Our common stock is traded on the Nasdaq Global Select Market under the symbol AMCC. The following table sets forth the high and low closing sales prices of our common stock as reported by Nasdaq for the periods indicated.
At April 30, 2012, there were approximately 182 holders of record of our common stock.
We have never declared or paid cash dividends on shares of our common stock. We currently intend to retain all of our earnings, if any, for use in our business, for the purchases of our common stock or for the acquisitions of other businesses, assets, products or technologies. We do not anticipate paying any cash dividends in the foreseeable future.
Recent Sales of Unregistered Securities
There were no sales of equity securities by us that were not registered under the Securities Act of 1933, as amended (the Securities Act), during fiscal year ended March 31, 2012, that have not been previously reported in a Quarterly Report on Form 10-Q or in a Current Report on Form 8-K.
Securities Authorized for Issuance under Equity Compensation Plans
The information included in Part III, Item 12, Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters, of this Annual Report is hereby incorporated herein by reference. For additional information on our stock incentive plans and activity, see Note 5 of the Notes to Consolidated Financial Statements included in Part IV, Item 15, Exhibits, Financial Statement Schedules, of this Annual Report.
The graph below matches Applied Micro Circuits Corporations cumulative five-year total shareholder return on common stock with the cumulative total returns of the S&P 500 index, the NASDAQ Telecommunications index, and the NASDAQ Composite index. The graph tracks the performance of a $100 investment in our common stock and in each index (with the reinvestment of all dividends) from March 31, 2007 to March 31, 2012.
The stock price performance included in this graph is not necessarily indicative of future stock price performance.
The material in this section is not soliciting material and is not deemed filed with the SEC and is not to be incorporated by reference into any filing of Applied Micro Circuits Corporation made under the Securities Act or the Exchange Act whether made before or after the date hereof and irrespective of any general incorporation language in any such filing except to the extent we specifically incorporate this section by reference.
The following table sets forth selected financial data for each of our last five fiscal years ended March 31, 2012. You should read the selected financial data set forth in the table below, together with the Consolidated Financial Statements and related Notes to Consolidated Financial Statements, included in Part IV, Item 15, Exhibits, Financial Statement Schedules, of this Annual Report, as well as Part II, Item 7, Managements Discussion and Analysis of Financial Condition and Results of Operations, of this Annual Report.
This managements discussion and analysis of financial condition and results of operations (MD&A) is provided as a supplement to the accompanying consolidated financial statements and footnotes to help provide an understanding of our financial condition, changes in our financial condition and results of our operations. The MD&A is organized as follows:
CAUTION CONCERNING FORWARD-LOOKING STATEMENTS
The MD&A should be read in conjunction with the consolidated financial statements and notes thereto included in this report. This discussion contains forward-looking statements. These forward-looking statements are made as of the date of this report. Any statement that refers to an expectation, projection or other characterization of future events or circumstances, including the underlying assumptions, is a forward-looking statement. We use certain words and their derivatives such as anticipate, believe, plan, expect, estimate, predict, intend, may, will, should, could, future, potential, and similar expressions in many of the forward-looking statements. The forward-looking statements are based on our current expectations, estimates and projections about our industry, managements beliefs, and other assumptions made by us. These statements and the expectations, estimates, projections, beliefs and other assumptions on which they are based are subject to many risks and uncertainties and are inherently subject to change. We describe many of the risks and uncertainties that we face in Part II, Item 1A, Risk Factors and elsewhere in this report. Our actual results and actual events could differ materially from those anticipated in any forward-looking statement. Readers should not place undue reliance on any forward-looking statement.
Applied Micro Circuits Corporation (AppliedMicro, APM, AMCC, the Company, we or our) is a leader in semiconductor solutions for the data center, enterprise, telecom and consumer/small medium business (SMB) markets. We design, develop, market, sell and support high-performance low power ICs, which are essential for the processing, transporting and storing of information worldwide. In the telecom and enterprise markets, we utilize a combination of design expertise coupled with system-level knowledge and multiple technologies to offer IC products for wireline and wireless communications equipment such as wireless access points, wireless base stations, multi-function printers, enterprise and edge switches, blade servers, storage systems, gateways, core switches, routers, metro, long-haul, and ultra-long-haul transport platforms. In the consumer/SMB markets, we combine optimized software and system-level expertise with highly integrated
semiconductors to deliver comprehensive reference designs and stand-alone semiconductor solutions for wireline and wireless communications equipment such as wireless access points, network attached storage, and residential and smart energy gateways. Our corporate headquarters are located in Sunnyvale, California. Sales and engineering offices are located throughout the world.
We are a semiconductor company that possesses fundamental and differentiated intellectual property for high speed signal processing, packet based communications processors and telecommunications transport protocols. This intellectual property enables us to be a key player in the data center, enterprise and telecommunications applications. Our customer focus is on the OEMs and telecommunications companies that build and connect to data centers. As of March 31, 2012, our business had two reporting units, Computing and Connectivity (formerly referred to as Process and Transport, respectively).
Since the start of fiscal 2010, we have invested a total of $372.5 million in the R&D of new products, including higher-speed, lower-power and lower-cost products, products that combine the functions of multiple existing products into single highly-integrated solutions, and other products to expand and complete our portfolio of communications solutions. These products, and our customers products for which they are intended, are highly complex. Due to this complexity, it often takes several years to complete the development and qualification of a product before it enters into volume production. Accordingly, we have not yet generated significant revenues from some of the products developed during this time period. In addition, downturns in the telecommunications market can severely impact our customers business and often result in significantly less demand for our products than was expected when the development work commenced.
Acquisition of Veloce
The Company proposes to acquire Veloce in accordance with the terms and conditions of the Agreement and Plan of Merger, entered into as of May 17, 2009, by and among the Company, Veloce, a wholly owned subsidiary of the Company (Merger Sub), and the Stockholders Representative named therein (the Initial Agreement). The Initial Agreement was amended by Amendment No. 1 entered into on November 8, 2010 (the First Amendment) and Amendment No. 2 entered into on April 5, 2012 (the Second Amendment and, together with the Initial Agreement and the First Amendment, the Merger Agreement). The Second Amendment, which added a second wholly owned subsidiary of the Company (Merger Sub II) as a party, amended, restated and replaced the First Amendment in its entirety.
Pursuant to the Merger Agreement, upon achievement of a specified FPGA product development milestone by Veloce (the FPGA II Milestone), and the satisfaction or waiver of certain closing conditions, a two-step merger will occur, in each case in accordance with the merger certificate filing and other statutory requirements of the Delaware General Corporation Law. First, Merger Sub will merge with and into Veloce, with Veloce as the surviving entity. Second, directly thereafter Veloce will merge with and into Merger Sub II, with Merger Sub II surviving as a wholly owned subsidiary of the Company (the Surviving Entity).
In and as a result of the Merger, and without any further action by any party to the Merger Agreement or any security holder of Veloce, each authorized share of Veloce capital stock or its equivalent will be converted at the effective time of the Merger into and represent the right to receive a portion of the total consideration payable by the Company in the Merger (the Merger Consideration), subject to the satisfaction of any remaining vesting requirements, if applicable. The Merger Consideration will consist of the following aggregate amounts:
The Merger Consideration is payable, at the Companys election, in cash, shares of the Companys common stock, or a combination of the two. Pursuant to the Merger Agreement, each share of Company common stock issued as Merger Consideration will be valued, with respect to any given payment, based upon the average closing price of the Companys common stock as quoted on The Nasdaq Global Select Market for the ten trading days immediately preceding the date such payment is paid or becomes payable.
