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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2001*
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
COMMISSION FILE NUMBER: 000-24923
CONEXANT SYSTEMS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 25-1799439
(State of incorporation) (I.R.S. Employer
Identification No.)
4311 JAMBOREE ROAD
NEWPORT BEACH, CALIFORNIA 92660-3095
(Address of principal executive offices) (Zip code)
(949) 483-4600
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Registrant's number of shares of common stock outstanding as of April 27, 2001
was 247,085,255.
------------
* For presentation purposes of this Form 10-Q, references made to the March
31, 2001 period relate to the actual fiscal second quarter ended March 30,
2001.
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CONEXANT SYSTEMS, INC.
INDEX
PAGE
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited):
Consolidated Condensed Balance Sheets - March 31, 2001 and
September 30, 2000 3
Consolidated Condensed Statements of Operations - Three Months
and Six Months Ended March 31, 2001 and 2000 4
Consolidated Condensed Statements of Cash Flows - Six Months
Ended March 31, 2001 and 2000 5
Notes to Consolidated Condensed Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 11
Item 3. Quantitative and Qualitative Disclosures About Market Risk 32
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 34
Item 4. Submission of Matters to a Vote of Security Holders 35
Item 6. Exhibits and Reports on Form 8-K 36
Signatures 37
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONEXANT SYSTEMS, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(unaudited, in thousands, except per share amounts)
March 31, September 30,
2001 2000
----------- ------------
ASSETS
Current assets:
Cash and cash equivalents ............................. $ 124,144 $ 831,100
Short-term investments ................................ 314,365 17,397
Receivables, net of allowances of $19,743 and $6,949 at
March 31, 2001 and September 30, 2000, respectively 249,135 422,650
Inventories ........................................... 253,657 341,002
Deferred income taxes ................................. 110,306 95,260
Other current assets .................................. 73,778 66,733
----------- -----------
Total current assets .......................... 1,125,385 1,774,142
Marketable securities ................................... -- 95,876
Property, plant and equipment, net ...................... 852,087 828,511
Goodwill and intangible assets, net ..................... 1,355,089 1,507,326
Other assets ............................................ 283,990 209,056
Deferred income taxes ................................... 151,064 1,286
----------- -----------
Total assets .................................. $ 3,767,615 $ 4,416,197
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable ...................................... $ 123,204 $ 233,865
Deferred revenue ...................................... 29,357 37,586
Accrued compensation and benefits ..................... 56,852 88,399
Other current liabilities ............................. 98,060 95,158
----------- -----------
Total current liabilities ..................... 307,473 455,008
Convertible subordinated notes .......................... 709,849 999,997
Other long-term liabilities ............................. 55,446 54,433
----------- -----------
Total liabilities ............................. 1,072,768 1,509,438
----------- -----------
Commitments and contingencies ........................... -- --
Shareholders' equity:
Preferred and junior preferred stock .................. -- --
Common stock ($1.00 par value, 1,000,000 shares
authorized; 245,024 and 231,164 shares issued at
March 31, 2001 and September 30, 2000, respectively) 245,024 231,164
Additional paid-in capital ............................ 3,050,643 2,775,115
Accumulated deficit ................................... (582,462) (120,875)
Accumulated other comprehensive income (loss) ......... (1,181) 47,295
Treasury stock, at cost (39 and 30 shares at March 31,
2001 and September 30, 2000, respectively) ......... (1,791) (1,619)
Unearned compensation ................................. (15,386) (24,321)
----------- -----------
Total shareholders' equity .................... 2,694,847 2,906,759
----------- -----------
Total liabilities and shareholders' equity .... $ 3,767,615 $ 4,416,197
=========== ===========
See accompanying notes to consolidated condensed financial statements.
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CONEXANT SYSTEMS, INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(unaudited, in thousands, except per share amounts)
Three Months Ended Six Months Ended
March 31, March 31,
------------------------ --------------------------
2001 2000 2001 2000
--------- --------- --------- -----------
Net revenues .................................. $ 251,003 $ 501,728 $ 661,364 $ 1,011,691
Cost of goods sold ............................ 334,168 269,459 630,771 546,905
--------- --------- --------- -----------
Gross margin .................................. (83,165) 232,269 30,593 464,786
Operating expenses:
Research and development .................... 128,879 100,095 247,417 188,572
Selling, general and administrative ......... 89,741 66,024 170,117 134,192
Amortization of intangible assets ........... 84,040 25,337 166,344 27,742
Restructuring charge ........................ 7,578 -- 7,578 --
Separation costs ............................ 4,270 -- 12,197 --
Purchased in-process research and development -- 145,900 -- 145,900
--------- --------- --------- -----------
Total operating expenses ............ 314,508 337,356 603,653 496,406
--------- --------- --------- -----------
Operating loss ................................ (397,673) (105,087) (573,060) (31,620)
Debt conversion costs ......................... -- -- (42,584) --
Other income (expense), net ................... (1,021) 932 (5,377) 1,510
--------- --------- --------- -----------
Loss before income taxes ...................... (398,694) (104,155) (621,021) (30,110)
Provision (benefit) for income taxes .......... (136,683) 28,187 (152,150) 50,401
--------- --------- --------- -----------
Loss before extraordinary item ................ (262,011) (132,342) (468,871) (80,511)
Extraordinary gain on extinguishment of debt,
net of income taxes of $4,426 .............. -- -- 7,284 --
--------- --------- --------- -----------
Net loss ...................................... $(262,011) $(132,342) $(461,587) $ (80,511)
========= ========= ========= ===========
Loss per share, basic and diluted:
Loss before extraordinary item .......... $ (1.08) $ (0.64) $ (1.96) $ (0.40)
Extraordinary item ...................... -- -- 0.04 --
--------- --------- --------- -----------
Net loss ................................ $ (1.08) $ (0.64) $ (1.92) $ (0.40)
========= ========= ========= ===========
Number of shares used in per share computation 243,515 205,207 239,813 200,962
========= ========= ========= ===========
See accompanying notes to consolidated condensed financial statements.
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CONEXANT SYSTEMS, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(unaudited, in thousands)
Six Months Ended
March 31,
------------------------
2001 2000
--------- ---------
Cash flows from operating activities:
Net loss ............................................ $(461,587) $ (80,511)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depreciation .................................... 98,250 92,413
Amortization of intangible assets ............... 166,344 27,742
Purchased in-process research and development ... -- 145,900
Provision for losses on accounts receivable ..... 12,913 1,197
Provision for inventory write-down .............. 206,050 (471)
Deferred income taxes ........................... (149,482) (253)
Stock compensation .............................. 6,791 914
Debt conversion costs ........................... 42,584 --
Extraordinary gain--extinguishment of debt ...... (11,710) --
Other non-cash charges .......................... 7,951 2,377
Changes in assets and liabilities:
Receivables ..................................... 160,602 (54,639)
Inventories ..................................... (118,705) (35,384)
Accounts payable ................................ (103,876) (65,038)
Accrued expenses and other current liabilities .. (15,937) 68,270
Other ........................................... (18,685) 1,773
--------- ---------
Net cash provided by (used in) operating activities (178,497) 104,290
--------- ---------
Cash flows from investing activities:
Net purchases of marketable securities .............. (253,658) --
Capital expenditures ................................ (118,833) (160,874)
Investments in and advances to businesses ........... (89,090) (112,196)
Acquisitions of businesses, net of cash acquired .... (12,512) (6,771)
--------- ---------
Net cash used in investing activities ............. (474,093) (279,841)
--------- ---------
Cash flows from financing activities:
Issuance of 4% convertible subordinated notes ....... -- 631,300
Proceeds from exercise of stock options ............. 10,618 76,627
Payment of debt conversion costs .................... (42,584) --
Repurchase of convertible subordinated notes ........ (22,400) --
--------- ---------
Net cash provided by (used in) financing activities (54,366) 707,927
--------- ---------
Net increase (decrease) in cash and cash equivalents (706,956) 532,376
Cash and cash equivalents at beginning of period .... 831,100 398,516
--------- ---------
Cash and cash equivalents at end of period .......... $ 124,144 $ 930,892
========= =========
See accompanying notes to consolidated condensed financial statements.
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CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(unaudited)
1. BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
Conexant Systems, Inc. ("Conexant" or the "Company") is a leader in
semiconductor system solutions for communications applications. Conexant
leverages its expertise in mixed-signal processing to deliver integrated systems
and semiconductor products which facilitate communications worldwide through
wireline voice and data communications networks, cordless and cellular wireless
telephony systems, personal imaging devices and equipment, and emerging cable
and wireless broadband communications networks. The Company operates in two
business segments: the Personal Networking business and Mindspeed
Technologies(TM), the Company's Internet infrastructure business.
On March 26, 2001, the Company announced that its Board of Directors had
approved in principle a revised plan for the separation of Mindspeed
Technologies and the Personal Networking business. The separation will be
accomplished by the spin-off of the Personal Networking business to Conexant
shareholders as a new company which will retain the Conexant name. The
separation is subject to the approval of the Company's shareholders and receipt
of a ruling from the Internal Revenue Service that the spin-off will qualify as
a tax-free distribution. There can be no assurance that the shareholder approval
or the IRS ruling will be obtained, or that the separation will be successfully
completed.
In the opinion of management, the accompanying consolidated condensed financial
statements contain all adjustments, consisting of adjustments of a normal
recurring nature, as well as the fiscal 2001 restructuring charge, separation
costs, debt conversion costs, and extraordinary gain on extinguishment of debt
and the fiscal 2000 write-off of purchased in-process research and development,
necessary to present fairly the Company's financial position, results of
operations, and cash flows. The results of operations for interim periods are
not necessarily indicative of the results that may be expected for a full year.
These statements should be read in conjunction with the consolidated financial
statements and notes thereto included in the Company's Annual Report on Form
10-K for the fiscal year ended September 30, 2000.
Fiscal Periods
For presentation purposes, references made to the periods ended March 31, 2001
relate to the actual fiscal 2001 second quarter and six months ended March 30,
2001.
Reclassifications
Certain prior year amounts have been reclassified to conform to the current
period presentation.
Recent Accounting Standards
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133 ("SFAS 133"), "Accounting for Derivative
Instruments and Hedging Activities", which establishes accounting and reporting
standards for derivative instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities. SFAS 133 requires that
an entity recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair value.
Derivatives that are not hedges must be adjusted to fair value through earnings.
If the derivative is a hedge, depending on the nature of the hedge, changes in
fair value of derivatives either offset the change in fair value of the hedged
assets, liabilities, or firm commitments through earnings, or are recognized in
other comprehensive income until the hedged item is recognized in earnings.
