Intersil 10-Q 2008
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
For the quarterly period ended October 3, 2008
For the transition period from to
Commission File Number: 000-29617
(Exact name of registrant as specified in its charter)
1001 Murphy Ranch Road
Milpitas, California 95035
(Address of principal executive offices, including zip code)
(Registrants telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark if the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company (as defined in Rule 12b-2 of the Act).
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
The number of shares outstanding of the issuers classes of common stock as of the close of business on October 31, 2008:
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
See notes to unaudited consolidated financial statements.
UNAUDITED CONSOLIDATED BALANCE SHEETS
See notes to unaudited consolidated financial statements.
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
See notes to unaudited consolidated financial statements.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Note 1 Basis of Presentation
Intersil Corporation is a global designer and manufacturer of high-performance analog integrated circuits for applications in the high-end consumer, industrial, communications and computing electronics markets.
In our opinion, these unaudited interim consolidated financial statements include all adjustments necessary to present fairly, in all material respects, the financial position, results of operations and cash flows for all periods presented. We prepared these unaudited financial statements in accordance with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X, using management estimates where necessary. We derived the December 28, 2007 consolidated balance sheet from our audited consolidated year-end financial statements. You should read this interim report in conjunction with our Annual Report on Form 10-K for the fiscal year ended December 28, 2007.
We utilize a 52/53 week fiscal year, ending on the nearest Friday to December 31. The current year includes an extra week in the second quarter and 53 weeks for the total fiscal year ending on January 2, 2009. Quarterly or annual periods vary from exact calendar quarters or years.
Past financial performance may not be indicative of future financial performance for any other interim period or for the full fiscal year. For example, sales in the high-end consumer and computing markets have historically experienced weaker demand in the first and second fiscal quarters and stronger demand in the third and fourth quarters.
Certain amounts presented in prior periods have been reclassified to conform to current year presentation.
Note 2 Comprehensive Income
Currency translation adjustments (CTA) result when we translate our foreign currency based financial statements into US dollars. A weakening US dollar will produce comprehensive income. Conversely, a strengthening US dollar will produce comprehensive loss.
Note 3Earnings Per Share
Note 4Stock-Based Compensation
We use equity-based compensation plans to enhance our ability to attract, retain and reward talented employees. Shares issued under these plans are made from newly-issued stock. The plans allow several forms of equity compensation including stock options, restricted and deferred stock awards and employee stock purchase plans.
Valuations, Assumptions and Terms
We use a lattice model to estimate the fair value of stock options, which is amortized as compensation cost over the life of the stock option. The lattice model uses historical exercise patterns to predict the life of stock options and estimates the future volatility of the underlying stock price, considering historical and implied volatility in its calculations.
We used the following assumptions in the lattice model for stock options awarded in the periods indicated.
Generally, our stock options vest ratably over four years and have seven year contract lives.
Market value at the date of grant is used as the fair value of stock awards. We amortize awards over the vesting term, which is generally three years for deferred stock units and four years for restricted stock units.
The compensation cost for shares issued under the employee stock purchase plan is the amount of the discount the employee obtains at the date of the purchase transaction. Our employee stock purchase plan does not have a look-back option provision.
Equity-Based Compensation Summary
Impact on Financial Statements
As of October 3, 2008, we had stock awards outstanding that include the usual service conditions as well as performance conditions relating to revenue and operating income relative to internal goals and performance by other companies in our industry. Under the terms of the agreements, participants may receive up to 150 - 200% of the original grant.
Investments designated as available for sale (AFS), which include marketable debt securities, are reported at fair value. We record the unrealized gains and losses, net of tax, in stockholders equity as a component of other comprehensive income. We determine the cost of securities sold based on the specific identification method. Realized gains or losses and impairment losses are recorded in loss (gain) on certain investments. AFS securities are generally presumed to be impaired if the fair value is significantly less than cost basis for two consecutive quarters.
Investments designated as held to maturity (HTM), which include marketable debt securities with maturities of greater than three months, are reported at amortized cost. Securities are classified as HTM when we have the positive intent and ability to hold the investment until maturity. Gains and losses are not reported in the financial statements until realized or until a decline in value is deemed to be other-than-temporary.
Investments are classified as short-term or long-term on the balance sheet based on whether they mature within one year (short-term) or more than one year (long-term).
We classify auction rate securities (ARS) as available for sale and record them at fair value. During the quarter ended March 28, 2008, certain of these securities experienced substantial declines in value for two consecutive quarters. For this reason, we recorded a $6.4 million impairment charge on these securities in that quarter, included in (loss) gain on certain investments. The amortized cost of these securities is reduced by the recognized loss of $6.4 million.
The following table summarizes our securities with unrealized losses and the length of time these securities have been in a loss position as of October 3, 2008 and December 28, 2007.