The Company currently intends to treat the Merger as a reorganization under Section 368 of the Internal Revenue Code (a Reorganization) in the tax returns of the Company, Veloce and the Surviving Entity. One of the requirements of a Reorganization is that the continuity of interest test be satisfied, which requires that shares of Company common stock form a substantial part of the consideration received by Veloces shareholders in exchange for their Veloce stock. One of the intended purposes of the two-step merger procedure described above is to reduce the total amount of Company common stock required to be issued to satisfy the continuity of interest test. The Company currently intends to issue sufficient shares of its common stock to cause the continuity of interest test to be satisfied. Under the Nasdaq Rules, the Company would be required to obtain Company shareholder approval if the Merger transaction involved the issuance or potential issuance of shares of Company common stock equal to 20% or more of the Companys common stock outstanding before the issuance. The Company does not currently anticipate that the amount of Company common stock to be issued as Merger Consideration will trigger the Company shareholder approval requirement described above.
The Company has filed an application for the purpose of qualifying the sale of the Companys common stock to be issued in the Merger in accordance with the California Corporations Code (the CCC), and for the purpose of requesting and conducting a hearing (the Fairness Hearing) pursuant to the CCC, in order to exempt such common stock from the registration requirements of the Securities Act of 1933, as amended (the Securities Act), by virtue of the exemption provided by Section 3(a)(10) thereof.
Under applicable corporate law, upon the Closing, all of the property, rights, privileges, powers and franchises of Veloce will vest in the Surviving Entity and all debts, liabilities and duties of Veloce will become the debts, liabilities and duties of the Surviving Entity.
It is currently anticipated that the Closing will occur in June 2012, subject to the achievement of the FPGA II Milestone by Veloce and the satisfaction of all closing conditions, including the completion of the Fairness Hearing. In the event of a June 2012 Closing, the Company anticipates that approximately $25 million to $30 million of the $60.4 million initial Merger Consideration will be paid out at the Closing and the remaining portion of the $60.4 million will be payable over the next three years upon completion of the remaining vesting requirements of the Veloce shares or share equivalents. For accounting purposes, all Merger Consideration, regardless of form, will be recognized as R&D expense.
The Merger Agreement contains customary representations, warranties and covenants and may be terminated upon mutual agreement of the parties or unilaterally by the Company or Veloce if the other party fails to meet certain conditions and comply with certain obligations set forth in the agreement.
Under the Second Amendment, the Company and Veloce agreed to have the Company, subject to the terms and conditions of the Merger Agreement, offset claims for future potential indemnifiable losses, if any, against the amount of any unpaid Merger Consideration as of the time such claim is made. The Companys right to offset claims for future potential indemnifiable losses against unpaid Merger Consideration is in lieu of any requirement that a portion of the Merger Consideration be deposited in an escrow account to secure any future claims by the Company for such losses.
In connection with the Second Amendment, the Company and Veloce also modified the warrant to purchase shares of the Companys common stock, previously granted to Veloce in May 2009 and amended in November 2010, by accelerating the vesting schedule so as to be fully vested on April 5, 2012.
On May 17, 2009, the Company and Veloce also entered into a product development agreement (as amended on November 8, 2010 and July 18, 2011, the Development Agreement) pursuant to which Veloce performs product development work relating to an ARM v8 processor for the Company on an exclusive basis for cash and other consideration, including a warrant to purchase Company common stock. Veloces product development work for the Company comprises substantially all of Veloces business and operations. The Company does not hold any equity interest in Veloce.
In March 2009, we entered into a master technology license agreement (TLA) with ARM, a leading semiconductor IP supplier, enabling us thereafter to license specific ARM technology. Subsequent thereto, we licensed under the TLA a new 64-bit version of ARMs core specification (ARM v8).
The following tables present a summary of our results of operations for the fiscal years ended March 31, 2012 and 2011 (dollars in thousands):
The following tables present a summary of our results of operations for the fiscal years ended March 31, 2011 and 2010 (dollars in thousands):
Net Revenues. We generate revenues primarily through sales of our IC products, embedded processors and printed circuit board assemblies to OEMs, such as Alcatel-Lucent, Ciena, Cisco, Brocade, Fujitsu, Hitachi, Huawei, Juniper, Ericsson, NEC, Nortel, Nokia Siemens Networks, and Tellabs, who in turn supply their equipment principally to communications service providers.
In November 2009, we entered into a Patent Purchase Agreement (PPA) with Acacia Patent Acquisition LLC whereby we agreed to sell a series of our patents, patent applications and associated rights related to certain technologies for an aggregate purchase price of $2.5 million payable over two years and a 25% share of royalty payments for assignment of rights under the sale and/or use of the patents. Due to the nature of the payment terms, related revenue is being recorded as the payments are received.
In July 2008, we also entered into a PPA with QUALCOMM Incorporated whereby we agreed to sell a series of our patents, patent applications and associated rights related to certain technologies for an aggregate purchase price of $33.0 million payable over three years in equal quarterly payments of $3.0 million each beginning in the three months ended December 31, 2008 through March 31, 2011. Due to the nature of the payment terms, related revenue was recorded as the payments were received.
On a sell-through basis, we had approximately 83 days of inventory in the distributor channel at March 31, 2012 as compared to 78 days at March 31, 2011. The increase in inventory days during fiscal 2012 related in part due to the effect of increased revenues from end-of-life product sales that are usually sold on a non-cancellable, non-returnable basis and may take several quarters for the product to be sold-through and decremented from the channel.
The gross margins for our solutions have historically declined over time. Some factors that we expect to cause downward pressure on the gross margins for our products include competitive pricing pressures, unfavorable product mix, the cost sensitivity of our customers particularly in the higher-volume markets, new product introductions by us or our competitors, and capacity constraints in our supply chain. From time to time, for strategic reasons, we may accept orders at less than optimal gross margins in order to facilitate the introduction of, or, market penetration of our new or existing products. To maintain acceptable operating results, we will need to offset any reduction in gross margins of our products by reducing costs, increasing sales volume, developing and introducing new products and developing new generations and versions of existing products on a timely basis.
We classify our revenues into two categories based on the markets that the underlying products serve. The categories are Computing and Connectivity. We use this information to analyze our performance and success in these markets.
We are continuing to focus our current connectivity investments on high growth 10G and faster Ethernet solutions, data center, Optical Transport Network (OTN) and enterprise market opportunities while continuing to service the Telecom (SONET/SDH) market. Over time, we believe customers will transition from the SONET/SDH standard to higher speed, lower power products that utilize the OTN standard in order to support the increasing demand for transmission of data over networks. However, the timing and extent of this transition is uncertain due to the significant investment that is needed to convert networks to the OTN standard. As such, the rate of conversion to the OTN standard is, in part, greatly influenced by global economic market conditions. Recessionary type market conditions will result in a slower transition of networks to the OTN standard. Additionally, there can be no assurance that our revenues will increase as the OTN standard is adopted.
The demand for our products has been affected in the past, and may continue to be affected in the future, by various factors, including, but not limited to, the following:
For these and other reasons, our net revenue and results of operations for the three fiscal years ended March 31, 2012 may not necessarily be indicative of future net revenue and results of operations.
Based on direct shipments, net revenues to customers that was equal to or greater than 10% of total net revenues in any of the three years ended March 31, 2012 were as follows:
We expect that our largest customers will continue to account for a substantial portion of our net revenue for the foreseeable future.