Generally, the change in a derivative's fair value related to the ineffective
portion of a hedge, if any, is immediately recognized in earnings. The Company
adopted SFAS 133 as of October 1, 2000, with no significant effect on the
Company's financial position or results of operations.
In December 1999, the Securities and Exchange Commission issued Staff Accounting
Bulletin No. 101 ("SAB 101"), "Revenue Recognition in Financial Statements". SAB
101 provides guidance on applying generally accepted accounting principles to
revenue recognition issues in financial statements. The Company will be required
to adopt SAB 101 no later than the fourth quarter of fiscal 2001. Management
believes that the adoption of SAB 101 will not have a significant effect on the
Company's financial position or results of operations.
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CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(unaudited)
2. INVENTORIES
Inventories consisted of the following (in thousands):
March 31, September 30,
2001 2000
-------- -------------
Raw materials ........................... $ 28,089 $ 38,866
Work-in-process ......................... 132,232 209,871
Finished goods .......................... 93,336 92,265
-------- --------
$253,657 $341,002
======== ========
Cost of goods sold for the second quarter and first six months of fiscal 2001
includes provisions for excess and obsolete inventories of $148.6 million and
$206.1 million, respectively.
3. MARKETABLE SECURITIES
Marketable securities include commercial paper, corporate bonds, government
securities and equity securities. The Company enters into certain equity
investments for the promotion of business and strategic objectives. The
marketable portion of these strategic investments is classified as marketable
securities; non-marketable equity and other investments are included in other
assets. All of the Company's marketable securities are classified as
available-for-sale and are recorded on the consolidated condensed balance sheets
at fair value, based upon quoted market prices. As of March 31, 2001, unrealized
gains of $15.3 million (net of related income taxes of $9.3 million) on these
securities are included in accumulated other comprehensive income.
Available-for-sale marketable securities having a fair value of $314.4 million
are classified as short-term investments in the consolidated balance sheet at
March 31, 2001 as the Company intends to sell these securities as necessary to
meet its liquidity requirements.
Available-for-sale marketable securities consisted of the following (in
thousands):
Gross Gross
Unrealized Unrealized
Amortized Holding Holding Fair
Cost Gains Losses Value
-------- -------- ---------- --------
As of March 31, 2001:
U.S. government agencies $ 39,915 $ 243 $ (5) $ 40,153
Foreign governments ..... 6,066 135 -- 6,201
Corporate debt securities 228,433 2,928 (33) 231,328
Equity securities ....... 15,374 21,309 -- 36,683
-------- -------- --------- --------
$289,788 $ 24,615 $ (38) $314,365
======== ======== ========= ========
As of September 30, 2000:
U.S. government agencies $ 14,795 $ 1 $ (60) $ 14,736
Corporate debt securities 5,961 2 (7) 5,956
Equity securities ....... 15,374 77,207 -- 92,581
-------- -------- --------- --------
$ 36,130 $ 77,210 $ (67) $113,273
======== ======== ========= ========
The amortized cost and estimated fair value of debt securities at March 31,
2001, by contractual maturity, are shown below. Expected maturities will differ
from contractual maturities because the issuers of the securities may have the
right to prepay obligations without prepayment penalties.
Amortized Fair
Cost Value
-------- ---------
(in thousands)
Due within one year .......................... $ 81,279 $ 81,982
Due after one year through five years......... 178,857 181,200
Due after five years through ten years........ 8,507 8,655
Due after ten years .......................... 5,771 5,845
-------- --------
$274,414 $277,682
======== ========
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CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(unaudited)
4. CONVERTIBLE SUBORDINATED NOTES
During the first six months of fiscal 2001, approximately $255.1 million
principal amount of the Company's 4-1/4% Convertible Subordinated Notes due 2006
were converted into approximately 11.0 million shares of common stock at a cost
to the Company of $42.6 million. In addition, the Company purchased $35.0
million principal amount of its 4% Convertible Subordinated Notes due 2007 at
prevailing market prices, resulting in an extraordinary gain of $7.3 million
(net of income taxes of $4.4 million).
5. CONTINGENT LIABILITIES
Claims have been asserted against the Company for utilizing the intellectual
property rights of others in certain of the Company's products. The resolution
of these matters may entail the negotiation of a license agreement, a
settlement, or the resolution of such claims through arbitration or litigation.
In connection with the Company's spin-off from Rockwell International
Corporation ("Rockwell"), the Company assumed responsibility for all contingent
liabilities and then current and future litigation (including environmental and
intellectual property proceedings) against Rockwell or its subsidiaries in
respect of the operations of the semiconductor systems business of Rockwell.
The outcome of litigation cannot be predicted with certainty and some lawsuits,
claims or proceedings may be disposed of unfavorably to the Company. Many
intellectual property disputes have a risk of injunctive relief and there can be
no assurance that a license will be granted. Injunctive relief could have a
material adverse effect on the financial condition or results of operations of
the Company. Based on its evaluation of matters which are pending or asserted
and taking into account the Company's reserves for such matters, management
believes the disposition of such matters will not have a material adverse effect
on the Company's financial condition or results of operations.
The Company has been designated as a potentially responsible party ("PRP") at
one Superfund site located at a former silicon wafer manufacturing facility and
steel fabrication plant in Parker Ford, Pennsylvania formerly occupied by the
Company. In addition, the Company is engaged in remediations of groundwater
contamination at its Newport Beach and Newbury Park, California facilities.
Management currently estimates the aggregate remaining costs for these
remediations to be approximately $4.4 million, which has been accrued.
6. COMPREHENSIVE LOSS
Comprehensive loss for the three months and six months ended March 31, 2001 and
2000 is as follows (in thousands):
Three months ended Six months ended
March 31, March 31,
------------------------ ------------------------
2001 2000 2001 2000
--------- --------- --------- ---------
Net loss ................................. $(262,011) $(132,342) $(461,587) $ (80,511)
Other comprehensive income (loss):
Foreign currency translation adjustments (8,097) (1,920) (16,369) 287
Change in unrealized gains on
available-for-sale securities ........ (1,998) 84,545 (52,566) 128,401
Change in unrealized gains on
foreign currency forward contracts ... 220 -- 291 --
Effect of income taxes ................. 756 (32,286) 20,168 (49,030)
--------- --------- --------- ---------
Other comprehensive income (loss) .... (9,119) 50,339 (48,476) 79,658
--------- --------- --------- ---------
Comprehensive loss ................... $(271,130) $ (82,003) $(510,063) $ (853)
========= ========= ========= =========
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CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(unaudited)
The components of accumulated other comprehensive income (loss) are as follows
(in thousands):
March 31, September 30,
2001 2000
-------- ------------
Unrealized gains on marketable securities, net of tax $ 15,287 $ 47,685
Unrealized gains on foreign currency forward contracts 291 --
Foreign currency translation adjustments ............. (16,759) (390)
-------- --------
Accumulated other comprehensive income (loss) .... $ (1,181) $ 47,295
======== ========
7. LOSS PER SHARE
Basic loss per share is based on the weighted-average number of shares of common
stock outstanding during the period. Diluted loss per share does not include the
effect of stock options or other common stock equivalents or assume conversion
of the Company's convertible subordinated notes, as their effect would be
antidilutive for the periods presented. The weighted-average numbers of shares
listed below were antidilutive and were excluded from the computation of diluted
loss per share (in thousands):
Three months ended Six months ended
March 31, March 31,
------------------ ----------------
2001 2000 2001 2000
----- ------ ----- ------
Stock options (under the treasury stock method) 6,927 18,719 9,679 17,994
4-1/4% Convertible Subordinated Notes due 2006 4,106 15,153 7,165 15,153
4% Convertible Subordinated Notes due 2007 .... 5,694 3,678 5,800 1,839
Restricted stock and other .................... 3,480 565 3,405 440
8. RESTRUCTURING CHARGE
During the second quarter of fiscal 2001, the Company announced a number of cost
reduction initiatives to align its cost structure with the current business
environment. The cost reduction initiatives include workforce reductions,
temporary shutdowns of the Company's manufacturing facilities, significant
reductions in capital spending, the consolidation of certain facilities, and
salary reductions of 10% for the senior management team until the Company
returns to profitability. When complete, the Company's worldwide workforce will
be reduced by approximately 1,500 full-time employees and an additional 100
contractors, for a total workforce reduction of almost 20 percent.
As part of its cost reduction initiatives, during the second quarter of fiscal
2001 the Company implemented a 700-employee workforce reduction through
involuntary severance programs and a consolidation of certain facilities. As a
result of these actions, during the quarter ended March 31, 2001 the Company
recorded a restructuring charge of $7.6 million. The charge was based upon
estimates of the cost of severance benefits for affected employees and lease
cancellation and related costs. The actions reduced the Company's workforce in
both the Personal Networking and Mindspeed Technologies segments, including
approximately 500 employees in the Company's manufacturing operations. Activity
and liability balances related to the restructuring actions through March 31,
2001 are as follows (in thousands):
Facility
Workforce closing
reductions and other Total
---------- --------- --------
Charged to costs and expenses........... $ 6,778 $800 $ 7,578
Cash payments........................... (1,354) -- (1,354)
------- ---- -------
Restructuring balance, March 31, 2001... $ 5,424 $800 $ 6,224
======= ==== =======
All of the amounts accrued for these actions are expected to be paid within one
year. Cash payments to complete the restructuring actions will be funded from
available cash reserves and funds from operations, and are not expected to
significantly impact the Company's liquidity.
9
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CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(unaudited)
9. SUPPLEMENTAL CASH FLOW DISCLOSURES
Cash paid for interest, net of amounts capitalized, was $20.7 million and $5.7
million for the six months ended March 31, 2001 and 2000, respectively. Cash
paid for income taxes for the six months ended March 31, 2001 and 2000 was $2.5
million and $15.8 million, respectively.
Significant noncash transactions during the six months ended March 31, 2001 and
2000 include income tax benefits of approximately $6.7 million and $160.8
million, respectively, resulting from employee stock transactions which were
credited to additional paid-in capital.
10. SEGMENT INFORMATION
The Company operates in two reportable segments: the Personal Networking
business and Mindspeed Technologies, the Company's Internet infrastructure
business. The Company evaluates segment performance based on segment operating
income (loss) excluding amortization of intangible assets and special charges.