We have recorded a total unrealized loss of $14.4 million and a related deferred tax benefit of $3.6 million, for a net unrealized loss of $10.8 million in accumulated other comprehensive loss. We have concluded this decline is not other-than-temporary for the following reasons:
We reclassified our ARS securities to long-term from short-term in the quarter ended March 28, 2008 due to the sustained illiquidity of the securities.
We may be required to record additional impairment charges if additional declines in value are determined to be other-than-temporary. The fair value of these securities has been estimated based on prices provided by third parties along with estimates made by us, which could change significantly based on market conditions.
Trading investments consists exclusively of a portfolio of marketable mutual funds under two qualified deferred employee compensation plans. We have an offsetting liability recorded for the investments. The funds are recorded at fair value. We recognize changes in fair value currently in (loss) gain on certain investments and we record changes in the liability in selling, general and administrative expense. We classify these mutual fund assets as other non-current assets since we have no plan or intent of liquidating or otherwise using these securities in our business operations.
Note 6Fair Value Measurements
FASB Statement No. 157, Fair Value Measures (SFAS 157), as amended, establishes a framework for measuring fair value and enhances disclosures about fair value measures required under other accounting pronouncements. FSP FAS 157-2 delays the effective date for SFAS 157 to fiscal years beginning after November 15, 2008 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually.) We adopted SFAS 157, as amended, on December 29, 2007.
SFAS 157 defines the inputs used in measuring fair value and requires the use of the most observable inputs when available. Observable inputs are generally developed based on market data obtained from independent sources, whereas unobservable inputs reflect our assumptions about what market participants would use to value the asset or liability, based on the best information available in the circumstances. SFAS 157 defines three levels of inputs, as follows:
Level 1 Quoted prices in active markets which are unadjusted and accessible at the measurement date for identical, unrestricted assets or liabilities;
Level 2 Quoted prices in markets that are not active or for which all significant inputs are observable, either directly or indirectly;
Level 3 Prices or valuations that require inputs that are unobservable and significant to the overall fair value measurement.
We determine fair value on the following assets using these input levels.
If we use more than one level of input that significantly affects fair value, we include the fair value under the lowest input level used.
The following is a reconciliation of changes in the fair market values determined using level 3 significant unobservable inputs as of October 3, 2008.
Recognized losses are included in (loss) gain on certain investments in the statement of operations.
Note 7Property, Plant and Equipment
During the quarter ended March 30, 2007, we sold substantially all of the buildings classified as Held for Sale at that time. Net proceeds from the sale were $4.0 million, resulting in a gain of $0.2 million from the sale. The gain on the sale is included in selling, general and administrative expense for the three quarters ended September 28, 2007.
Inventories are summarized below:
Note 9Acquisitions and Intangible Assets
During the third quarter of 2008, we purchased D2Audio Corporation (D2Audio) and Kenet, Incorporated (Kenet). D2Audio was a privately-held fabless semiconductor company with leading technology in the design of digital audio power amplifiers. Kenet was a privately-held, fabless semiconductor company with leading technology in the design of high-speed, extremely low power data converters.
We paid $32.7 million in cash, net of cash and cash equivalents received for both companies. The D2Audio acquisition included approximately $1.4 million of definite-lived intangible assets and $0.1 million of in-process research and development expense. The definite-lived intangible assets will be amortized over five years.
The preliminary purchase price allocation of the Kenet acquisition includes $2.5 million of in-process research and development expense. The final allocation of the remaining Kenet purchase price is expected to result in recording tangible assets, definite lived intangible assets and goodwill.
The results of operations for both companies, which are immaterial, are included in our consolidated statement of earnings from the respective dates of acquisition.
The preliminary allocation of the aggregate purchase price is summarized as follows:
Other definite-lived intangible assets include backlog, customer relationships, and trademarks. These assets have amortization lives ranging from six months to two years with a weighted average of 3.8 years. Except for $2.5 million of estimated in process research and development recorded in the quarter ended October 3, 2008, the initial allocation of the purchase for the Kenet transaction has not been performed and will be completed in the fourth quarter of 2008.
We are responsible for the final valuation estimates. The value of purchased in-process research and development was determined using an income approach. Purchased research and development is written off at the time of acquisition and is shown as a separate line item in the accompanying consolidated statements of operations.
Both purchase agreements contain provisions for additional consideration to the former stockholders of the businesses if revenues during a defined period exceed a base amount. The maximum payout under all provisions is $27.5 million, based on excess revenue through July 2010. No amount for additional consideration was recorded at the time of the acquisition. The amount of the additional consideration, if any, will be recorded as an increase in goodwill.
Pro-forma financial information of the combined entities is not presented due to immateriality of the financial results of the acquired entities.
We amortize definite lived intangible assets over their estimated useful lives, which range from 3 months to 11 years. Indefinite lived intangible assets (goodwill) is summarized below (in millions).