Net revenues by geographic region were as follows (in thousands):
All of our revenues are primarily denominated in U.S. dollars, other than revenues that account for less than 10% of our total revenues, which are denominated primarily in Danish Kroner.
Key non-GAAP measurements. We use certain non-GAAP metrics such as Adjusted Earnings Before Interest, Taxes, Depreciation and Amortization (Adjusted EBITDA) to measure our performance. We define Adjusted EBITDA as net income (loss), less interest income, income taxes, depreciation and amortization, stock-based compensation, amortization of intangibles and other one-time and/or non-cash items. The following table reconciles Adjusted EBITDA to the accompanying financial statements (in thousands):
We believe that Adjusted EBITDA is a useful supplemental measure of our operations performance because it helps investors evaluate and compare the results of operations from period to period by removing the accounting impact of the Companys financing strategies, tax provisions, depreciation and amortization, restructuring charges, stock based compensation expense, discontinued operations and certain other operating items. We adjust for these excluded items because we believe that, in general, these items possess one or more of the following characteristics: their magnitude and timing is largely outside of the Companys control; they are unrelated to the ongoing operations of the business in the ordinary course; they are unusual or infrequent and the Company does not expect them to occur in the ordinary course of business; or they are non-cash expenses.
Adjusted EBITDA is not a measure determined in accordance with generally accepted accounting principles in the United States, or GAAP, and should not be considered a substitute for operating income, net income or any other measure determined in accordance with GAAP. Adjusted EBITDA should not be considered in isolation or as a substitute for measures of performance prepared in accordance with GAAP. Adjusted EBITDA is used by our management as a measure of operating efficiency and overall financial performance for benchmarking against our peers and competitors and is used as a metric to determine the performance vesting of our three-year Restricted Stock Unit grants issued in May 2009 (the EBITDA Grants) and May 2011 (the EBITDA2 Grants). Management believes Adjusted EBITDA provides meaningful supplemental information regarding the underlying operating performance of our business. Management also believes that Adjusted EBITDA is useful to investors because it is frequently used by securities analysts, investors and other interested parties to evaluate the Company.
The book-to-bill ratio is another metric commonly used by investors to compare and evaluate technology and semiconductor companies. The book-to-bill ratio is a demand-to-supply ratio that compares the total amount
of orders received to the total amount of orders filled. This ratio tells whether the Company has more orders than it delivered (if greater than 1), has the same amount of orders that it delivered (equals 1), or has less orders than it delivered (under 1). Though the ratio provides an indicator of whether orders are rising or falling, it does not consider the timing of or if the order will result in future revenues. Our book-to-bill ratio at March 31, 2012, 2011 and 2010 was 0.8, 1.0 and 1.3, respectively.
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements in accordance with accounting principles generally accepted in the United States requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of net revenue and expenses in the reporting period. We regularly evaluate our estimates and assumptions related to: inventory valuation and capitalized mask set costs, which affect our cost of sales and gross profit; the valuation of goodwill and purchased intangibles, which has in the past affected, and could in the future affect, our impairment charges to write down the carrying value of purchased intangibles and the amount of related periodic amortization expense recorded for definite-lived intangibles; the valuation of the Veloce consideration which affects operating expenses; and an evaluation of other-than-temporary impairment of our investments, which affects the amount and timing of write-down charges. We also have other key accounting policies, such as our policies for stock-based compensation and revenue recognition. The methods, estimates and judgments we use in applying these critical accounting policies have a significant impact on the results we report in our financial statements. We base our estimates and assumptions on historical experience and on various other factors that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. The actual results experienced by us may differ materially and adversely from managements estimates. To the extent there are material differences between our estimates and the actual results, our future results of operations will be affected.
We believe the following critical accounting policies require us to make significant judgments and estimates in the preparation of our consolidated financial statements.
We hold a variety of securities that have varied underlying investments. We review our investment portfolio periodically to assess for other-than-temporary impairment. We assess the existence of impairment of our investments in order to determine the classification of the impairment as temporary or other-than-temporary. The factors used to determine whether an impairment is temporary or other-than-temporary involves considerable judgment. The factors we consider in determining whether any individual impairment is temporary or other-than-temporary are primarily the length of the time and the extent to which the market value has been less than amortized cost, the nature of underlying assets (including the degree of collateralization), the financial condition, credit rating, market liquidity conditions and near-term prospects of the issuer. If the fair value of a debt security is less than its amortized cost basis at the balance sheet date, an assessment would have to be made as to whether the impairment is other-than-temporary. If we decided to sell the security, an other-than-temporary impairment shall be considered to have occurred. However, if we do not intend to sell the debt security, we shall consider available evidence to assess whether it is more likely than not we will be required to sell the security before the recovery of its amortized cost basis due to cash, working capital requirements, contractual or regulatory obligations indicate that the security will be required to be sold before a forecasted recovery occurs. If it is more likely than not that we are required to sell the security before recovery of its amortized cost basis, an other-than-temporary impairment is considered to have occurred. If we do not expect to recover the entire amortized cost basis of the security, we would not be able to assert that we will recover its amortized cost basis even if we do not intend to sell the security. Therefore, in those situations, an other-than-temporary impairment shall be considered to have occurred. We use present value cash flow models to determine whether the entire amortized cost basis of the security will be recovered. We will compare the present value of cash flows expected to be collected from the security with the amortized cost basis of the security. An other-than-temporary impairment is said to have occurred if the present value of cash flows expected to be collected is less
than the amortized cost basis of the security. In the fiscal year ended March 31, 2012, we did not record any other-than-temporary impairment charges. As of March 31, 2012, we did not record an impairment charge in connection with other securities in a continuous loss position (fair value less than carrying value) with unrealized losses of $1.7 million as we believe that such unrealized losses are temporary. In addition, we also had $7.5 million in unrealized gains. For the fiscal years ended March 31, 2011 and 2010, we recorded other-than-temporary impairment charges of zero and $4.1 million, respectively.
We periodically evaluate the progress of the development work that is performed by our VIE, Veloce, in connection with our contractual arrangement with Veloce. Based on such an evaluation as well as considering various other qualitative factors, we assess the estimated timing and probability of attaining certain performance milestones. Upon assessing a milestone as probable of achievement, the expense that is recognized considers the stage of product development and estimating the performance metrics that will be achieved. The consideration that we will pay for each performance milestone is based upon the timing and the performance metrics that will ultimately be achieved. Significant judgment is required to assess estimated timing and the probability of achieving the performance milestones and determining the amount of expense to be recognized.
Based on our assessment as of March 31, 2012, we concluded that one of the milestones was probable of being attained and accordingly we recognized $60.4 million of research and development expense. Our probability determination included both an evaluation of the current stage of product development and the remaining risks associated with attaining completion of the milestone. The amount of expense recognized included consideration of our revised contractual arrangement with Veloce which was executed on April 5, 2012 and for which we have committed to pay $60.4 million upon the occurrence of certain events which are expected to occur during the first quarter of fiscal 2013.
The additional performance milestones included in our contractual arrangement that was in effect as of March 31, 2012 are not considered probable of being achieved. No expense was recognized in connection with these milestones during any of the periods presented.