Special charges excluded from segment operating income (loss) for the three
months and six months ended March 31, 2001 include the restructuring charge,
separation costs incurred in connection with the proposed separation of the
Mindspeed Technologies and Personal Networking businesses and stock compensation
costs, representing the amortization of the value of unvested in-the-money stock
options assumed by Conexant in connection with certain fiscal 2000 business
acquisitions. The table below presents information about reported segments for
the three months and six months ended March 31 (in thousands):
Three months ended Six months ended
March 31, March 31,
------------------------ --------------------------
2001 2000 2001 2000
--------- --------- --------- -----------
Net revenues:
Personal Networking ......................... $ 169,718 $ 376,504 $ 414,174 $ 767,920
Mindspeed Technologies ...................... 81,285 125,224 247,190 243,771
--------- --------- --------- -----------
Segment totals ............................ $ 251,003 $ 501,728 $ 661,364 $ 1,011,691
========= ========= ========= ===========
Operating income (loss):
Personal Networking ......................... $(213,090) $ 45,747 $(319,442) $ 105,258
Mindspeed Technologies ...................... (86,476) 20,403 (62,793) 36,764
--------- --------- --------- -----------
Segment totals ............................ (299,566) 66,150 (382,235) 142,022
Amortization of intangible assets ........... 84,040 25,337 166,344 27,742
Purchased in-process research and development -- 145,900 -- 145,900
Restructuring charge ........................ 7,578 -- 7,578 --
Separation costs ............................ 4,270 -- 12,197 --
Stock compensation .......................... 2,219 -- 4,706 --
--------- --------- --------- -----------
Operating loss ............................ $(397,673) $(105,087) $(573,060) $ (31,620)
========= ========= ========= ===========
11. SUBSEQUENT EVENT
As a result of its recent operating losses, the Company was not in compliance
with certain covenants under its $475 million credit facility which required it
to meet certain financial ratios tied to its consolidated EBITDA. Following a
period of negotiations between the Company and the lenders under the credit
facility, the parties terminated the credit facility effective as of May 8,
2001. The Company has had no borrowings outstanding under the credit facility
since June 1999.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
This information should be read in conjunction with the unaudited consolidated
condensed financial statements and the notes thereto included in this Quarterly
Report, and the audited consolidated financial statements and notes thereto and
Management's Discussion and Analysis of Financial Condition and Results of
Operations contained in the Company's Annual Report on Form 10-K for the year
ended September 30, 2000.
OVERVIEW
Conexant is a leader in semiconductor system solutions for communications
applications. Conexant leverages its expertise in mixed-signal processing to
deliver integrated systems and semiconductor products which facilitate
communications worldwide through wireline voice and data communications
networks, cordless and cellular wireless telephony systems, personal imaging
devices and equipment, and emerging cable and wireless broadband communications
networks. The Company operates in two business segments: the Personal Networking
business and Mindspeed Technologies(TM), the Company's Internet infrastructure
business.
The Personal Networking business designs, develops and sells semiconductor
products and system solutions in four general communications applications
markets--Personal Computing, Personal Imaging, Digital Infotainment and Wireless
Communications. Personal Computing products include telephony-based
communications solutions for personal computing terminals and other
communication devices such as gaming consoles, web browsers and handheld
devices. Personal Imaging products consist of semiconductor and software
products that enable image capture, processing and output for fax machines,
printers and digital still and video cameras. Digital Infotainment products
include semiconductor solutions that perform communication and media processing
functions within a variety of information and entertainment platforms. Wireless
Communications products are comprised of components, subsystems and system-level
semiconductor solutions for wireless voice and data communication applications,
including digital cellular handsets and base stations, cordless telephones and
global positioning system ("GPS") receivers.
Mindspeed Technologies designs, develops and sells semiconductor products and
system solutions for key communications infrastructure equipment markets
including broadband access, multi-service access and wide area network ("WAN")
transport. Mindspeed Technologies' broad product portfolio allows it to provide
network infrastructure original equipment manufacturers ("OEMs") with
system-level semiconductor solutions including multi-service access and
high-speed digital subscriber line ("DSL") products used in a variety of network
access platforms such as remote access concentrators, voice gateways, digital
loop carriers, DSL access multiplexers and integrated access devices. Mindspeed
Technologies also provides network infrastructure OEMs with an extensive family
of communication solutions that support the aggregation, transmission and
switching of data, video and voice from the edge of the network to the optical
backbone, including T/E carrier, asynchronous transfer mode ("ATM") and
synchronous optical networking ("SONET")/synchronous digital hierarchy ("SDH")
products and network processors. These products are used in a variety of network
equipment including high-speed routers, ATM switches, optical switches, add-drop
multiplexers and digital cross-connect systems.
The Company markets and sells its semiconductor products and system solutions
directly to leading OEMs of communication electronics products and third-party
electronic manufacturing service providers, and indirectly through electronic
components distributors. Although no customer accounted for more than 10% of net
revenues for the first six months of fiscal 2001, the Company's top 20 customers
accounted for 60% of net revenues for the period. Revenues derived from
customers located in the Americas, Europe, Japan, and the Asia-Pacific region
were 37%, 14%, 6% and 43%, respectively, of the Company's net revenues for the
first six months of fiscal 2001.
RESULTS OF OPERATIONS
RECENT DEVELOPMENTS
During the first six months of fiscal 2001, the Company--like many of its
customers and competitors--has been adversely impacted by a broad slow-down
affecting the technology sector, including most of the communications
electronics end-markets which the Company's products address. Personal
Networking net revenues for the fiscal
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2001 periods reflect continued deterioration in the digital cellular handset
market resulting from lower subsidies of new digital cellular handsets by
service providers and a slower transition to next-generation phones. Sales of
broadband solutions were affected by slower than anticipated deployment of
broadband services by system providers. Finally, weak consumer demand for PCs
and related peripheral devices, fax machines, and satellite set-top boxes led to
lower sales of the Company's products for these applications. Net revenues in
the Mindspeed Technologies business were affected by slowing investment in
communications network capacity expansion by Internet service providers
("ISPs"), competitive local exchange carriers ("CLECs") and incumbent local
exchange and inter-exchange carriers. In most cases, the effect of weakened
end-customer demand was compounded by higher than normal levels of equipment and
component inventories among the Company's OEM, subcontractor and distributor
customers. The Company believes that these and other factors will continue to
adversely affect its revenues in the near term.
The overall slow-down in the communications electronics markets has also
impacted the Company's gross margins and operating income. The Company's cost of
goods sold for the fiscal 2001 periods has been adversely affected by the
underutilization of its manufacturing capacity. Cost of goods sold for the
fiscal 2001 periods also reflects $206.1 million of inventory reserves across
the Company's product portfolio resulting from the sharply reduced end-customer
demand for digital cellular handsets, set-top boxes, PC peripherals and Internet
infrastructure equipment. In addition, during the first six months of fiscal
2001, the Company recorded $12.9 million of additional provisions for
uncollectible accounts receivable from certain slow-paying customers. The
Company believes the underutilization of its manufacturing capacity, changes in
its revenue mix, and other factors will continue to adversely affect its gross
margins and operating income in the near term.
Expense Reduction and Restructuring Initiatives
In March 2001, the Company announced a number of expense reduction initiatives
and a comprehensive business reassessment focused on leveraging its core
capabilities and aligning resources with its highest-growth, highest-margin
market opportunities. The expense reduction initiatives include workforce
reductions, temporary shutdowns of the Company's manufacturing facilities,
significant reductions in capital spending, the consolidation of certain
facilities, and salary reductions of 10% for the senior management team until
the Company returns to profitability.
The workforce reduction, which began in the second quarter of fiscal 2001, is
expected to be completed by September 2001. When complete, the Company's
worldwide workforce will be reduced by approximately 1,500 full-time employees
and an additional 100 contractors, for a total workforce reduction of almost 20
percent. During the second quarter of fiscal 2001, the Company's workforce was
reduced by nearly 700 employees. In April 2001, the Company idled its wafer
fabrication facilities in Newport Beach and Newbury Park, California and its
assembly and test facilities in Mexicali, Mexico for a two-week period. The
three plants may be idled for a similar period during the Company's fourth
fiscal quarter.
The Company is also conducting a comprehensive reassessment of its operations to
focus investment and resources in the areas that best support the Company's
strategic growth drivers--the Internet infrastructure, mobile communications and
broadband access markets. As a result of this process, the Company is currently
exploring strategic alternatives for its digital imaging business, which
includes complementary metal-oxide semiconductor ("CMOS") image sensors and
digital camera processors, and intends to enter into discussions with potential
investors and buyers. The Company also intends to exit its board-level
sub-assembly business and is currently examining the best alternative for
removing its El Paso, Texas module assembly plant from its portfolio. Both of
these actions are targeted for completion by September 30, 2001. However, there
can be no assurance the Company will be successful in these efforts.
In connection with its expense reduction initiatives, the Company recorded a
restructuring charge of $7.6 million in the second quarter of fiscal 2001
related to the workforce reduction and the consolidation of certain facilities.
The Company's continuing business reassessment and expense reduction initiatives
may require further charges for exit costs associated with its digital imaging
business and its board-level sub-assembly business, or other actions.
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Separation of Personal Networking and Mindspeed Technologies Businesses
On March 26, 2001, the Company announced that its Board of Directors had
approved in principle a revised plan for the separation of Mindspeed
Technologies and the Personal Networking business. The separation will be
accomplished by the spin-off of the Personal Networking business to Conexant
shareholders as a new company which will retain the Conexant name. The
separation is subject to the approval of the Company's shareholders and receipt
of a ruling from the Internal Revenue Service that the spin-off will qualify as
a tax-free distribution. There can be no assurance that the shareholder approval
or the IRS ruling will be obtained, or that the separation will be successfully
completed.
NET REVENUES
The following table summarizes the Company's net revenues by business segment:
Three months ended March 31, Six months ended March 31,
------------------------------ ---------------------------------
2001 Change 2000 2001 Change 2000
-------- ------ -------- -------- ------ ----------
(in thousands)
Net revenues:
Personal Networking........... $169,718 (55)% $376,504 $414,174 (46)% $ 767,920
Mindspeed Technologies........ 81,285 (35)% 125,224 247,190 1% 243,771
-------- -------- -------- ----------
$251,003 (50)% $501,728 $661,364 (35)% $1,011,691
======== ======== ======== ==========
As a percentage of Conexant's
total net revenues:
Personal Networking........... 68% 75% 63% 76%
Mindspeed Technologies........ 32% 25% 37% 24%
Personal Networking
The following table summarizes the net revenues of the Personal Networking
segment by product category:
Three months ended March 31, Six months ended March 31,
------------------------------ -------------------------------
2001 Change 2000 2001 Change 2000
-------- ------ -------- -------- ------ --------
(in thousands)
Net revenues:
Personal Computing............ $ 67,012 (63)% $179,290 $142,127 (62)% $369,386
Personal Imaging.............. 11,200 (60)% 28,116 35,919 (39)% 59,292
Digital Infotainment.......... 35,185 (52)% 73,140 95,970 (32)% 140,266
Wireless Communications....... 56,321 (41)% 95,958 140,158 (30)% 198,976
-------- -------- -------- --------
$169,718 (55)% $376,504 $414,174 (46)% $767,920
======== ======== ======== ========
As a percentage of Conexant's
total net revenues:
Personal Computing............ 27% 36% 22% 36%
Personal Imaging.............. 5% 5% 5% 6%
Digital Infotainment.......... 14% 15% 15% 14%
Wireless Communications....... 22% 19% 21% 20%
------- -------- -------- --------
68% 75% 63% 76%
======= ======== ======== ========
Personal Computing product revenues reflect a decline in unit shipments of
dial-up modem solutions resulting from the extremely weak consumer/end-user
demand for PCs and related peripheral devices, and the excess channel inventory
build-up by PC OEMs. Revenues from embedded modem solutions also decreased due
to weak consumer demand during the period.