The goodwill adjustment resulting from the purchase of Elantec and Xicor relates to tax benefits received on the exercise of stock options issued as part of the acquisitions. The goodwill adjustment resulting from the purchase of Planet ATE relates to a holdback provision paid in the quarter ended October 3, 2008. The $22.0 million related to the acquisition of Kenet, Inc. represents the unallocated portion of the purchase price and will be allocated in the fourth quarter of 2008.
During the quarter ended March 28, 2008, we initiated a restructuring plan to reorganize certain operations, consolidate internal manufacturing facilities and reduce workforce. During the three quarters ended October 3, 2008, we recorded expenses for severance costs, fixed assets and lease exit costs of approximately $5.5 million and we expect to incur an additional $5.0 million over the next four quarters. Other accrued liabilities relating to the restructuring are summarized below (in millions).
Note 11Shareholders Equity
DividendsIn July 2008, our Board of Directors declared a quarterly dividend of $0.12 per share of common stock. We paid dividends of $14.8 million on August 22, 2008 to shareholders of record as of the close of business on August 12, 2008. In October 2008, our Board of Directors declared a quarterly dividend of $0.12 per share of common stock. The dividend will be paid on November 21, 2008 to shareholders of record as of the close of business on November 11, 2008.
Class A Common StockShare activity for Class A common stock since December 28, 2007 (in thousands of shares):
Note 12Legal Matters and Indemnifications
Legal MattersWe are currently party to various claims and legal proceedings. In our opinion, no material loss is anticipated from such claims and proceedings.
IndemnificationsWe generally provide customers with a limited indemnification against intellectual property infringement claims related to our products. We accrue for known indemnification issues and estimate unidentified issues based on historical activity.
Note 13Segment Information
We report our results in one reportable segment. We design, develop, manufacture and market high performance analog integrated circuits. Our chief executive officer is our chief operating decision maker.
Note 14Income Taxes and Discontinued Operations
During the three quarters ended October 3, 2008, the statute of limitations expired for the tax years 2002 through 2004 and we reversed to income approximately $43.5 million of previously established unrecognized tax benefits related to these tax years. Of this amount, $24.1 million related to international income tax matters and is included in income tax expense from continuing operations. The remaining $19.4 million related to sale of our wireless division and is included in income tax benefit from discontinued operations. Included in these amounts was approximately $1.2 million reduction in the accrual for interest.
Our remaining significant UTB primarily relates to other international income tax matters. We estimate approximately $7.0 million could reverse in the next 12 months due to statute expirations.
Tax years from 2005 forward are under examination or remain subject to audit. The major tax jurisdictions in which we operate includes the United States, various individual states and several foreign nations.
Note 15Subsequent events
On October 17, 2008, we entered into a three-year, $75 million unsecured revolving credit facility with Bank of America, N.A., as administrative agent, and certain other banks. Any advances under the credit agreement will accrue interest at rates equal to LIBOR plus a margin that is based on our leverage ratio, which currently equates to a 100 basis point margin. The credit agreement contains customary representations and warranties, affirmative and negative covenants, and events of default. In addition, we may solicit the lenders to increase the total principal amount available by up to $300 million, subject to the lenders consent. Our obligations under the credit facility are guaranteed by our wholly-owned US subsidiaries.
On November 5, 2008, we announced a plan to improve our competitive position by reducing our global workforce by 9% and reduce overall annual operating costs by approximately $12 to $14 million. Severance and career transition services will be offered to all affected employees. As a result of this plan, we expect to record one time pre-tax charges of approximately $20-23 million, or $0.11 to $0.12 per share, after tax, during the fourth quarter for costs associated with this plan. The full announcement can be referenced in the press release that is an exhibit to a Current Report on Form 8-K filed on November 5, 2008.
Note 16Recent Accounting Pronouncements
FASB Statement No. 141(R), Business Combinations (SFAS 141R)Issued in December 2007, SFAS 141R provides companies with principles and requirements on how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, liabilities assumed, and any noncontrolling interest in the acquiree as well as the recognition and measurement of goodwill acquired in a business combination. SFAS 141R also requires certain disclosures to enable users of
the financial statements to evaluate the nature and financial effects of the business combination. Acquisition costs associated with the business combination will generally be expensed as incurred. SFAS 141R is effective for business combinations occurring in fiscal years beginning after December 15, 2008, which will require us to adopt these provisions for business combinations occurring in fiscal 2009 and thereafter. Early adoption of SFAS 141R is not permitted. We are currently evaluating the impact SFAS 141R will have on any future business combinations we enter into.