Our policy is to value inventories at the lower of cost or market on a part-by-part basis. This policy requires us to make estimates regarding the market value of our inventories, including an assessment of excess or obsolete inventories. We determine excess and obsolete inventories based on an estimate of the future demand for our products within a specified time horizon, generally 12 months. The estimates we use for future demand are also used for near-term capacity planning and inventory purchasing and are consistent with our revenue forecasts. If our demand forecast is greater than our actual demand we may be required to take additional excess inventory charges, which would decrease gross margin and net operating results. Any impairment charges taken establishes a new cost basis for the underlying inventory and the cost basis for such inventory is not marked-up on changes in circumstances until a gain is realized upon its eventual sale. This accounting is consistent with the guidance provided by SAB Topic 5-BB. To illustrate the sensitivity of inventory valuations to future estimates, as of March 31, 2012, reducing our future demand estimate to six months would decrease our current inventory valuation by approximately $2.4 million or increasing our future demand forecast to 18 months would not have any significant effect on our current inventory valuation.
Purchased Definite-Lived Intangible Assets and Other Long-Lived Assets
We evaluate our long-lived assets such as property, plant and equipment and purchased intangible assets with finite lives, for impairment whenever events or changes in circumstances indicate the carrying value of an asset or asset group may not be recoverable. The carrying value of an asset or asset group is not recoverable if the
amount of undiscounted future cash flows the assets are expected to generate (including any net proceeds expected from the disposal of the asset) are less than its carrying value. When we identify an impairment has occurred, we reduce the carrying value of the assets to its comparable market value (if available and appropriate) or to its estimated fair value based on a discounted cash flow approach.
We recognize revenue based on four basic criteria: 1) there is evidence that an arrangement exists; 2) delivery has occurred; 3) the fee is fixed or determinable; and 4) collectability is reasonably assured. We recognize revenue upon determination that all criteria for revenue recognition have been met. In addition, we do not recognize revenue until the applicable customers acceptance criteria have been met. The criteria are usually met at the time of product shipment. Our standard terms and conditions of sale do not allow for product returns and we generally do not allow product returns other than under warranty or stock rotation agreements. Revenue from shipments to distributors is recognized upon shipment. In addition, we record reductions to revenue for estimated allowances such as returns not pursuant to contractual rights, competitive pricing programs and rebates. These estimates are based on our experience with stock rotations and the contractual terms of the competitive pricing and rebate programs. Royalty revenues are recognized when cash is received, only when royalty amounts cannot be reasonably estimated. Royalty revenues are based upon sales of our customers products that include our technology.
Shipping terms are generally FCA (Free Carrier) shipping point. If actual returns or pricing adjustments exceed our estimates, we would record additional reductions to revenue.
From time to time we generate revenue from the sale of our internally developed IP. We generally recognize revenue from the sale of IP when all basic criteria outlined above are met, which is generally when the payments are received.
We incur significant costs for the fabrication of masks used by our contract manufacturers to manufacture our products. If we determine, at the time the cost for the fabrication of masks are incurred, that technological feasibility of the product has been achieved, we consider the nature of these costs to be pre-production costs. Accordingly, such costs are capitalized as property and equipment under machinery and equipment and are amortized as cost of sales over approximately three years, representing the estimated production period of the product. If we determine, at the time fabrication mask costs are incurred, that either technological feasibility of the product has not occurred or that the mask is not reasonably expected to be used in production manufacturing or that the commercial feasibility of the product is uncertain, the related mask costs are expensed to R&D in the period in which the costs are incurred. We will also periodically assess capitalized mask costs for impairment. During the fiscal years ended March 31, 2012 and 2011, total mask costs capitalized was $4.8 million and $4.7 million, respectively.
Stock-Based Compensation Expense
All share-based payments, including grants of stock options, restricted stock units and employee stock purchase rights, are required to be recognized in our financial statements based on their respective grant date fair values. The fair value of each employee stock option and employee stock purchase right is estimated on the date of grant using an option pricing model that meets certain requirements. We currently use the Black-Scholes option pricing model to estimate the fair value of our share-based payments, excluding RSUs, which we use the fair market value of our common stock. The fair values generated by the Black-Scholes model may not be indicative of the actual fair values of our stock-based awards as it does not consider certain factors important to stock-based awards, such as continued employment, periodic vesting requirements and limited transferability. The determination of the fair value of share-based payment awards utilizing the Black-Scholes model is affected
by our stock price and a number of assumptions, including expected volatility, expected life, risk-free interest rate and expected dividends. We estimate the expected volatility of our stock options at grant date by equally weighting the historical volatility and the implied volatility of our stock over specific periods of time as the expected volatility assumption required in the Black-Scholes model. The expected life of the stock options is based on historical and other data including life of the option and vesting period. The risk-free interest rate assumption is the implied yield currently available on zero-coupon government issues with a remaining term equal to the expected term. The dividend yield assumption is based on our history and expectation of dividend payouts. The fair value of our restricted stock units is based on the fair market value of our common stock on the date of grant. Forfeitures are required to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ significantly from those estimated. We evaluate the assumptions used to value stock-based awards on a quarterly basis. If factors change and we employ different assumptions, stock-based compensation expense may differ significantly from what we have recorded in the past. If there are any modifications or cancellations of the underlying unvested securities, we may be required to accelerate, increase or cancel any remaining unearned stock-based compensation expense. We currently estimate when and if performance-based grants will be earned. If the awards are not considered probable of achievement, no amount of stock-based compensation is recognized. If we consider the award to be probable, expense is recorded over the estimated service period. To the extent that our assumptions are incorrect, the amount of stock-based compensation recorded will be increased or decreased. To the extent that we grant additional equity securities to employees or we assume unvested securities in connection with any acquisitions, our stock-based compensation expense will be increased by the additional unearned compensation resulting from those additional grants or acquisitions.
RESULTS OF OPERATIONS
Comparison of the Fiscal Year Ended March 31, 2012 to the Fiscal Year Ended March 31, 2011
Net Revenues. Net revenues for the fiscal year ended March 31, 2012 were $230.9 million, representing a decrease of 6.8% from the net revenues of $247.7 million for the fiscal year ended March 31, 2011. We classify our revenues into two categories based on the markets that the underlying products serve. The categories are Computing and Connectivity (previously called Process and Transport). We use this information to analyze our performance and success in these markets. See the following tables (dollars in thousands):
During the fiscal year ended March 31, 2012, our Computing revenues declined by 2.7% while our Connectivity revenues declined by 10.9%. The overall revenue decline was spread across both the Computing and Connectivity product families and was as a result of lower demand for our products due to overall softness in the macro conditions. In addition, the revenues for our Connectivity products were lower due to the delay in the overall OTN infrastructure build-out and the impact of the end of licensing revenues related to the sale of IP to Qualcomm.
Gross Profit. The following table presents net revenues, cost of revenues and gross profit for the fiscal years ended March 31, 2012 and 2011 (dollars in thousands):
The gross profit percentage for the fiscal year ended March 31, 2012 decreased to 57.2%, compared to 61.5% for the fiscal year ended March 31, 2011. The decrease in our gross profit percentage, excluding the impact of amortization of purchased intangibles, was 58.8% and 66.3% for the fiscal years ended March 31, 2012 and 2011, respectively. The decrease in our gross profit percentage was primarily due to an overall decline in both Computing and Connectivity product margins arising out of lower licensing revenues, unfavorable product mix and declining average selling prices.
The amortization of purchased intangible assets included in cost of revenues during the fiscal year ended March 31, 2012 was $3.6 million, compared to $11.9 million for the fiscal year ended March 31, 2011. The decrease was primarily due to certain purchased intangible assets being fully amortized during the fiscal year ended March 31, 2011 resulting in a lower amortization charge in the current fiscal year ended March 31, 2012. Future acquisitions of businesses may result in substantial additional charges, which may impact the gross profit percentage in future periods.