Personal Imaging product revenues principally reflect lower unit shipments of
semiconductor products for fax modem applications resulting from a significant
slowdown in consumer demand in the United States and Europe, as well as excess
channel inventory build-ups by OEMs.
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Digital Infotainment product revenues declined due to lower demand for media
processing products, including video encoders and decoders, as a result of the
overall weakness in demand for consumer PCs, and reduced demand for legacy
low-speed modems used in satellite set-top box applications. Net revenues from
the strategic broadband communications portfolio, including cable modems and
satellite set-top box tuners and demodulators were similarly affected by lower
consumer demand and high levels of component inventories at OEMs.
Wireless Communications product revenues reflect an overall softer global demand
for digital cellular handsets. Net revenues from digital cellular components,
subsystems, and system-level products, primarily for code division multiple
access ("CDMA") applications, declined as a result of lower subsidies of new
digital cellular handsets by service providers and a slower transition to
next-generation phones. The Company also experienced lower sales volume from
900MHz digital cordless telephone chipsets.
Mindspeed Technologies
Net revenues for Mindspeed Technologies for the second quarter of fiscal 2001
reflect the sharply lower end-user demand for networking equipment which has
affected Mindspeed Technologies, its customers, and its competitors. ISPs and
CLECs have dramatically reduced their investment in network capacity expansion
as their business models fail to generate sufficient cash flow. Incumbent local
exchange carriers and inter-exchange carriers have also reduced their capital
spending. Demand has been further affected by higher-than-normal levels of
equipment and component inventories among many OEM, subcontractor, and
distributor customers. As a result, Mindspeed Technologies has experienced a
steep decline in revenues from its AnyPort(TM) family of multi-service access
processors and, to a lesser extent, its high-speed DSL products. The declines
were partially offset by increased sales of optical networking, ATM, network
processor and T/E carrier products used in network infrastructure equipment for
metropolitan and optical backbone networks. For the first six months of fiscal
2001, Mindspeed Technologies net revenues increased slightly compared to the
prior year period as strong first quarter sales of optical networking, ATM,
network processor and T/E carrier products offset the decline in sales of
multi-service access processors.
GROSS MARGIN
Three months ended March 31, Six months ended March 31,
------------------------------ -------------------------------
2001 Change 2000 2001 Change 2000
-------- ------ -------- ------- ------ --------
(in thousands)
Gross margin.................... $(83,165) (136)% $232,269 $30,593 (93)% $464,786
Percent of net revenues....... nm 46% 5% 46%
-----------
nm = not meaningful
Cost of goods sold consists predominantly of purchased materials, labor and
overhead (including depreciation) associated with product manufacturing, royalty
and other intellectual property costs, warranties and sustaining engineering
expenses pertaining to products sold. Gross margins for the fiscal 2001 periods
reflect the impact of lower revenues on a base of relatively fixed manufacturing
support costs. Gross margins for the second quarter and first six months of
fiscal 2001 also reflect additional inventory reserves of approximately $148.6
million and $206.1 million, respectively. The inventory reserves resulted from
the sharply reduced end-customer demand for digital cellular handsets, set-top
boxes, PC peripherals and Internet infrastructure equipment. The Company
anticipates that its gross margins in the near term will continue to be
adversely affected by underutilization of its manufacturing facilities, lower
quarterly revenues, and other factors. The Company may also be affected by
higher energy costs resulting from the electrical power shortages currently
affecting the state of California.
RESEARCH AND DEVELOPMENT
Three months ended March 31, Six months ended March 31,
------------------------------ -------------------------------
2001 Change 2000 2001 Change 2000
-------- ------ -------- -------- ------ --------
(in thousands)
Research and development...... $128,879 29% $100,095 $247,417 31% $188,572
Percent of net revenues....... 51% 20% 37% 19%
The Company continues to focus its research and development ("R&D") investment
principally in the areas of Internet infrastructure, mobile communications and
broadband access. The increase in R&D expenses primarily reflects higher
headcount and personnel-related costs of the Company's expanded development
efforts and the
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accelerated launch of new products. As a result of the acquisition of ten
businesses and its recruiting programs, the Company increased its engineering
team by more than 340 engineers since March 2000.
SELLING, GENERAL AND ADMINISTRATIVE
Three months ended March 31, Six months ended March 31,
-------------------------------- ---------------------------------
2001 Change 2000 2001 Change 2000
------- ------ ------- -------- ------ --------
(in thousands)
Selling, general and
administrative.............. $89,741 36% $66,024 $170,117 27% $134,192
Percent of net revenues....... 36% 13% 26% 13%
The increase in selling, general and administrative ("SG&A") expenses for the
first six months of fiscal 2001 compared to the comparable fiscal 2000 period
primarily reflects the addition of the selling, marketing and administrative
teams of the businesses acquired in fiscal 2000 and the expansion of the
Company's sales and marketing organizations, including an increase in the
worldwide sales force to over 330 personnel to support anticipated future sales
growth. The increase also reflects the continued development of corporate
infrastructure, including the Company's information systems, human resources and
finance teams, partially in support of the planned separation of the Mindspeed
Technologies and Personal Networking businesses. SG&A expenses for the second
quarter and first six months of fiscal 2001 also reflect provisions of
approximately $9.7 million and $12.9 million, respectively, for uncollectible
accounts receivable from certain slow-paying customers. The Company expects SG&A
expenses, excluding provisions for uncollectible accounts receivable, for the
second half of fiscal 2001 to decrease from current levels as a result of its
recently-implemented cost-reduction initiatives
AMORTIZATION OF INTANGIBLE ASSETS
Three months ended March 31, Six months ended March 31,
------------------------------ ------------------------------
2001 Change 2000 2001 Change 2000
------- ------ ------- -------- ------ -------
(in thousands)
Amortization of intangible
assets......................... $84,040 nm $25,337 $166,344 nm $27,742
--------------
nm = not meaningful
The higher amortization expense in the fiscal 2001 periods resulted from the ten
business acquisitions completed during fiscal 2000. In connection with these
acquisitions, the Company recorded an aggregate of $1.6 billion of identified
intangible assets and goodwill. These assets are being amortized over their
estimated lives (principally five years). Consequently, the Company expects to
record amortization expense related to goodwill and intangible assets in excess
of $320 million annually for five years.
RESTRUCTURING CHARGE
During the second quarter of fiscal 2001, the Company announced a number of cost
reduction initiatives to align its cost structure with the current business
environment. The cost reduction initiatives include workforce reductions,
temporary shutdowns of the Company's manufacturing facilities, significant
reductions in capital spending, the consolidation of certain facilities, and
salary reductions of 10% for the senior management team until the Company
returns to profitability. When complete, the Company's worldwide workforce will
be reduced by approximately 1,500 full-time employees and an additional 100
contractors, for a total workforce reduction of almost 20 percent.
As a part of its cost reduction initiatives, during the second quarter of fiscal
2001 the Company implemented a 700-employee workforce reduction through
involuntary severance programs and a consolidation of certain facilities. As a
result of these actions, during the quarter ended March 31, 2001 the Company
recorded a restructuring charge of $7.6 million. The charge was based upon
estimates of the cost of severance benefits for affected employees and lease
cancellation and related costs. The actions reduced the Company's workforce in
both the Personal Networking and Mindspeed Technologies segments, including
approximately 500 employees in the Company's manufacturing operations.
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Activity and liability balances related to the restructuring actions through
March 31, 2001 are as follows (in thousands):
Facility
Workforce closing
reductions and other Total
---------- -------- -------
Charged to costs and expenses............ $ 6,778 $800 $ 7,578
Cash payments............................ (1,354) -- (1,354)
------- ---- -------
Restructuring balance, March 31, 2001.... $ 5,424 $800 $ 6,224
======= ==== =======
All of the amounts accrued for these actions are expected to be paid within one
year. Cash payments to complete the restructuring actions will be funded from
available cash reserves and funds from operations, and are not expected to
significantly impact the Company's liquidity. The Company anticipates that these
actions, when fully implemented, will result in a cost savings of approximately
$100 million annually. Initially, the cost savings resulting from these actions
is expected to be approximately $25.0 million during the third quarter of fiscal
2001.
In addition, as part of its continuing business reassessment and expense
reduction initiatives, the Company is currently exploring strategic alternatives
for its digital imaging business and intends to exit its board-level
sub-assembly business. In connection with these anticipated actions, the Company
expects to record additional charges against earnings in the second half of
fiscal 2001.
SEPARATION COSTS
In the second quarter and first six months of fiscal 2001, the Company incurred
costs of approximately $4.3 million and $12.2 million, respectively, related to
the previously-announced separation of the Company into two independent
companies to operate its Mindspeed Technologies and Personal Networking business
segments. The Company anticipates that it will incur additional costs in
connection with its revised plan for the separation of Mindspeed Technologies
and the Personal Networking business.
PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT
During the first six months of fiscal 2000, the Company recorded charges
totaling $145.9 million for the fair value of purchased in-process research and
development ("IPRD") in connection with the acquisitions of Maker
Communications, Inc. and Microcosm Communications Limited. The charges represent
the estimated fair values of the portion of IPRD projects which had been
completed at the time of the acquisitions.
DEBT CONVERSION COSTS
During the first six months of fiscal 2001, approximately $255.1 million
principal amount of the Company's 4-1/4% Convertible Subordinated Notes due 2006
were converted into approximately 11.0 million shares of common stock at a cost
to the Company of $42.6 million.
OTHER INCOME (EXPENSE), NET
Three months ended March 31, Six months ended March 31,
---------------------------- -------------------------------
2001 Change 2000 2001 Change 2000
------- ----- ---- ------- ------ ------
(in thousands)
Other income (expense), net... $(1,021) (210)% $932 $(5,377) (456)% $1,510
Other expense, net for the second quarter of fiscal 2001 is comprised primarily
of interest expense, net of interest income on invested cash balances. Other
expense, net for the first six months of fiscal 2001 reflects a $5.0 million
write-off of certain non-marketable investments, which management determined to
be permanently impaired, and net interest expense on the Company's convertible
subordinated notes. Other income, net for the fiscal 2000 periods reflects net
interest income principally due to lower amounts of debt outstanding during the
periods.