FASB Statement No. 161, Disclosures about Derivative Instruments and Hedging Activities In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities, an amendment of FASB Statement No. 133 (SFAS 161). This statement is intended to improve transparency in financial reporting by requiring enhanced disclosures of an entitys derivative instruments and hedging activities and their effects on the entitys financial position, financial performance, and cash flows. SFAS 161 applies to all derivative instruments within the scope of SFAS 133, Accounting for Derivative Instruments and Hedging Activities (SFAS 133) as well as related hedged items, bifurcated derivatives, and nonderivative instruments that are designated and qualify as hedging instruments. Entities with instruments subject to SFAS 161 must provide more robust qualitative disclosures and expanded quantitative disclosures. SFAS 161 is effective prospectively for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application permitted. We are currently evaluating the disclosure implications of this statement.
FASB Staff Position (FSP) FAS 157-3 clarifies the application of SFAS 157 in a market that is not active and provides an example to illustrate key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. FSP FAS 157-3 was effective upon issuance, including prior periods for which financial statements have not been issued.
FSP FAS 142-3, Determination of the Useful Life of Intangible Assets In April 2008, the FASB issued FSP FAS 142-3, Determination of the Useful Life of Intangible Assets. FSP FAS 142-3 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under FASB Statement No. 142, Goodwill and Other Intangible Assets. FSP FAS 142-3 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. Early adoption is prohibited. We are currently evaluating the impact on our consolidated financial statements.
End of Unaudited Consolidated Financial Statements
You should read the following discussion in conjunction with our consolidated financial statements, including the notes thereto. Except for historical information, the discussions in this section contain forward-looking statements that involve risks and uncertainties. Actual results could differ materially from those discussed below.
Forward Looking Statements
This Quarterly Report contains statements relating to expected future results and business trends of the Company that are based upon our current estimates, expectations, and projections about our industry, and upon managements beliefs, and certain assumptions we have made, that are forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Words such as anticipates, expects, intends, plans, believes, seeks, estimates, may, will, and variations of these words or similar expressions are intended to identify forward-looking statements. In addition, any statements that refer to expectations, projections, or other characterizations of future events or circumstances, including any underlying assumptions, are forward-looking statements. Such statements are not guarantees of future performance and are subject to certain risks, uncertainties, and assumptions that are difficult to predict. Therefore, our actual results may differ materially and adversely from those expressed in any forward-looking statement as a result of various factors. These factors include, but are not limited to: industry and global economic and market conditions, such as the cyclical nature of the semiconductor industry and the markets addressed by our and our customers products; demand for, and market acceptance of, new and existing products; successful development of new products; the timing of new product introductions; new product performance and quality; the successful integration of acquisitions; manufacturing difficulties, such as the availability and extent of utilization of manufacturing capacity and raw materials; procurement shortages; the failure of our suppliers or outsource providers to perform their obligations in a manner consistent with our expectations; the need for additional capital; pricing pressures and other competitive factors, such as competitors new products; competitors with significantly greater financial, technical, manufacturing and marketing resources; changes in product mix; fluctuations in manufacturing yields; product obsolescence; the ability to develop and implement new technologies and to obtain protection of the related intellectual property; legal challenges to our products and technology, such as intellectual property infringement and misappropriation claims; customer service; the extent that customers use our products and services in their business, such as the timing of the subsequent entry of our customers products containing our components into production, the size and timing of orders from customers, and customer cancellations or shipment delays; changes in import export regulations; legislative, tax, accounting, or regulatory changes or changes in their interpretation; transportation, communication, demand, information technology or supply disruptions based on factors outside our control such as natural disasters, wars, and terrorist activities; and exchange rate fluctuations. These forward-looking statements are made only as of the date hereof, and we undertake no obligation to update or revise the forward-looking statements, whether as a result of new information, future events or otherwise.
We design, develop, manufacture and market high-performance analog integrated circuits (ICs). We believe our product portfolio addresses some of the fastest growing applications within the high-end consumer, industrial, computing and communications markets.
Critical Accounting Policies
You should refer to the disclosures regarding critical accounting policies in Managements Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the fiscal year ended December 28, 2007.
Results of Operations
Statement of operations data as a percentage of revenue for the periods indicated:
Note: Totals and percentages may not add or calculate precisely due to rounding. We have reclassified certain amounts in the quarter and three quarters ended September 28, 2007 to conform to the presentation in the quarter and three quarters ended October 3, 2008.
Revenue and Gross Profit
Revenue for the quarter ended October 3, 2008 increased $20.4 million or 10.3% to $218.7 million from $198.3 million during the quarter ended September 28, 2007. The increase in net revenue was predominately from sales to the computing market, which increased $21.9 million or 38.4% over the quarter ended September 28, 2007. Sales to the communications market increased $4.1 million, while sales to the high-end consumer and industrial markets decreased $0.3 million and $5.3 million, respectively. In aggregate, a 9.6% increase in unit shipments increased net revenue by $19.0 million, and average selling prices (ASPs) increased 0.6%, increasing revenues by $1.4 million.