Research and Development and Selling, General and Administrative Expenses. The following table presents research and development and selling, general and administrative (SG&A) expenses for the fiscal years ended March 31, 2012 and 2011 (dollars in thousands):
Research and Development. Increases in research and development (R&D) expenses are primarily driven by the effect of the merger and consolidation of Veloce, our VIE, our internal costs related to the ARM 64-bit silicon server development effort, and the costs relating to TPack, an entity we acquired in September 2010, offset by a decrease in other R&D expenses. Total consolidated R&D expenses consist primarily of salaries and related costs (including stock-based compensation) of employees engaged in research, design and development activities, costs related to engineering design tools, subcontracting costs and facilities expenses.
We recorded an initial consideration of $60.4 million as of March 31, 2012 relating to the Veloce merger as the consummation of this merger was considered probable as of this date. For accounting purposes, the initial consideration of $60.4 million is considered a compensatory R&D expenditure (as the merger consideration is primarily to acquire the R&D employees of Veloce) which will be paid out in cash or equity, or a combination thereof, at the discretion of the Company. Assuming that the acquisition of Veloce occurs in June 2012, approximately $25 million to $30 million of the $60.4 million will be payable upon the closing of the acquisition, and the remaining portion of the $60.4 million will be payable upon the completion of certain post-closing development milestones and the continued vesting of time-based Veloce common stock and other equity awards. Additional purchase consideration will be recorded and amortized in future periods, if and when the additional development milestones are achieved. Refer to note 4 for further details relating to Veloce.
The increase in R&D expenses of 61.5% for the fiscal year ended March 31, 2012 compared to the fiscal year ended March 31, 2011, was primarily due to $60.4 million for the Veloce accrued liability and increases of $3.3 million in personnel cost, $1.5 million in stock-based compensation charges, $1.8 million in consumable equipment and software cost, $0.6 million in technology access fees, $1.2 million in corporate allocation expense offset by a decrease of $1.3 million in third party foundry cost, $0.4 million decrease in development cost related to new products and $0.3 million in printed circuit board costs. We believe that a continued commitment to R&D is vital to our goal of maintaining a leadership position with innovative products. In addition to our internal R&D programs, our business strategy includes acquiring products, technologies or businesses from third parties. Future acquisitions of products, technologies or businesses may result in substantial additional on-going R&D costs.
Selling, General and Administrative. Selling, general and administrative (SG&A) expenses consist primarily of personnel related expenses (including stock-based compensation), professional and legal fees, corporate branding and facilities expenses. The decrease in SG&A expenses of 6.9% for the fiscal year ended March 31, 2012 compared to the fiscal year ended March 31, 2011, was primarily due to a $2.5 million reversal of certain acquisition related contingencies and reductions relating to $0.9 million of acquisition related expenses, $0.8 million in contractor costs, $0.4 million in travel and entertainment, $0.3 million in marketing costs offset by an increase of $0.8 million corporate allocation expense, $0.4 million in stock compensation expense and $0.4 million in professional service fees. Future acquisitions of products, technologies or businesses may result in substantial additional on-going SG&A costs.
Stock-Based Compensation. The following table presents stock-based compensation expense for the fiscal years ended March 31, 2012 and 2011, which was included in the tables above (dollars in thousands):
The increase in stock-based compensation of 10.1% during the fiscal year ended March 31, 2012 compared to the fiscal year ended March 31, 2011 was primarily due to the vesting of performance based awards, additional equity awards from increased headcount and higher ESPP employee participation during the year. Vesting of the EBITDA and EBITDA2 Grants is subject to (i) the Companys performance as measured by earnings before interest, taxes, depreciation and amortization (EBITDA), and (ii) individual performance as measured by the accomplishment of goals and objectives. Vesting of our Performance Retention Grants are subject to (i) the accomplishment of goals and objectives of the individuals business unit and (ii) individual performance as measured by the accomplishment of individual goals and objectives. The weighted-average period over which the unearned stock-based compensation is expected to be recognized is 18 months. If there are any modifications or cancellations of the underlying unvested securities, we may be required to accelerate, increase or cancel any remaining unearned stock-based compensation expense. Future stock-based compensation expense will increase to the extent that we grant additional equity awards. The value of these grants cannot be predicted at this time because it will depend on the number of share-based payments granted and the then current fair values.
The amount of unearned stock-based compensation currently estimated to be expensed from now through fiscal 2016 related to unvested share-based payment awards at March 31, 2012 is $29.8 million, which includes stock-based compensation from Veloce, our VIE. This expense relates to equity instruments already issued and will not be affected by our future stock price.
Restructuring Charges, net. The restructuring charges recorded during the fiscal year ended March 31, 2012 was primarily for employee severances. During the year ended March 31, 2012, we implemented a restructuring plan as part of our ongoing cost reduction efforts and to better align our global operations to achieve greater efficiencies. We moved more of our functions offshore, which allow us to be closer and more connected to our and our customers third party subcontract manufacturers. The April 2011 restructuring plan included eliminating or relocating 25 positions. As a result of the April 2011 restructuring program, we recorded a charge of $0.9 million for employee severances. We anticipate this restructuring plan will reduce our ongoing net operating expenses by $1.5 million to $2.0 million annually. As part of our ongoing cost reduction efforts, we could implement additional restructuring programs and may incur significant additional restructuring charges. For additional information on our restructuring activities, see Note 7 of the Notes to the Consolidated Financial Statements. We have completed all the restructuring activities as described above.
Interest and Other Income, net. The following table presents interest income (expense) and other income, net for the fiscal years ended March 31, 2012 and 2011 (dollars in thousands):
Interest Income, net. Interest income, net of management fees, reflects interest earned on cash and cash equivalents, short-term investments and marketable securities. The decrease in interest income, net for the year ended March 31, 2012, compared to fiscal year ended March 31, 2011 was primarily due to our lower cash, cash equivalents and short-term investments available-for-sale balances.
Other Income, net. The increase in other income for the fiscal year ended March 31, 2012, compared to the fiscal year ended March 31, 2011 was primarily due to a $8.1 million gain relating to the disposal of a strategic investment and which was partially offset by a $1.0 million impairment for another strategic investment.
Income Taxes. The federal statutory income tax rate was 35% for the fiscal year ended March 31, 2012 and 2011. Income tax expense recorded for the fiscal year ended March 31, 2012 was $0.9 million compared to $0.4 million for the year ended March 31, 2011. The increase in tax expense in fiscal 2012 versus fiscal 2011 is primarily related to an increase in foreign taxes due to expiration of various tax holidays.
Comparison of the Fiscal Year Ended March 31, 2011 to the Fiscal Year Ended March 31, 2010
Net Revenues. Net revenues for the fiscal year ended March 31, 2011 were $247.7 million, representing an increase of 20.5% from the net revenues of $205.6 million for the fiscal year ended March 31, 2010. We classify our revenues into two categories based on the markets that the underlying products serve. The categories are Computing and Connectivity (formerly referred to as Process and Transport, respectively). We use this information to analyze our performance and success in these markets. See the following tables (dollars in thousands):
During the fiscal year ended March 31, 2011, revenues recovered strongly as the overall market for semiconductor products continued to show improved growth trends. The year over year increase represents the recovery from the recessionary economic conditions and overall softness in demand that was observed during the prior years and the current pace of infrastructure build out. Though revenues increased year over year, revenues decreased in the fourth fiscal quarter compared to the preceding three month period primarily due to inventory corrections in the industry. We expect that additional channel inventories will be consumed over the next several quarters. We expect revenues for the three months ending June 30, 2011 to be approximately $60.5 million, plus or minus $2.0 million. This represents an increase of approximately 3%, compared to the revenues for the three months ended March 31, 2011. Our future revenues could be impacted by various factors, including the duration and the severity of inventory corrections and other factors.