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PROVISION (BENEFIT) FOR INCOME TAXES
For the first six months of fiscal 2001, the Company recorded an income tax
benefit of $152.2 million (24.5% of pretax loss), which reflects the Company's
net loss and the impact of non-deductible debt conversion costs and amortization
of intangible assets. In the similar period of fiscal 2000, the Company recorded
a provision for income taxes of $50.4 million, which reflects the effect of
non-deductible charges for IPRD and amortization of intangible assets relating
to acquisitions completed during the period.
EXTRAORDINARY GAIN ON EXTINGUISHMENT OF DEBT
During the first quarter of fiscal 2001, the Company purchased $35.0 million
principal amount of its 4% Convertible Subordinated Notes due 2007 at prevailing
market prices, resulting in a gain of $11.7 million. Such gain has been
presented in the accompanying statement of operations as an extraordinary item,
net of incomes taxes of $4.4 million.
ADJUSTED EARNINGS
Adjusted income (loss) before extraordinary item and adjusted income (loss) per
share before extraordinary item exclude the amortization of intangible assets
and special charges. Special charges excluded from the fiscal 2001 periods
include debt conversion costs, the restructuring charge, separation costs, the
write-down of certain investments, and stock compensation costs (representing
the amortization of the value of unvested in-the-money stock options assumed by
Conexant in connection with certain business acquisitions). In addition,
adjusted loss before extraordinary item for the fiscal 2001 periods reflects an
income tax benefit based upon a 36% tax rate, which the Company anticipates will
be its effective tax rate for its fiscal year 2001, excluding the amortization
of intangible assets and special charges. These measures of earnings are not in
accordance with, or an alternative for, generally accepted accounting principles
and may not be consistent with measures used by other companies. However, the
Company believes these measures of earnings provide its investors additional
insight on its underlying operating results and the Company uses these measures
internally to evaluate its operating performance.
Adjusted income (loss) before extraordinary item and adjusted income (loss) per
share before extraordinary item is calculated as follows (in thousands, except
per share data):
Three months ended Six months ended
March 31, March 31,
------------------------ ------------------------
2001 2000 2001 2000
--------- --------- --------- ---------
Loss before extraordinary item ............................ $(262,011) $(132,342) $(468,871) $ (80,511)
Amortization of intangible assets ......................... 84,040 25,337 166,344 27,742
Purchased in-process research and development ............. -- 145,900 -- 145,900
Debt conversion costs ..................................... -- -- 42,584 --
Restructuring charge ...................................... 7,578 -- 7,578 --
Separation costs .......................................... 4,270 -- 12,197 --
Stock compensation ........................................ 2,219 -- 4,706 --
Write-down of investments ................................. -- -- 5,000 --
Income taxes .............................................. (23,550) 8,248 (14,409) 7,330
--------- --------- --------- ---------
Adjusted income (loss) before extraordinary item ........ $(187,454) $ 47,143 $(244,871) $ 100,461
========= ========= ========= =========
Adjusted income (loss) per share before extraordinary item:
Basic ................................................... $ (0.77) $ 0.23 $ (1.02) $ 0.50
Diluted ................................................. $ (0.77) $ 0.21 $ (1.02) $ 0.45
Shares used per share computation:
Basic ................................................... 243,515 205,207 239,813 200,962
Diluted ................................................. 243,515 239,644 239,813 234,549
LIQUIDITY AND CAPITAL RESOURCES
Cash used in operating activities was $178.5 million for the first six months of
fiscal 2001, compared to cash provided by operating activities of $104.3 million
for the similar period in fiscal 2000. Operating cash flows for the fiscal 2001
period reflect the Company's net loss of $461.6 million offset by noncash
charges (depreciation and amortization and other) of $379.7 million, and net
increases in the non-cash components of working capital of $96.6 million.
17
18
The fiscal 2001 working capital increases include a $160.6 million decrease in
net receivables, principally due to lower quarterly sales. The Company's
allowance for doubtful accounts increased by $12.8 million during the fiscal
2001 period, resulting from additional reserves taken for certain slow-paying
accounts. The working capital increases also include a $118.7 million increase
in net inventories, before the effect of provisions for excess inventories of
$206.1 million. The additional inventory reserves resulted from sharply reduced
end-customer demand for digital cellular handsets, set-top boxes, PC peripherals
and Internet infrastructure equipment. The working capital increase also
reflects a reduction of accounts payable of $103.9 million and a decrease in
accrued expenses and other current liabilities of $15.9 million resulting from
lower materials purchases and decreased capital spending.
Cash used in investing activities of $474.1 million during the first six months
of fiscal 2001 included net purchases of marketable securities totaling $253.7
million. Capital expenditures totaled $118.8 million during the fiscal 2001
period, primarily for continued investment in production and test facilities and
corporate information systems. In addition, the Company made payments for
investments, advances and acquisitions totaling $101.6 million, including a
vendor advance of $75.0 million and $14.1 million of equity investments,
principally in early-stage communications technology companies. The vendor
advance was made pursuant to an agreement under which the Company receives
foundry capacity to meet current production requirements and to support
anticipated future growth. Cash used in investing activities during the fiscal
2000 period consisted of routine capital expenditures of $160.9 million and
payments for investments, advances and acquisitions totaling $119.0 million.
Cash used in financing activities of $54.4 million during the first six months
of fiscal 2001 principally consisted of $65.0 million paid in connection with
the conversion and repurchase of a portion of the Company's convertible
subordinated notes. During the period, approximately $255.1 million principal
amount of the Company's 4-1/4% Convertible Subordinated Notes due 2006 were
converted into approximately 11.0 million shares of common stock, at a cost to
the Company of $42.6 million. Also during the period, the Company purchased
$35.0 million principal amount of its 4% Convertible Subordinated Notes due 2007
at prevailing market prices, resulting in an extraordinary gain of $11.7
million. These costs were partially offset by proceeds from the exercise of
stock options of $10.6 million. Cash provided by financing activities during the
fiscal 2000 period consisted of net proceeds from the issuance of $650 million
principal amount of 4% Convertible Subordinated Notes due 2007 and proceeds from
the exercise of stock options of $76.6 million.
The Company's principal sources of liquidity are its existing cash reserves and
available-for-sale marketable securities and cash generated from operations.
Combined cash and cash equivalents and marketable securities at March 31, 2001
totaled $438.5 million compared to $944.4 million at September 30, 2000. Working
capital at March 31, 2001 was approximately $818 million compared to $1.3
billion at September 30, 2000. The overall working capital decrease principally
reflects cash used in operations and cash payments for capital expenditures,
investments and advances, and cash paid in connection with reducing the amounts
of the Company's long-term debt.
As a result of its recent operating losses, the Company was not in compliance
with certain covenants under its $475 million credit facility which required it
to meet certain financial ratios tied to its consolidated EBITDA. Following a
period of negotiations between the Company and the lenders under the credit
facility, the parties terminated the credit facility effective as of May 8,
2001. The Company has had no borrowings outstanding under the credit facility
since June 1999.
While the recent dramatic changes in end-user demand and the continued high
levels of channel inventories have reduced visibility into future demand, the
Company expects that these and other factors will continue to affect its
revenues in the near term. The Company believes that further pressure on gross
margin and operating profit will result from underutilization of its
manufacturing capacity. Consequently, the Company anticipates that it will
continue to experience negative cash flows from operations in the near term.
During the second quarter of fiscal 2001, the Company announced a number of
expense reduction initiatives, including workforce reductions, temporary
shutdowns of the Company's manufacturing facilities, the consolidation of
certain facilities, and salary reductions of 10% for senior management. The
Company has also reduced its planned capital expenditures based upon its current
revenue outlook.
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The Company believes that its existing sources of liquidity, along with cash
expected to be generated from future operations, will be sufficient to fund
operations, research and development efforts, and anticipated capital
expenditures for the next twelve months. The Company's manufacturing operations
are capital intensive, and the Company will need to return its capital spending
to prior levels to maintain its manufacturing capacity, or to obtain sufficient
manufacturing capacity to support anticipated future revenue growth. The Company
may also consider acquisition opportunities to extend its technology portfolio
and design expertise and to expand its product offerings. In order to fund
renewed capital expenditures or complete any acquisitions, the Company may seek
to obtain additional debt financing or issue additional shares of its common
stock. However, there can be no assurance that such financing will be available
on terms favorable to the Company, or at all.
CERTAIN BUSINESS RISKS
Our business, financial condition and operating results can be impacted by a
number of factors including, but not limited to, those set forth below, any one
of which could cause our actual results to vary materially from recent results
or from our anticipated future results.
You should carefully consider and evaluate all of the information in this
Report, including the risk factors listed below. Any of these risks could
materially and adversely affect our business, financial condition and results of
operations, which in turn could materially and adversely affect the price of our
common stock or other securities.
We have recently incurred substantial operating losses, and we anticipate
additional future losses.
Our net revenues for the first six months of fiscal 2001 were $661 million
compared to $1.0 billion for the comparable fiscal 2000 period due to sharply
reduced end-customer demand in many of the communications electronics
end-markets which our products address. We incurred a loss (before an
extraordinary gain) of $469 million for the first six months of fiscal 2001.
In March 2001, we announced a number of expense reduction initiatives and a
comprehensive business reassessment focused on leveraging our core capabilities
and aligning resources with our highest-growth, highest-margin market
opportunities. The expense reduction initiatives include workforce reductions,
temporary shutdowns of our manufacturing facilities, significant reductions in
capital spending, the consolidation of certain facilities, and salary reductions
of 10% for our senior management team until we return to profitability. However,
these expense reduction initiatives alone will not return us to profitability.
We expect that reduced end-customer demand, underutilization of our
manufacturing capacity, changes in our revenue mix and other factors will
continue to adversely affect our operating results in the near term and we
anticipate incurring additional losses through fiscal 2001. In order to return
to profitability, we must achieve substantial revenue growth and we currently
face an environment of uncertain demand in the markets our products address. We
cannot assure as to whether or when we will return to profitability or whether
we will be able to sustain such profitability, if achieved.
We operate in the highly cyclical semiconductor industry, which is subject to
significant downturns.
The semiconductor industry is highly cyclical and is characterized by constant
and rapid technological change, rapid product obsolescence and price erosion,
evolving standards, short product life cycles and wide fluctuations in product
supply and demand.
The industry has experienced significant downturns, often in connection with, or
in anticipation of, maturing product cycles (of both semiconductor companies'
and their customers' products) and declines in general economic conditions.