Revenue for the three quarters ended October 3, 2008 increased $94.3 million or 17.3% to $638.6 million from $544.3 million during the three quarters ended September 28, 2007. The increase in net revenues was primarily from sales to the computing market, which increased $66.9 million or 47.8% over the three quarters ended September 28, 2007. Other sales increased as follows: high-end consumer, $8.6 million; communications, $18.1 million and industrial, $0.7 million. In aggregate, a 24.4% increase in unit demand increased net revenues by $132.4 million and a 5.5% decline in ASPs decreased net revenues by $37.4 million. The trend of declining unit prices, which must be made up by higher unit volumes for sales growth, is normal for the semiconductor industry and we expect it to continue.
Geographically, year to date revenues were derived from the Asia/Pacific, North America and Europe regions as follows:
The long-term trend of revenue growth in the Asia/Pacific region continues to reflect in the geographic split. Revenues in the Asia/Pacific region increased 23% as compared with North America and Europe, which saw only modest increases in absolute dollars as compared with the three quarters ended September 28, 2007. As manufacturing of consumer electronic and computing/communication products continues to migrate to the Asia/Pacific region of the world, we believe our sales will continue to grow proportionately in that region.
We sell our products to customers in many countries including, in descending order by revenue dollars for our top ten countries, China (including Hong Kong), the United States, South Korea, Taiwan, Japan, Singapore, Germany, Netherlands, France and Thailand. Sales to customers in China, including Hong Kong, comprised approximately 47% of revenue, followed by the United States (15%) and South Korea (11%) during the quarter ended October 3, 2008. Two distributors that support a wide range of customers around the world accounted for 13% and 8% of our revenues in the quarter ended October 3, 2008.
Cost of Revenue and Gross Profit
Cost of revenue consists primarily of purchased materials and services, labor and overhead associated with product manufacturing. During the quarter ended October 3, 2008, gross profit increased $11.3 million or 10.1% to $123.1 million from $111.8 million during the quarter ended September 28, 2007. As a percentage of sales, gross margin was 56.3% during the quarter ended October 3, 2008 compared to 56.4% during the quarter ended September 28, 2007. The gross margin was impacted by product sales mix changes at the product family level.
During the three quarters ended October 3, 2008, gross profit increased $45.2 million or 14.6%, to $355.2 million from $310.0 million during the three quarters ended September 28, 2007. As a percentage of sales, gross margin was 55.6% and 56.9% in the three quarters ended October 3, 2008 and September 28, 2007, respectively. Year to date, gross margins were impacted in part by expenses related to our reorganization, product sales mix changes at the product family level and increases in the price of gold.
Pure gold wire is used in many of our products and recent price increases have had a more negative impact to our production costs and our gross margins. We estimate that gold related production costs increased approximately $3.0 million in the three quarters ended October 3, 2008 compared with the three quarters ended September 28, 2007.
We strive to improve gross margins from their present levels by emphasizing new high-margin products and cost saving opportunities in our manufacturing chain. We expect to realize savings from our restructuring initiatives late in 2009 and continue to make progress in our conversion from gold to copper wire in many of our high volume products.
Operating Costs, Expenses and Other Income
Research and Development (R&D)
R&D expenses consist primarily of salaries and costs of employees engaged in product/process research, design and development activities, as well as related subcontracting activities, prototype development, cost of design tools and technology license agreement expenses. R&D expenses increased $1.0 million or 3% to $35.1 million during the quarter ended October 3, 2008 from $34.1 million during the quarter ended September 28, 2007. In the three quarters ended October 3, 2008, R&D expenses increased $10.0 million, or 10%, to $108.9 million from $98.9 million during the three quarters ended September 28, 2007. Stock-based compensation expense recorded to R&D declined in both comparative periods, which was offset by strong hiring of new design engineers and related materials and supplies costs. In order to increase the number of new products introduced, we increased our engineering related spending including labor and material costs. The quarter ended July 4, 2008 included an additional week, resulting in approximately 5% increase in expenses over the same quarter last year.
Selling, General and Administrative (SG&A)
SG&A costs include primarily salary and incentive expenses of employees engaged in marketing and selling, as well as salaries and expenses required to perform our human resource, finance, legal and executive functions. SG&A costs decreased by $1.7 million or 5% to $31.8 million during the quarter ended October 3, 2008 from $33.6 million during the quarter ended September 28, 2007. In the three quarters ended October 3, 2008, SG&A costs decreased $1.3 million or 1% to $95.6 million from $96.9 million during the three quarters ended September 28, 2007. The decrease for the quarter ended October 3, 2008 related primarily to decreased incentives based on revenue expectations. The decrease for the three quarters ended October 3, 2008 over the comparable period related primarily to decreased incentives and labor and a reduction in stock-based compensation expense as a result of the departure of our former chief executive officer. The quarter ended July 4, 2008 included an additional week, resulting in approximately 5% increase in expenses over the same quarter last year.