Gross Profit. The following table presents net revenues, cost of revenues and gross profit for the fiscal years ended March 31, 2011 and 2010 (dollars in thousands):
The gross profit percentage for the fiscal year ended March 31, 2011 increased to 61.5%, compared to 54.8% for the fiscal year ended March 31, 2010. The increase in our gross profit percentage was primarily due to favorable product mix, higher licensing revenues, improved manufacturing yields and efficiencies and the overall impact of increased revenues.
The amortization of purchased intangible assets included in cost of revenues during the fiscal year ended March 31, 2011 was $11.9 million, compared to $12.1 million for the fiscal year ended March 31, 2010. The acquisition of TPack has increased our expected amortization of purchased intangible assets included in cost of revenues by approximately $0.6 million per quarter. The increased expected amortization does not include $1.0 million of in-process R&D. Future acquisitions of businesses may result in substantial additional charges, which may impact the gross profit percentage in future periods.
Research and Development and Selling, General and Administrative Expenses. The following table presents research and development and selling, general and administrative (SG&A) expenses for the fiscal years ended March 31, 2011 and 2010 (dollars in thousands):
Research and Development. R&D expenses consist primarily of salaries and related costs (including stock-based compensation) of employees engaged in research, design and development activities, costs related to engineering design tools, subcontracting costs and facilities expenses. The increase in R&D expenses of 23.4% for the fiscal year ended March 31, 2011 compared to the fiscal year ended March 31, 2010, was primarily due to an increase of $11.3 million in personnel cost, $2.7 million in stock-based compensation charges, $2.5 million in third party foundry cost, $2.0 million in printed circuit board costs, $1.5 million in contractor costs, $1.2 million in corporate allocation expense, $0.7 million in other miscellaneous expenses, $0.5 million in consumable equipment and software cost, $0.4 million in technology access fees offset by a decrease of $1.5 million in
customer funded non-recurring engineering payments and $0.7 million decrease in development cost of a new processor core. The overall increase in R&D expense is primarily driven by the effect of the consolidation of Veloce, our VIE, and the cost relating to TPack, an entity that we acquired in September 2010. We believe that a continued commitment to R&D is vital to our goal of maintaining a leadership position with innovative products. In addition to our internal R&D programs, our business strategy includes acquiring products, technologies or businesses from third parties. Future acquisitions of products, technologies or businesses may result in substantial additional on-going R&D costs.
Selling, General and Administrative. SG&A expenses consist primarily of personnel-related expenses, professional and legal fees, corporate branding and facilities expenses. The increase in SG&A expenses of 7.1% for the fiscal year ended March 31, 2011 compared to the fiscal year ended March 31, 2010, was primarily due to an increase of $2.0 million in contractor costs, $1.0 million in personnel cost, $0.9 million in TPack acquisition costs, $0.8 million in indirect materials and services, $0.5 million in travel expenses offset by a decrease of $1.1 million in professional service fees and $0.9 million in taxes and licensing fees. Future acquisitions of products, technologies or businesses may result in substantial additional on-going SG&A costs.
Stock-Based Compensation. The following table presents stock-based compensation expense for the fiscal years ended March 31, 2011 and 2010, which was included in the tables above (dollars in thousands):
The amount of unearned stock-based compensation currently estimated to be expensed from now through fiscal 2015 related to unvested share-based payment awards at March 31, 2011 is $26.7 million, which includes stock-based compensation from Veloce, our VIE. This expense relates to equity instruments already issued and will not be affected by our future stock price. Vesting of the EBITDA Grants is subject to (i) the Companys performance as measured by earnings before interest, taxes, depreciation and amortization (EBITDA), and (ii) individual performance as measured by the accomplishment of goals and objectives. The weighted-average period over which the unearned stock-based compensation is expected to be recognized is approximately 2.1 years. If there are any modifications or cancellations of the underlying unvested securities, we may be required to accelerate, increase or cancel any remaining unearned stock-based compensation expense. Future stock-based compensation expense will increase to the extent that we grant additional equity awards. The value of these grants cannot be predicted at this time because it will depend on the number of share-based payments granted and the then current fair values.
Restructuring Charges, net. The restructuring charges recorded during the fiscal year ended March 31, 2011 was primarily for employee severances.
Interest and Other Income, net. The following table presents interest income (expense) and other income, net for the fiscal years ended March 31, 2011 and 2010 (dollars in thousands):
Interest Income (Expense) and Other-Than-Temporary Impairment, net. Interest income and other-than-temporary impairment, net of management fees and other-than-temporary impairment, reflects interest earned on cash and cash equivalents, short-term investments and marketable securities. The increase in interest income and other-than-temporary impairment, net for the fiscal year ended March 31, 2011, compared to the fiscal year ended March 31, 2010 was primarily due to gains that were realized from the sale of securities in our investment portfolio in the current fiscal year and an other-than-temporary impairment charge of $4.1 million in the prior fiscal year.
Other Income, net. The increase in other income for the fiscal year ended March 31, 2011, compared to the fiscal year ended March 31, 2010 was primarily due to $2.0 million impairment for a strategic investment in the prior fiscal year.
Income Taxes. The federal statutory income tax rate was 35% for the fiscal year ended March 31, 2011 and 2010. The benefit recorded during the fiscal year ended March 31, 2010, related primarily to the gains from discontinued operations, other comprehensive income and an increase in refundable tax credits. For the fiscal year ended March 31, 2011, the Company had no gains or losses relating to discontinued operations. Tax expense during the fiscal year ended March 31, 2011 primarily consisted of state and foreign taxes.
Discontinued Operations. We completed the sale of our 3ware storage adapter business (Storage Business) to LSI Corporation on April 21, 2009. Under the Purchase Agreement, we substantially sold all of the operating assets (other than patents) of our Storage Business. The assets sold included customer contracts, inventory, fixed assets, certain intellectual property and other assets, as well as rights to the name 3ware. The purchase price for the Transaction was approximately $20.0 million, subject to adjustments based on the level of inventory and products in the channel at the closing of the Transaction. After adjustments for the level of inventory of $0.7 million and products in the channel of $0.8 million, the final adjusted price of the Transaction was approximately $21.5 million. During the fiscal year ended March 31, 2010, we reached an agreement with LSI Corporation to end the warranty support portion of the Purchase Agreement. We recorded a net gain of $11.4 million from the sale during the fiscal year ended March 31, 2010. During the fiscal year ended March 31, 2010, we recognized a tax charge of approximately $4.2 million to discontinued operations in connection with the sale of our 3ware storage adapter business and concurrently recorded the same amount as an income tax benefit to continuing operations.
FINANCIAL CONDITION AND LIQUIDITY
As of March 31, 2012, our principal source of liquidity consisted of $113.8 million in cash, cash equivalents and short-term investments, which is approximately $1.84 per share of outstanding common stock as compared to $2.64 per share at March 31, 2011. Working capital as of March 31, 2012 was $118.6 million. Total cash, cash equivalents, and short-term investments decreased by $54.2 million during the year ended March 31, 2012, primarily due to the repurchases of our common stock for $30.8 million, purchase of property and equipment of $13.3 million, cash used for operations of $9.3 million, purchases of strategic investments of $4.8 million and the funding of restricted stock units withheld for taxes of $2.9 million offset by proceeds from stock issuance of $6.7 million. At March 31, 2012, we had contractual obligations not included on our balance sheet totaling $93.3 million, primarily related to facility leases, IP licenses, engineering design software tool licenses, non-cancelable inventory purchase commitments and liability for uncertain tax positions.