These downturns have been characterized by diminished product demand, production
overcapacity, high inventory levels and accelerated erosion of average selling
prices. We have experienced these conditions in our business in the past, are
currently experiencing a significant downturn, and may experience such downturns
in the future.
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20
During the first six months of fiscal 2001, we--like many of our customers and
competitors--have been adversely impacted by a broad slow-down affecting the
technology sector, including most of the communications electronics end-markets
which our products address. The impact of weakened end-customer demand has been
compounded by higher than normal levels of equipment and component inventories
among our OEM, subcontractor and distributor customers. As a result of this
sharply reduced demand across our product portfolio, we recorded $206.1 million
of inventory reserves in the first six months of fiscal 2001. We expect that
reduced end-customer demand, underutilization of our manufacturing capacity,
changes in our revenue mix and other factors will continue to adversely affect
our operating results in the near term.
In addition, the current environment of weak end-customer demand and high levels
of channel inventories has, in some cases, led to delays in payments for our
products. During the first six months of fiscal 2001, we recorded $12.9 million
of additional provisions for uncollectible accounts receivable from certain
slow-paying customers. In the event that our customers delay payments to us, or
are unable to pay amounts owed to us, we may incur additional losses on our
accounts receivable.
From time to time the semiconductor industry also has experienced periods of
increased demand and production capacity constraints. We may experience
substantial changes in future operating results due to general semiconductor
industry conditions and general economic conditions.
We are subject to intense competition and could lose business to our
competitors.
The semiconductor industry in general and the markets in which we compete in
particular are intensely competitive. We compete worldwide with a number of
United States and international semiconductor manufacturers that are both larger
and smaller than us in terms of resources and market share. We currently face
significant competition in our markets and expect that intense price and product
competition will continue. This competition has resulted and is expected to
continue to result in declining average selling prices for our products. We also
anticipate that additional competitors will enter our markets as a result of
growth opportunities in communications electronics, the trend toward global
expansion by foreign and domestic competitors, technological and public policy
changes and relatively low barriers to entry in certain markets of the industry.
Moreover, as with many companies in the semiconductor industry, customers for
certain of our products offer other products that compete with similar products
offered by us.
We believe that the principal competitive factors for semiconductor suppliers in
our market are:
o time-to-market;
o product performance;
o level of integration;
o price and total system cost;
o compliance with industry standards;
o design and engineering capabilities;
o strategic relationships with customers;
o customer support;
o new product innovation; and
o quality.
The specific bases on which we compete vary by market. We cannot assure you that
we will be able to successfully address these factors.
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Many of our current and potential competitors have certain advantages over us,
including:
o longer operating histories and presence in key markets;
o greater name recognition;
o access to larger customer bases; and
o significantly greater financial, sales and marketing, manufacturing,
distribution, technical and other resources.
As a result, these competitors may be able to adapt more quickly to new or
emerging technologies and changes in customer requirements or may be able to
devote greater resources to the development, promotion and sale of their
products than we can.
Current and potential competitors also have established or may establish
financial or strategic relationships among themselves or with our existing or
potential customers, resellers or other third parties. These relationships may
affect customers' purchasing decisions. Accordingly, it is possible that new
competitors or alliances among competitors could emerge and rapidly acquire
significant market share. We cannot assure you that we will be able to compete
successfully against current and potential competitors.
Many of our competitors have combined with each other and consolidated their
businesses, including the consolidation of competitors with our customers. This
is attributable to a number of factors, including the high-growth nature of the
communications electronic industry and the time-to-market pressures on suppliers
to decrease the time required for product conception, research and development,
sampling and production launch before a product reaches the market. This
consolidation trend is expected to continue, since investments, alliances and
acquisitions may enable semiconductor suppliers, including us and our
competitors, to augment technical capabilities or to achieve faster
time-to-market for their products than would be possible solely through internal
development.
Consolidations by industry participants, including in some cases, acquisitions
of certain of our customers by our competitors, are creating entities with
increased market share, customer base, technology and marketing expertise in
markets in which we compete. These developments may significantly and adversely
affect our current markets, the markets we are seeking to serve and our ability
to compete successfully in those markets.
Our success is dependent upon our ability to timely develop new products and
reduce costs.
Our operating results will depend largely on our ability to continue to
introduce new and enhanced semiconductor products on a timely basis. Successful
product development and introduction depends on numerous factors, including,
among others:
o our ability to anticipate customer and market requirements and changes
in technology and industry standards;
o our ability to accurately define new products;
o our ability to timely complete development of new products and bring our
products to market on a timely basis;
o our ability to differentiate our products from offerings of our
competitors; and
o market acceptance of our products.
Furthermore, we are required to continually evaluate expenditures for planned
product development and to choose among alternative technologies based on our
expectations of future market growth. We cannot assure you that we will be able
to develop and introduce new or enhanced products in a timely and cost-effective
manner, that our products will satisfy customer requirements or achieve market
acceptance, or that we will be able to anticipate new industry standards and
technological changes. We also cannot assure you that we will be able to respond
successfully to new product announcements and introductions by competitors.
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In addition, prices of established products may decline, sometimes
significantly, over time. We believe that in order to remain competitive we must
continue to reduce the cost of producing and delivering existing products at the
same time that we develop and introduce new or enhanced products. We cannot
assure you that we will be able to continue to reduce the cost of our products
to remain competitive.
We may be unable to make the substantial research and development investments
required to remain competitive in our business .
The semiconductor industry requires substantial investment in research and
development in order to develop and bring to market new and enhanced products.
We cannot assure you that we will have sufficient resources to develop new and
enhanced technologies and competitive products.
We may not be able to keep abreast of the rapid technological changes in our
markets.
The demand for our products can change quickly and in ways we may not anticipate
because our markets generally exhibit the following characteristics:
o rapid technological developments;
o evolving industry standards;
o changes in customer requirements;
o frequent new product introductions and enhancements; and
o short product life cycles with declining prices over the life cycle of
the product.
Our products could become obsolete sooner than anticipated because of a faster
than anticipated change in one or more of the technologies related to our
products or in market demand for products based on a particular technology,
particularly due to the introduction of new technology that represents a
substantial advance over current technology. Currently accepted industry
standards are also subject to change, which may contribute to the obsolescence
of our products.
We may not be able to attract and retain qualified personnel necessary for the
design, development, manufacture and sale of our products. Our success could be
negatively affected if key personnel leave.
Our future success depends on our ability to continue to attract, retain and
motivate qualified personnel, including executive officers and other key
management and technical personnel. As the source of our technological and
product innovations, our key technical personnel represent a significant asset.
The competition for such personnel is intense in the semiconductor industry. We
cannot assure you that we will be able to continue to attract and retain
qualified management and other personnel necessary for the design, development,
manufacture and sale of our products.
We may have particular difficulty attracting and retaining key personnel during
periods of poor operating performance, given the significant use of equity-based
compensation by our competitors and us. The loss of the services of one or more
of our key employees, including Dwight W. Decker, our Chairman and Chief
Executive Officer, or certain key design and technical personnel, or our
inability to attract, retain and motivate qualified personnel could have a
material adverse effect on our ability to operate our business.
If OEMs of communications electronics products do not design our products into
their equipment, we will have difficulty selling those products. Moreover, a
design win from a customer does not guarantee future sales to that customer.
Our products are not sold directly to the end-user but are components of other
products. As a result, we rely on OEMs of communications electronics products to
select our products from among alternative offerings to be designed into their
equipment. Without these "design wins" from OEMs, we would have difficulty
selling our products. Once an OEM designs another supplier's semiconductors into
its products, it will be more difficult for us to achieve future design wins
with that OEM's product platform because changing suppliers involves significant
cost, time, effort and risk. Achieving a design win with a customer does not
ensure that we will receive significant revenues from that customer. Even after
a design win, the customer is not obligated to purchase our products and can
choose at any time to stop using our products, for example, if its own products
are not commercially successful or for any other reason. We may be unable to
achieve design wins or to convert design wins into actual sales.
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Because of the lengthy sales cycles of many of our products, we may incur
significant expenses before we generate any revenues related to those products.
Our customers may need six months or longer to test and evaluate our products
and an additional six months or more to begin volume production of equipment
that incorporates our products. The lengthy period of time required also
increases the possibility that a customer may decide to cancel or change product
plans, which could reduce or eliminate sales to that customer. As a result of
this lengthy sales cycle, we may incur significant research and development, and
selling, general and administrative expenses before we generate the related
revenues for these products, and we may never generate the anticipated revenues
if our customer cancels or changes its product plans.
Uncertainties involving the ordering and shipment of our products could
adversely affect our business.
Our sales are typically made pursuant to individual purchase orders and we
generally do not have long-term supply arrangements with our customers.
Generally, our customers may cancel orders until 30 days prior to shipment. In
addition, we sell a portion of our products through distributors, some of whom
have rights to return unsold products to us. Sales to distributors accounted for
approximately 19% of fiscal 2000 net revenue and 28% of net revenue in the first
six months of fiscal 2001. We routinely purchase inventory based on estimates of
customer demand for their products, which is difficult to predict. This
difficulty may be compounded when we sell to OEMs indirectly through
distributors or contract manufacturers, or both, as our forecasts of demand are
then based on estimates provided by multiple parties. In addition, our customers
may change their inventory practices on short notice for any reason. The
cancellation or deferral of product orders, the return of previously sold
products or overproduction due to the failure of anticipated orders to
materialize could result in our holding excess or obsolete inventory, which
could result in write-downs of inventory.
Recently, the communications electronics markets which we address have been
characterized by dramatic changes in end-user demand and continued high levels
of channel inventories which have reduced visibility into future demand for our
products. We expect that these and other factors will continue to affect our
revenues in the near term. As a result of sharply reduced demand across our
product portfolio, we recorded $206.1 million of inventory reserves in the first
six months of fiscal 2001.
Our manufacturing process is extremely complex and specialized.
Our manufacturing operations are complex and subject to disruption due to causes
beyond our control. The fabrication of integrated circuits is an extremely
complex and precise process consisting of hundreds of separate steps. It
requires production in a highly controlled, clean environment. Minute
impurities, errors in any step of the fabrication process, defects in the masks
used to print circuits on a wafer or a number of other factors can cause a
substantial percentage of wafers to be rejected or numerous die on each wafer
not to function.
Our operating results are highly dependent upon our ability to produce large
volumes of integrated circuits at acceptable manufacturing yields. Our
operations may be affected by lengthy or recurring disruptions of operations at
any of our production facilities or those of our subcontractors. These
disruptions may include labor strikes, work stoppages, electrical power outages,
fire, earthquake, flooding or other natural disasters. These disruptions could
cause significant delays in shipments until we could shift the products from an
affected facility or subcontractor to another facility or subcontractor.