Amortization of Purchased Intangible Assets
Amortization of purchased intangible assets increased $0.3 million to $2.8 million in the quarter ended October 3, 2008 from $2.5 million in the quarter ended September 28, 2007. The increase was $1.6 million to $8.8 million in the three quarters ended October 3, 2008 from $7.2 million in the three quarters ended September 28, 2007. The increases resulted primarily from two acquisitions made in September 2007. We expect amortization of current definite-lived intangible asset balances to increase slightly in the fourth quarter to reflect new acquisitions and remain at that level until the third quarter of fiscal 2009 when certain balances become fully amortized.
Many factors, including future market demand for our products, could cause impairment of our goodwill and purchased intangible asset balances. We test our goodwill for impairment at least annually, or more frequently if impairment indicators arise. During the fourth quarter of 2007, we determined that the value of each of our reporting units exceeded its book value and recorded no impairments of goodwill at that time. We will conduct our annual goodwill impairment test in the fourth quarter of 2008.
During the quarter ended March 28, 2008, we initiated a restructuring plan to reorganize certain operations, consolidate internal manufacturing facilities and reduce workforce. We expect to complete the reorganization and consolidation within the next four quarters, with most of the workforce reductions taking place upon completion of the plan. During the quarter and three quarters ended October 3, 2008, we recorded costs of $0.6 million and $5.5 million for employee severance and other facility consolidation costs, included in operating costs and expenses. We expect to incur an additional $5.0 million over the next four quarters. Upon completion of the restructuring, we expect to realize annual cost benefits between $4.0 million and $6.0 million with no impact to revenue.
(Loss) gain on certain investments
During the quarter ended March 28, 2008, we recorded an impairment charge of $6.4 million, before taxes, on certain auction rate securities whose decline in fair value was determined to be other-than-temporary. We continue to monitor our auction rate securities and intend to hold all of these investments until the anticipated recovery in market value occurs.
We maintain a portfolio of approximately $11.4 million of mutual fund investments under two qualified deferred employee compensation plans. We have an offsetting liability recorded for the investments. Changes in the fair value of the asset are recorded as a (loss) gain on investments and changes in the fair value of the liability are recorded as a component of compensation expense. During the quarter ended October 3, 2008, we recorded a loss on investments of $1.3 million and a reduction of compensation expense of $1.2 million. For the three quarters ended October 3, 2008, we recorded loss on investments of $1.4 million and a reduction of compensation expense of $1.5 million.
Interest Income, net
Net interest income decreased to $3.1 million and $12.1 million during the quarter and three quarters ended October 3, 2008, respectively, from $8.1 million and $24.2 million during the quarter and three quarters ended September 28, 2007. This decrease is attributable to approximately $154 million decrease in average cash and investment balances and declining interest rates when compared to the same period last year.
Income tax expense from continuing operations for the three quarters ended October 3, 2008 included a $24.1 million reversal of a previously established unrecognized tax benefit (UTB) due to the expiration of the statute of limitations on the tax years 2002 and 2003. Also included was a one time $4.5 million R&D tax credit re-enacted by Congress at the end of our third quarter. Excluding these items, the effective tax rate on income from continuing operations for the quarter and three quarters ended October 3, 2008 was 23.0% and 24.4%, compared with 23.4% and 22.3% for the quarter and three quarters ended September 28, 2007. Our tax rate is expected to be approximately 25% in future quarters.
The statute of limitations for the 2002 and 2003 tax years each expired during the first quarter of our fiscal year 2008. Expiration for tax year 2002 was extended to December 31, 2007 by agreement with the Internal Revenue Service (IRS) and tax year 2003 was extended to December 31, 2007 by the IRS for relief from multiple hurricanes that affected our Florida operations in 2004. The statute of limitations for the 2004 tax year expired during the third quarter of our 2008 fiscal year.
In determining net income, we estimate and exercise judgment in the calculation of tax expense and tax liabilities and in assessing the recoverability of deferred tax assets that arise from temporary differences between the tax and financial statement recognition of assets and liabilities.
In the ordinary course of business, the ultimate tax outcome of many transactions and calculations is uncertain, as the calculation of tax liabilities involves the application of complex tax laws in the United States and other jurisdictions. We recognize liabilities for additional taxes that may be due on tax audit issues based on an estimate of the ultimate resolution of those issues. Although we believe the estimates are reasonable, the final outcome may be different than amounts we estimate. Such determinations could have a material impact on the income tax provision, effective tax rate and operating results in the period they occur. In addition, the effective tax rate reflected in our forward-looking statements is based on current enacted tax law. Significant changes in enacted tax law could materially affect our estimates.
Income (loss) from discontinued operations in the three quarters ended October 3, 2008 included a tax benefit of $19.4 million for a reversal of a previously established UTB due to the expiration of the statute of limitations on the tax years 2002 and 2003.