For the fiscal year ended March 31, 2012, we used $9.3 million of cash in our operations compared to generating $31.0 million for the fiscal year ended March 31, 2011. Our net loss of $82.7 million for fiscal the year ended March 31, 2012 included $84.3 million of non-cash charges consisting of $60.4 million of Veloce purchase price consideration expense, $8.4 million of depreciation, $6.8 million of amortization of purchased intangibles and $18.4 million of stock-based compensation, offset by a $2.5 million reduction to the estimated
fair value of acquisition related adjustment (relating to our Tpack acquisition in fiscal 2011) and a net $7.1 million gain on strategic equity investments. The remaining change in operating cash flows for the fiscal year ended March 31, 2012 primarily reflected increases in accounts receivable and other assets, and decreases in inventories, accounts payable, accrued payroll and other accrued liabilities and deferred revenue. Our net loss of $1.0 million for the fiscal year ended March 31, 2011 included $39.9 million of non-cash charges consisting of $7.2 million of depreciation, $17.2 million of amortization of purchased intangibles, $16.7 million of stock-based compensation and a credit of $1.2 million related to the capitalization of prior years mask set costs. The remaining change in operating cash flows for the fiscal year ended March 31, 2011 primarily reflected decreases in accounts receivable and other assets and increases in inventories, accounts payable, accrued payroll and other accrued liabilities, and deferred revenue. Our overall quarterly days sales outstanding were 42 days and 31 days for the fourth fiscal quarter ended March 31, 2012 and March 31, 2011, respectively. Increase in the revenues generated during the last month of the quarter ended March 31, 2012 compared to the same period for the quarter ended March 31, 2011 was the primary reason for the increase in our days sales outstanding.
We used $19.8 million in cash from our investing activities during the fiscal year ended March 31, 2012, compared to using $39.3 million during the fiscal year ended March 31, 2011. During the fiscal year ended March 31, 2012, we used $1.8 million for net short-term investment activities, $13.3 million for the purchase of property and equipment and $4.8 million for purchases of strategic investments.
We used net cash of $27.2 million for our financing activities during the fiscal year ended March 31, 2012, compared to $29.8 million during the fiscal year ended March 31, 2011. The major financing use of cash for the fiscal year ended March 31, 2012 was the funding of our structured stock repurchase agreements for $10.0 million, $20.9 million for the open market repurchases of common stock, restricted stock units withheld for taxes of $2.9 million offset by proceeds of $6.7 million from the issuances of our common stock.
The Company proposes to acquire Veloce in accordance with the terms and conditions of the Agreement and Plan of Merger, entered into as of May 17, 2009, as amended by Amendment No. 1 to Agreement and Plan of Merger dated as of November 8, 2010 and Amendment No. 2 to Agreement and Plan of Merger dated as of April 5, 2012 (the Merger Agreement). Pursuant to the Merger Agreement, achievement of a specified FPGA product development milestone by Veloce will trigger the merger, subject to the satisfaction or waiver of certain closing conditions (the Merger).
In and as a result of the Merger a portion of the total consideration in the Merger, consisting of the following aggregate amounts, will become payable, at the Companys election, in cash, shares of the Companys common stock, or a combination of the two:
The Company anticipates that approximately $25 million to $30 million of the $60.4 million will be paid out at Closing. The payment we will make at Closing could consist of both cash and shares of the Companys stock. The number of shares of the Companys stock we issue could vary but we currently expect to keep dilution of our common stock to less than ten percent.
Although we currently believe we have adequate liquidity to operate normally, our cash balances could decrement significantly if we decide to pay for the Veloce acquisition using a greater proportion of cash or if our normal operations require us to expend more cash. If our cash balances decline significantly, we may be faced with liquidity issues and may be forced to raise capital from other sources, which may or may not be possible to do so on reasonable terms.
Stock Repurchase Program
In August 2004, our Board of Directors authorized a stock repurchase program for the repurchase of up to $200.0 million of our common stock. Under the program, we are authorized to make purchases in the open market or enter into structured agreements. In October 2008, our Board of Directors increased the stock repurchase program by $100.0 million. During the fiscal year ended March 31, 2012, 3.5 million shares were repurchased on the open market at a weighted average price of $5.98 per share. During the fiscal year ended March 31, 2011, 3.7 million shares were repurchased on the open market at a weighted average price of $10.70 per share. All repurchased shares were retired upon delivery to us. As of March 31, 2012, we had $16.5 million available in our stock repurchase program.
In February 2011, we entered into a Rule 10b5-1 plan to repurchase up to 3.0 million shares of its common stock at various price parameters. We cancelled this Rule 10b5-1 plan in May 2011. Included in the open market repurchases during the three months ended June 30, 2011 is 0.3 million shares that were repurchased under this Rule 10b5-1 plan at a weighted average price of $9.98 per share. At the time this Rule 10b5-1 plan was cancelled, we repurchased 1.0 million shares at a weighted average price of $10.00 per share under this Rule 10b5-1 plan.
We also utilize structured stock repurchase agreements to buy back shares which are prepaid written put options on our common stock. We pay a fixed sum of cash upon execution of each agreement in exchange for the right to receive either a pre-determined amount of cash or stock depending on the closing market price of our common stock on the expiration date of the agreement. Upon expiration of each agreement, if the closing market price of our common stock is above the pre-determined price, we will have our cash investment returned with a premium. If the closing market price is at or below the pre-determined price, we will receive the number of shares specified at the agreement inception. Any cash received, including the premium, is treated as additional paid in capital on the balance sheet.
During the fiscal year ended March 31, 2012 and 2011, we entered into structured stock repurchase agreements totaling $10.0 million during each period. For those agreements that settled during the fiscal year ended March 31, 2012, we received 1.0 million in shares of our common stock at an effective purchase price of $9.74 per share. For those agreements that settled during fiscal year ended March 31, 2011, we received $15.5 million in cash and 0.5 million in shares of our common stock at an effective purchase price of $10.01 per share. At March 31, 2012, we had no outstanding structured stock repurchase agreements.
On September 17, 2010, we acquired TPack A/S, a Corporation organized under the laws of Denmark, in accordance with the terms and conditions of the stock purchase agreement dated August 17, 2010. The total consideration paid at the closing of the transaction was approximately $32 million. The former TPack shareholders may also earn up to approximately $5 million in additional consideration, subject to the achievement of certain revenue and performance milestones by TPack within 18 months after the acquisition. As of March 31, 2012, we have accrued a contingent consideration liability of approximately $0.6 million. Approximately $5 million was placed in escrow to secure the indemnification obligations of TPack which is included in the purchase price allocation and which was released in April 2012. See Note 12 of the Notes to the Consolidated Financial Statements for further discussion
Our aggregate fixed commitments payable over the next five years for licensing fees relating to our R&D efforts, including our licensed IP, technology, product design, test and verification tools, are approximately $23.9 million. These amounts are also included in the table below.
The following table summarizes our contractual operating leases and other purchase commitments as of March 31, 2012 (in thousands):
Off-Balance Sheet Arrangements
We did not have any off-balance sheet arrangements as at March 31, 2012.