In the event of these types of delays, we cannot assure you that the required
alternate capacity, particularly wafer production capacity, would be available
on a timely basis or at all. Even if alternate wafer production capacity is
available, we may not be able to obtain it on favorable terms, which could
result in a loss of customers. We may be unable to obtain sufficient
manufacturing capacity to meet demand, either at our own facilities or through
foundry or similar arrangements with others. Certain of our manufacturing
facilities are located near major earthquake fault lines, including our
California and Mexico facilities. We maintain only minimal earthquake insurance
coverage on these facilities.
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Due to the highly specialized nature of the gallium arsenide semiconductor
manufacturing process, in the event of a disruption at our Newbury Park,
California wafer fabrication facility, alternate gallium arsenide production
capacity would not be readily available from third-party sources. Although we
have a multi-year agreement with a foundry that guarantees us access to
additional gallium arsenide wafer production capacity, a disruption of
operations at our Newbury Park wafer fabrication facility or the interruption in
the supply of epitaxial wafers used in our gallium arsenide process could have a
material adverse effect on our business, financial condition and results of
operations, particularly with respect to our Wireless Communications products.
Our long-term revenue growth is also dependent on our ability to achieve a
balance of internal and external manufacturing capacity, including wafer
production capacity. During times when the semiconductor industry is
experiencing an excess of wafer fabrication capacity, we are at a relative
disadvantage when compared to some of our competitors who rely primarily on
outside foundries because our wafer fabrication facilities require substantial
fixed costs and investment. We have recently entered into agreements with
outside foundries to secure external wafer manufacturing capacity, including
additional gallium arsenide wafer production capacity. During times of limited
capacity, internal wafer fabrication facilities ensure that we have access to
manufacturing capacity. We continue to explore wafer manufacturing alternatives,
which may include increased use of outside foundries, entering into new or
expanded business relationships with respect to wafer manufacturing or other
actions related to our wafer manufacturing facilities. We cannot assure you that
we will be successful in implementing any of these alternatives.
We may not be able to achieve manufacturing yields that contribute positively to
our gross margin and profitability.
Minor deviations in the manufacturing process can cause substantial
manufacturing yield loss, and in some cases, cause production to be suspended.
Manufacturing yields for new products initially tend to be lower as we complete
product development and commence volume manufacturing, and will typically
increase as we ramp to full production. Our forward product pricing includes
this assumption of improving manufacturing yields and, as a result, material
variances between projected and actual manufacturing yields have a direct effect
on our gross margin and profitability. The difficulty of forecasting
manufacturing yields accurately and maintaining cost competitiveness through
improving manufacturing yields will continue to be magnified by the
ever-increasing process complexity of manufacturing semiconductor products. Our
manufacturing operations also face pressures arising from the compression of
product life cycles which requires us to bring new products on line faster and
for shorter periods while maintaining acceptable manufacturing yields and
quality without, in many cases, reaching the longer-term, high-volume
manufacturing conducive to higher manufacturing yields and declining costs.
We are dependent upon third parties for the supply of raw materials and
components.
We believe we have adequate sources for the supply of raw materials and
components for our manufacturing needs with suppliers located around the world.
Although we currently purchase wafers used in the production of our
complementary metal oxide semiconductor ("CMOS") products from one major
supplier, such wafers are available from several other suppliers. We are
currently dependent on two suppliers for epitaxial wafers used in the gallium
arsenide semiconductor manufacturing processes at our Newbury Park, California
facility. The number of qualified alternative suppliers for wafers is limited
and the process of qualifying a new wafer supplier could require a substantial
lead-time. Although we historically have not experienced any significant
difficulties in obtaining an adequate supply of raw materials and components
necessary for our manufacturing operations, we cannot assure you that we may not
lose a significant supplier or that a supplier may be unable to meet performance
and quality specifications or delivery schedules.
Our manufacturing operations in California may be adversely affected by power
outages in that state.
We have substantial manufacturing operations in California, which may experience
electric power outages due to the difficulties being experienced by the electric
utility industry in that state. If our California operations were to shut down
due to lack of electric power for extended periods, they might be unable to meet
customers' delivery schedules, thereby adversely affecting our revenue. In
addition, our California operations may experience increased operating expenses
due to inefficiencies resulting from irregular interruptions in electric power
supply, including penalties and fines as a result of being unable to reduce the
power consumption by its manufacturing facilities on short notice in connection
with such interruptions. These operations also will incur increased electric
power costs in
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the future. We are unable to predict how long the difficulties faced by the
electric utility industry in California will continue, or how such difficulties
will be resolved. To the extent they do continue and our operations experience
power outages and/or increases in their cost of electric power, our business
could be adversely affected.
We must incur significant capital expenditures for manufacturing technology and
equipment to remain competitive.
The semiconductor industry is highly capital intensive. Semiconductor
manufacturing requires a constant upgrading of process technology to remain
competitive, as new and enhanced semiconductor processes are developed which
permit smaller, more efficient and more powerful semiconductor devices. We
maintain our own manufacturing, assembly and test facilities, which have
required and will continue to require significant investments in manufacturing
technology and equipment.
We have made substantial capital expenditures and installed significant
production capacity to support new technologies and increased production volume.
We made capital expenditures during fiscal 2000 of approximately $315 million,
compared to approximately $214 million during fiscal 1999. We expect our capital
expenditures for fiscal 2001 will total approximately $190 million.
We cannot assure you that we will have sufficient capital resources to make
necessary investments in manufacturing technology and equipment.
Our success depends on our ability to effect suitable investments, alliances or
acquisitions.
Although we invest significant resources in research and development activities,
the complexity and rapidity of technological changes make it impractical for us
to pursue development of all technological solutions on our own. As part of our
goal to provide advanced semiconductor product systems, we have and will
continue to review on an ongoing basis investment, alliance and acquisition
prospects that would complement our existing product offerings, augment our
market coverage or enhance our technological capabilities. However, we cannot
assure you that we will be able to identify and consummate suitable investment,
alliance or acquisition transactions in the future.
Moreover, if we consummate such transactions, they could result in:
o issuances of equity securities dilutive to our existing shareholders;
o large one-time write-offs;
o the incurrence of substantial debt and assumption of unknown
liabilities;
o the potential loss of key employees from the acquired company;
o amortization expenses related to goodwill and other intangible assets;
and
o the diversion of management's attention from other business concerns.
In fiscal 2000, we recorded charges of $215.7 million for purchased in-process
research and development and amortization expenses of $160.2 million for
acquisition-related intangible assets, principally related to the ten
acquisitions we completed in fiscal 2000. As a result of these acquisitions, we
expect to record amortization expense related to goodwill and intangible assets
in excess of $320 million annually for five years.
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We may have difficulty integrating companies we acquire.
We completed ten acquisitions in fiscal 2000. We evaluate acquisitions on an
ongoing basis and we may make additional acquisitions in the future. Integrating
acquired organizations and their products and services may be expensive,
time-consuming and a strain on our resources. We could face several challenges
integrating current and future acquisitions, including:
o the difficulty of integrating acquired technology into our product
offerings;
o the impairment of relationships with employees and customers;
o the difficulty of coordinating and integrating overall business
strategies and worldwide operations;
o the potential disruption of our ongoing business and distraction of
management;
o the inability to maintain brand recognition of acquired businesses;
o the inability to maintain corporate controls, procedures and policies;
o the failure of acquired features, functions, products or services to
achieve market acceptance; and
o the potential unknown liabilities associated with acquired businesses.
We cannot assure you that we will be able to address these challenges
successfully.
We face a risk that capital needed for our business will not be available when
we need it.
Our $475 million credit facility was recently terminated. We did not use it to
fund our operations, but it was a source of stand-by liquidity. We believe that
cash flows from operations, existing cash reserves and available-for-sale
marketable securities will be sufficient to satisfy our research and
development, capital expenditure, working capital and other financing
requirements for the next twelve months. However, we cannot assure you that this
will be the case. We may need to obtain alternate sources of financing, such as
another credit facility, in the future. We cannot assure you that we will have
access to additional sources of capital on favorable terms or at all.
In addition, we have and will continue to review, on an ongoing basis, strategic
investments and acquisitions, which will help us grow our business. These
investments and acquisitions may require additional capital resources. We cannot
assure you that the capital required to fund these investments and acquisitions
will be available in the future.
We are subject to the risks of doing business internationally.
For fiscal 2000 and the first six months of fiscal 2001, approximately 70
percent and 65 percent, respectively, of our net revenues were from customers
located outside the United States, primarily in the Asia-Pacific and European
countries. In addition, we have facilities and suppliers located outside the
United States, including our assembly and test facility in Mexicali, Mexico and
third-party foundries located in the Asia-Pacific region. Our international
sales and operations are subject to a number of risks inherent in selling and
operating abroad. These include, but are not limited to, risks regarding:
o currency exchange rate fluctuations;
o local economic and political conditions;
o disruptions of capital and trading markets;
o restrictive governmental actions (such as restrictions on transfer of
funds and trade protection measures, including export duties and quotas
and customs duties and tariffs);
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o changes in legal or regulatory requirements;
o limitations on the repatriation of funds;
o difficulty in obtaining distribution and support;
o the laws and policies of the United States and other countries affecting
trade, foreign investment and loans, and import or export licensing
requirements;
o tax laws; and
o limitations on our ability under local laws to protect our intellectual
property.
Because most of our international sales, other than sales to Japan (which are
denominated principally in Japanese yen), are currently denominated in U.S.
dollars, our products could become less competitive in international markets if
the value of the U.S. dollar increases relative to foreign currencies. Moreover,
we may be competitively disadvantaged relative to our competitors located
outside the United States who may benefit from a devaluation of their local
currency. We cannot assure you that the factors described above will not have a
material adverse effect on our ability to increase or maintain our foreign
sales.
Our past operating performance has been impacted by adverse economic conditions
in the Asia-Pacific region, which have increased the uncertainty with respect to
the long-term viability of certain of our customers and suppliers in the region.
Sales to customers in Japan and other countries in the Asia-Pacific region,
principally Taiwan, South Korea and Hong Kong, represented approximately 57
percent and 49 percent, respectively, of our net revenues in fiscal 2000 and the
first six months of fiscal 2001.
We enter into foreign currency forward exchange contracts, principally for the
Japanese yen, to minimize risk of loss from currency exchange rate fluctuations
for foreign currency commitments entered into in the ordinary course of
business. We have not entered into foreign currency forward exchange contracts
for other purposes and our financial condition and results of operations could
be affected (negatively or positively) by currency fluctuations.
Our operating results may be negatively affected by substantial quarterly and
annual fluctuations and market downturns.