Our sales are made pursuant to purchase orders that are generally booked up to six months in advance of delivery. Our standard terms and conditions of sale provide that these orders become non-cancelable and non-reschedulable thirty days prior to the most current customer request date (CRD) for standard products and ninety days prior to CRD for semi-custom and custom products. Backlog is influenced by several factors, including market demand, pricing and customer order patterns in reaction to product lead times. We had a six-month backlog as of October 3, 2008 of $130.3 million compared to December 28, 2007 of $176.4 million and $186.9 million as of September 28, 2007. Although not always the case, backlog can be a leading indicator of performance for approximately the next three quarters.
On October 22, 2008, we announced our outlook for the fourth quarter of 2008. At that time, we expected revenue decline of approximately 20% to 25% from the third quarter. We have seen a significant decline in orders entering the fourth quarter. The decrease in demand is broad and spread across most of our product families and end markets. Demand for our computing and consumer products is particularly weak as global demand for these products has dropped quickly. We expected GAAP earnings per diluted share of approximately $0.10 to $0.14. The full announcement can be referenced in the press release that is an exhibit to a Current Report on Form 8-K filed on October 22, 2008.
Contractual Obligations and Off-Balance Sheet Arrangements
Our contractual obligations and off-balance sheet arrangements have not changed significantly from December 28, 2007. As of October 3, 2008, we had committed to purchase $23.9 million of inventory from suppliers.
The Planet ATE agreement contains a provision for payment of additional consideration to the former stockholders of that business. This additional consideration is a multiple of the net revenues of or attributed to Planet ATE through December 31, 2008 with a maximum additional payment of $12 million. The D2Audio and Kenet agreements also contain provisions for payment of additional consideration to former stockholders if revenue in excess of a base amount is attained. The maximum payout under these provisions is $27.5 million, based on revenue earned through July 2010. We have not accrued any amount for additional consideration as of October 3, 2008.
Liquidity and Capital Resources
Our capital requirements depend on a variety of factors, including but not limited to, the rate of increase or decrease in our existing business base; the success, timing and amount of investment required to bring new products to market; revenue growth or decline; and potential acquisitions. We believe that we have the financial resources necessary to meet business requirements for the next 12 months, including capital expenditures for the expansion or upgrading of worldwide manufacturing capacity, working capital requirements, our dividend program, our stock repurchase program and potential future acquisitions or strategic investments. As of October 3, 2008, our total shareholders equity was $2.2 billion. At that date, we had $291 million in cash and short-term investments. We have no debt outstanding.
We have $118 million in long-term investments, primarily auction rate securities. These auction rate securities are composed of approximately $98 million of insurance based securities and $25 million of student loan based securities. We continue to accrue and receive interest on the securities based on a contractual rate. The weighted rate is currently approximately 175 basis points above one month LIBOR.
On October 17, 2008, we closed a $75 million revolving credit facility with Bank of America, N.A. as administrative agent and certain other banks. This credit line increases our available cash and enhances our ability to invest in our business.
Our primary sources and uses of cash during the quarters ended October 3, 2008 and September 28, 2007 were as follows:
In the three quarters ended October 3, 2008, our operational cash (including proceeds from stock plans) was $154 million compared to $174 million in the three quarters ended September 28, 2007, a decrease of $20 million. We used approximately $31 million for capital expenditures and $38 million for acquisitions. We returned $185 million to shareholders in the form of our stock repurchase and dividend programs. Investment balances were reduced by $36 million compared to $202 million in the three quarters ended September 28, 2007, resulting in net cash used of $40 million overall.
Our aim is to constantly improve the cash flows from our existing business activities and return the majority of that cash flow to shareholders. We continue to maintain and improve our existing business performance with necessary capital expenditures and acquisitions that may further improve our business and return on investment. Cash, stock or a combination of both may be issued to fund additional acquisitions to improve our business.
Our cash, cash equivalents and investments, when combined with no outstanding long or short-term debt obligations, give us the flexibility to return free cash flow to our shareholders while also pursuing business improvement opportunities for our future.
Non-cash Working Capital
Trade accounts receivable, less valuation allowances, increased by $13.0 million to $130.4 million as of October 3, 2008 from $117.4 million as of December 28, 2007. Inventories also increased by $14.6 million to $113.3 million as of October 3, 2008 from $98.7 million as of December 28, 2007. We believe non-cash working capital ratios, when compared to our revenue and cost of revenue, will remain close to current levels.
Capital expenditures were $31.5 million for the three quarters ended October 3, 2008 and $17.4 million for the three quarters ended September 28, 2007. Capital expenditures increased primarily due to the expansion of available capacity for both our wafer and assembly/test partners to support continuing unit volume growth.
Proceeds from exercises of Stock Options and our Stock Purchase Plan
For the three quarters ended October 3, 2008, cash flow from exercises of stock options and related tax benefits and sales under our ESPP decreased to approximately $23.5 million as compared with $117.4 million in the three quarters ended September 28, 2007. Exercises are decisions of grantees and are influenced by the level of our stock price and by other considerations of grantees. While the level of cash inflow from exercises is difficult to forecast or control, we believe it will remain an important secondary source of cash.