We believe that our available cash, cash equivalents and short-term investments will be sufficient to meet our capital requirements and fund our operations for at least the next 12 months, although we could elect or could be required to raise additional capital during such period. There can be no assurance that such additional debt or equity financing will be available on commercially reasonable terms or at all. Although we currently believe we have adequate liquidity to operate normally, our cash balances could decrement significantly if we decide to pay for the Veloce acquisition using a greater proportion of cash or our normal operations requires us to expend more cash. If our cash balances decline significantly, we may be faced with liquidity issues and may be forced to raise capital from other sources, which may or may not be possible to do so on reasonable terms.
Market risk is the potential loss arising from adverse changes in market rates and prices, such as foreign currency exchange rates, interest rates and a decline in the stock market. We are exposed to market risks related to changes in interest rates and foreign currency exchange rates.
We maintain an investment portfolio of various holdings, types of instruments and maturities. These securities are classified as available-for-sale and, consequently, are recorded on our consolidated balance sheets at fair value with unrealized gains or losses reported as a separate component of accumulated other comprehensive income or loss. We have established guidelines relative to diversification and maturities that attempt to maintain safety and liquidity. These guidelines are periodically reviewed and modified to take advantage of interest rate trends. We invest our excess cash in debt instruments of the U.S. Treasury, corporate bonds, commercial paper, mortgage-backed and asset backed securities, and closed-end bond funds, with credit ratings as specified in our investment policy. We also have invested in preferred stocks, which pay quarterly fixed rate dividends. We generally do not utilize derivatives to hedge against increases in interest rates which decrease market values.
We are exposed to market risk as it relates to changes in the market value of our investments. At March 31, 2012, our investment portfolio included short-term securities classified as available-for-sale investments with an aggregate fair market value of $85.8 million and a cost basis of $80.0 million. Substantially all of these securities are subject to interest rate risk, as well as credit risk and liquidity risk, and will decline in value if interest rates increase or an issuers credit rating or financial condition is weakened.
The following table presents the hypothetical changes in fair value of our short-term investments held at March 31, 2012 (in thousands):
The modeling technique used measures the change in fair market value arising from selected potential changes in interest rates. Market changes reflect immediate hypothetical parallel shifts in the yield curve of plus or minus 50 basis points, 100 basis points, and 150 basis points. While this modeling technique provides a measure of our exposure to market risk, the current economic turbulence could cause interest rates to shift by more than 150 basis points.
We also invest in equity instruments of private companies for business and strategic purposes. These investments are valued based on our historical cost, less any recognized impairments. The estimated fair values are not necessarily representative of the amounts that we could realize in a current transaction.
We generally conduct business, including sales to foreign customers, in U.S. dollars, and as a result, we have limited foreign currency exchange rate risk. We did not enter into any forward currency exchange contract during the fiscal year ended March 31, 2012. Gains and losses on foreign currency forward contracts that are designated and effective as hedges of anticipated transactions, for which a firm commitment has been attained, are deferred and included in the basis of the transaction in the same period that the underlying transaction is settled. Gains and losses on any instruments not meeting the above criteria are recognized in income or expenses in the consolidated statements of operations in the current period.
Refer to the Index to Financial Statements on Page F-l.
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures
We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in the reports we file or submit with the SEC pursuant to the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SECs rules and forms and that such information is accumulated and communicated to our management, including our Chief Executive Officer (CEO) and Chief Financial Officer (CFO), as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. In addition, the design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, a control may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
As required by Exchange Act Rule 13a-15(b), we conducted an evaluation, under the supervision and with the participation of our management, including our CEO and CFO, of the effectiveness of the design and operation of our disclosure controls and procedures as of March 31, 2012. Based on the foregoing, our CEO and CFO concluded that our disclosure controls and procedures were effective at the reasonable assurance level.
Managements Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Under the supervision and with the participation of our management, including our CEO and CFO, we conducted an evaluation of the effectiveness of our internal control over financial reporting using the criteria in Internal Control Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on our evaluation using the criteria in Internal Control Integrated Framework, our management concluded that our internal control over financial reporting was effective as of March 31, 2012.
The effectiveness of our internal control over financial reporting as of March 31, 2012 has been audited by KPMG LLP, an independent registered public accounting firm, as stated in its report, which is included herein.
Changes in Internal Control Over Financial Reporting
There was no change in our internal control over financial reporting that occurred during the most recent quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
(a) Executive Officers See the section entitled Executive Officers of the Registrant in Part I, Item 1, Business, of this Annual Report.
(b) Directors The information required by this Part III, Item 10 is contained in the section entitled Election of Directors in our Definitive Proxy Statement to be filed with the SEC in connection with the Annual Meeting of Stockholders to be held on August 14, 2012, which will be filed with the SEC within 120 days of March 31, 2012 (the Proxy Statement) and is incorporated herein by reference.
Additional information required by this Part III, Item 10 is incorporated by reference to the section entitled Section 16(a) Beneficial Ownership Reporting Compliance in the Proxy Statement and is incorporated herein by reference.
We have adopted a code of business conduct and ethics that all executive officers and management employees must review and abide by (including our principal executive officer, principal financial officer, principal accounting officer and controller, or persons performing similar functions), which we refer to as our Code of Business Conduct and Ethics. The Code of Business Conduct and Ethics is available free of charge on our website at www.appliedmicro.com in the Investor Relations section under the heading Corporate Governance under the Governance Documents heading. We will promptly disclose on our website (1) the
nature of any amendment to the Code of Business Conduct and Ethics that applies to our principal executive officer, principal financial officer, principal accounting officer or controller, or persons performing similar functions, and (2) the nature of any waiver, including an implicit waiver, from a provision of the Code of Business Conduct and Ethics that is granted to one of these specified officers and the name of such person who is granted the waiver.
The information required by this Part III, Item 11 is incorporated herein by reference from the section entitled Executive Compensation in the Proxy Statement.
The information required by this Part III, Item 12 is incorporated herein by reference from the sections entitled Security Ownership of Management and Directors and Equity Compensation Plan Information in the Proxy Statement.
The information required by this Part III, Item 13 is incorporated by reference to the sections entitled Certain Transactions and Corporate Governance in the Proxy Statement.
The information required by this Part III, Item 14 is contained in the section entitled Audit and Other Fees, in the Proxy Statement and is incorporated herein by reference.
(a) The following documents are filed as part of this Annual Report:
(1) Financial Statements
The financial statements of the Company are included herein as required under Part II, Item 8, Financial Statements and Supplementary Data, of this Annual Report. See Index to Financial Statements on page F-l.
(2) Financial Statement Schedule
For the three fiscal years ended March 31, 2012 Schedule II Valuation and Qualifying Accounts
Schedules not listed above have been omitted because information required to be set forth therein is not applicable or is shown in the financial statements or notes thereto.
(3) Exhibits (numbered in accordance with Item 601 of Regulation S-K)
See Part IV, Item 15(b) below.
(b) The following exhibits are filed or incorporated by reference into this Annual Report:
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Date: May 16, 2012
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Dr. Paramesh Gopi and Robert G. Gargus, jointly and severally, his attorneys-in-fact, each with the power of substitution, for him or her in any and all capacities, to sign any amendments to this Annual Report on Form 10-K, and to file the same, with exhibits thereto and other documents in connection therewith with the Securities and Exchange Commission, hereby ratifying and confirming all that each of said attorneys-in-fact, or his substitute or substitutes, may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
INDEX TO FINANCIAL STATEMENTS