Stock Repurchases and Dividends
Historically, we have returned cash to shareholders through our stock repurchase and dividend programs. Our previous stock repurchase program expired on October 3, 2008. On October 31, 2008, the Board approved a new plan to purchase up to $15 million of shares through December 22, 2008. We currently have $0.12 per share quarterly dividend program which we intend to continue for the foreseeable future.
In July 2008, our Board of Directors declared a quarterly dividend of $0.12 per share of common stock. The dividend was paid on August 22, 2008 to shareholders of record as of the close of business on August 12, 2008. In October 2008, our Board of Directors also declared a dividend of $0.12 per share, to be paid on November 21, 2008 to shareholders of record as of the close of business on November 11, 2008.
Our stock repurchase program which expired on October 3, 2008 authorized us to repurchase our common stock up to $400 million. As of October 3, 2008, we had used $207 million to repurchase 8.4 million shares under this plan, of which approximately $30 million was used for purchases during the quarter ended October 3, 2008. Repurchased shares continually increase earnings per share by reducing shares outstanding. During the three quarters ended October 3, 2008, we repurchased 5.8 million shares of stock, reducing our year to date weighted average shares outstanding by 3.5 million shares and increasing year to date earnings per share by approximately $0.03 per share.
Global economic conditions pose a risk to the overall economy as consumers and businesses may defer purchases in response to the uncertainty around tighter credit and negative financial news. These conditions could reduce product demand and affect other related matters. Demand could be different from our expectations due to many factors including changes in business and economic conditions, conditions in the credit market that could affect consumer confidence, customer acceptance of our products, changes in customer order patterns including order cancellations and changes in the level of inventory held by vendors.
Credit markets are tightening as a result of the recent financial crises, resulting in lower liquidity in many financial markets and excess volatility in fixed income, credit and equity markets. We could experience a number of resulting effects, including product delays due to effects experienced by key suppliers, reduced orders and payments as customer are affected by tighter credit markets and/or insolvency, decreased investing and financing options in a tighter market, increased expenses, increased impairments resulting from lower orders and sales as customers experience difficulties obtaining financing and volatility and extreme changes in the earnings and fair value of our investments.
For further discussion of the risk related to foreign currency exchange rates and market risk, see our Annual Report on Form 10-K for the year ended December 28, 2007.
During the three quarters ended October 3, 2008, we purchased and sold $22.1 million of foreign exchange contracts. The related derivatives were recognized on the balance sheet at their fair value as of October 3, 2008. Due to their immaterial value, we do not believe they are subject to material changes due to market or interest rate risk inherent in forward contracts for foreign currencies.
(a) Evaluation of Disclosure Controls and Procedures. Our management, with the participation of our Chief Executive Officer, or CEO, and Chief Financial Officer, or CFO, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act) as of October 3, 2008. In designing and evaluating our disclosure controls and procedures, our management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives, and our management necessarily applied its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on this evaluation, our CEO and CFO concluded that, as of October 3, 2008, our disclosure controls and procedures were (1) designed to ensure that material information relating to us, including our consolidated subsidiaries, is made known to our CEO and CFO by others within those entities, particularly during the period in which this report was being prepared and (2) effective, in that they provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commissions rules and forms.
(b) Changes in Internal Controls. No change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act) occurred during the fiscal quarter ended October 3, 2008 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
PART II. OTHER INFORMATION
In the matter of Initial Public Offering Securities Litigation, Master File No. 21 MC 92 (SAS), U.S. District Court, S.D.N.Y., as described on form 10-K filed February 22, 2008, incorporated herein by reference. The Judge has agreed to extend the focus case defendants time to answer and to defer the ruling on the pending motion to certify the focus cases. Additionally, the plaintiffs have requested that discovery proceed as to all issuer defendants.
In addition to the cautionary information included in this report, you should carefully consider the factors discussed in Item 1A. Risk Factors in our annual report on Form 10-K, filed with the SEC on February 22, 2008, which could materially adversely affect our business, financial condition and/or results of operations.
During the quarter ended October 3, 2008, we, as authorized by our Board of Directors, repurchased 1,297,811 shares of our Class A common stock at an approximate cost of $30 million. Such repurchased shares, made under a plan announced on October 31, 2007 to repurchase up to $400 million of our Class A common stock through October 3, 2008, were retired immediately upon settlement. On October 31, 2008, the Board of Directors authorized the purchase of up to $15 million shares through December 22, 2008.
The list of exhibits required by Item 601 of Regulation S-K to be filed as part of this Quarterly Report is incorporated by reference to the Index to Exhibits following the signatures herein.
Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Date: November 7, 2008
INDEX TO EXHIBITS