Our revenues, earnings and other operating results have fluctuated in the past
and may fluctuate in the future. These fluctuations are due to a number of
factors, many of which are beyond our control. These factors include, among
others:
o changes in end-user demand for the products manufactured and sold by our
customers;
o the effects of competitive pricing pressures, including decreases in
average selling prices of our products;
o production capacity levels and fluctuations in manufacturing yields;
o availability and cost of products from our suppliers;
o the gain or loss of significant customers;
o our ability to develop, introduce and market new products and
technologies on a timely basis;
o new product and technology introductions by competitors;
o changes in the mix of products produced and sold;
o market acceptance of our products and our customers' products;
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o intellectual property disputes;
o seasonal customer demand;
o the timing of receipt, reduction or cancellation of significant orders
by customers; and
o the timing and extent of product development costs.
The foregoing factors are difficult to forecast, and these, as well as other
factors, could materially adversely affect our quarterly or annual operating
results. If our operating results fail to meet the expectations of analysts or
investors, it could materially and adversely affect the price of our common
stock and other securities.
The value of our common stock may be adversely affected by market volatility.
The trading price of our common stock fluctuates significantly. Since our common
stock began trading publicly, the reported sale price of our common stock on the
NASDAQ National Market has been as high as $132.50 and as low as $6.84 per
share. This price may be influenced by many factors, including:
o our performance and prospects;
o the depth and liquidity of the market for our common stock;
o investor perception of Conexant and the industry in which we operate;
o changes in earnings estimates or buy/sell recommendations by analysts;
o general financial and other market conditions; and
o domestic and international economic conditions.
In addition, public stock markets have experienced, and are currently
experiencing, extreme price and trading volume volatility, particularly in high
technology sectors of the market. This volatility has significantly affected the
market prices of securities of many technology companies for reasons frequently
unrelated to or disproportionately impacted by the operating performance of
these companies. These broad market fluctuations may adversely affect the market
price of our common stock.
We may be subject to claims of infringement of third-party intellectual property
rights or demands that we license third-party technology, which could result in
significant expense and loss of our intellectual property rights.
The semiconductor industry is characterized by vigorous protection and pursuit
of intellectual property rights. From time to time, third parties may assert
patent, copyright, trademark and other intellectual property rights to
technologies that are important to our business and may demand that we license
their technology. Any litigation to determine the validity of claims that our
products infringe or may infringe these rights, including claims arising through
our contractual indemnification of our customers, regardless of their merit or
resolution, could be costly and divert the efforts and attention of our
management and technical personnel. We cannot assure you that we would prevail
in litigation given the complex technical issues and inherent uncertainties in
intellectual property litigation. If litigation results in an adverse ruling we
could be required to:
o pay substantial damages;
o cease the manufacture, use or sale of infringing products;
o discontinue the use of infringing technology;
o expend significant resources to develop non-infringing technology; or
o license technology from the third party claiming infringement, which
license may not be available on commercially reasonable terms, or at
all.
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If we are not successful in protecting our intellectual property rights, it may
harm our ability to compete.
We rely primarily on patent, copyright, trademark and trade secret laws, as well
as nondisclosure and confidentiality agreements and other methods, to protect
our proprietary technologies and processes. In addition, we often incorporate
the intellectual property of our customers into our designs, and we have
obligations with respect to the non-use and non-disclosure of their intellectual
property. In the past, we have found it necessary to engage in litigation to
enforce our intellectual property rights, to protect our trade secrets or to
determine the validity and scope of proprietary rights of others, including our
customers. We expect future litigation on similar grounds, which may require us
to expend significant resources and to divert the efforts and attention of our
management from our business operations. We cannot assure you that:
o the steps we take to prevent misappropriation or infringement of our
intellectual property or the intellectual property of our customers will
be successful;
o any existing or future patents will not be challenged, invalidated or
circumvented; or
o any of the measures described above would provide meaningful protection.
Despite these precautions, it may be possible for a third party to copy or
otherwise obtain and use our technology without authorization, develop similar
technology independently or design around our patents. If any of our patents
fails to protect our technology it would make it easier for our competitors to
offer similar products. In addition, effective copyright, trademark and trade
secret protection may be unavailable or limited in certain countries.
We may be liable for penalties under environmental laws, rules and regulations,
which could adversely impact our business.
We use a variety of chemicals in our manufacturing operations and are subject to
a wide range of environmental protection regulations in the United States,
Mexico and Canada. While we have not experienced any material adverse effect on
our operations as a result of such regulations, we cannot assure you that
current or future regulations would not have a material adverse effect on our
business, financial condition and results of operations.
In the United States, environmental regulations often require parties to fund
remedial action regardless of fault. Consequently, it is often difficult to
estimate the future impact of environmental matters, including potential
liabilities. We cannot assure you that the amount of expense and capital
expenditures that might be required to complete remedial actions and to continue
to comply with applicable environmental laws will not have a material adverse
effect on our business, financial condition and results of operations.
We have been designated as a potentially responsible party at one Superfund site
located at a former silicon wafer manufacturing facility and steel fabrication
plant in Parker Ford, Pennsylvania formerly occupied by the semiconductor
systems business of Rockwell. The site was also formerly occupied by Recticon
Corporation and Allied Steel Products Corporation, each of whom has also been
named as a potentially responsible party and each of whom is insolvent. We have
accrued approximately $2.1 million at March 31, 2001 for the cost of groundwater
remediation, including installation of a public water supply line and
groundwater pump and treatment system, as well as routine groundwater sampling.
In addition, we are engaged in two other remediations of groundwater
contamination at our Newport Beach and Newbury Park, California facilities for
which we have accrued approximately $2.3 million for the costs of remediation at
March 31, 2001. Pursuant to our agreement with Rockwell, we have assumed
liabilities in respect of environmental matters related to current and former
operations of Conexant.
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Our management team may be subject to a variety of demands for its attention.
Our management currently faces a variety of challenges, including the
implementation of our expense reduction and restructuring initiatives, the
integration of recently-acquired businesses and the anticipated separation of
the Personal Networking and Mindspeed Technologies businesses. While we believe
that we have sufficient management resources to execute each of these
initiatives, we cannot assure you that we will have these resources or that our
initiatives will be successfully implemented.
Certain provisions in our organizational documents and rights agreement and
Delaware law may make it difficult for someone to acquire control of Conexant.
We have established certain anti-takeover measures that may affect our common
stock and convertible notes. Our restated certificate of incorporation, our
by-laws, our rights agreement with Mellon Investor Services LLC, as rights
agent, dated as of November 30, 1998, as amended, and the Delaware General
Corporation Law contain several provisions that would make more difficult an
acquisition of control of Conexant in a transaction not approved by our board of
directors. Our restated certificate of incorporation and by-laws include
provisions such as:
o the division of our board of directors into three classes to be elected
on a staggered basis, one class each year;
o the ability of our board of directors to issue shares of our preferred
stock in one or more series without further authorization of our
shareowners;
o a prohibition on shareowner action by written consent;
o a requirement that shareowners provide advance notice of any shareowner
nominations of directors or any proposal of new business to be
considered at any meeting of shareowners;
o a requirement that a supermajority vote be obtained to remove a director
for cause or to amend or repeal certain provisions of our restated
certificate of incorporation or by-laws;
o elimination of the right of shareowners to call a special meeting of
shareowners; and
o a fair price provision.
We also have a rights agreement which gives our shareowners certain rights that
would substantially increase the cost of acquiring us in a transaction not
approved by our board of directors.
In addition to the rights agreement and the provisions in our restated
certificate of incorporation and by-laws, Section 203 of the Delaware General
Corporation Law generally provides that a corporation shall not engage in any
business combination with any interested shareowner during the three-year period
following the time that such shareowner becomes an interested shareowner, unless
a majority of the directors then in office approves either the business
combination or the transaction that results in the shareowner becoming an
interested shareowner or specified shareowner approval requirements are met.
We may be responsible for certain federal income tax liabilities that relate to
our spin-off from Rockwell.
In connection with our spin-off from Rockwell, the Internal Revenue Service
issued a tax ruling to Rockwell stating that the spin-off would qualify as a
tax-free reorganization within the meaning of Section 368(a)(1)(D) of the
Internal Revenue Code of 1986, as amended. While the tax ruling generally is
binding on the Internal Revenue Service, the continuing validity of the tax
ruling is subject to certain factual representations and assumptions. We are not
aware of any facts or circumstances that would cause such representations and
assumptions to be untrue.
The Tax Allocation Agreement dated as of December 31, 1998 between Conexant and
Rockwell provides that we will be responsible for any taxes imposed on Rockwell,
Conexant or Rockwell shareowners as a result of either:
o the failure of the spin-off from Rockwell to qualify as a tax-free
reorganization within the meaning of Section 368(a)(1)(D) of the
Internal Revenue Code or
o the subsequent disqualification of the spin-off from Rockwell as a
tax-free transaction to Rockwell under Section 361(c)(2) of the Internal
Revenue Code,
if the failure or disqualification is attributable to certain post-spin-off
actions by or in respect of Conexant (including our subsidiaries) or our
shareowners, such as our acquisition by a third party at a time and in a manner
that would cause such failure or disqualification.
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The Tax Allocation Agreement also provides, among other things, that neither
Rockwell nor Conexant is to take any action inconsistent with, nor fail to take
any action required by, the request for the tax ruling or the tax ruling unless:
o required to do so by law;
o the other party has given its prior written consent; or
o in certain circumstances, a supplemental ruling permitting such action
is obtained.
Rockwell and Conexant have indemnified each other for any tax liability
resulting from each entity's failure to comply with these provisions.
In addition, we effected certain tax-free intragroup spin-offs as a result of
Rockwell's spin-off of Meritor Automotive, Inc. (now ArvinMeritor, Inc.) on
September 30, 1997. The Tax Allocation Agreement provides that we will be
responsible for any taxes imposed on Rockwell, Conexant or Rockwell shareowners
in respect of those intragroup spin-offs if such taxes are attributable to
certain actions taken after the spin-off from Rockwell by or in respect of
Conexant (including our subsidiaries) or our shareowners, such as our
acquisition by a third party at a time and in a manner that would cause the
taxes to be incurred.
If we were required to pay any of the taxes described above, such payments would
be very substantial.
CAUTIONARY STATEMENT
This Quarterly Report contains statements relating to future results of the
Company (including certain projections and business trends) that are
"forward-looking statements" as defined in the Private Securities Litigation
Reform Act of 1995. Actual results may differ materially from those projected as
a result of certain risks and uncertainties. These risks and uncertainties
include, but are not limited to: global economic and market conditions,
including the cyclical nature of the semiconductor industry and the markets
addressed by the Company's and its customers' products; demand for and market
acceptance of new and existing products; successful development of new products;
the timing of new product introductions; the successful integration of
acquisitions; the availability and extent of utilization of manufacturing
capacity and raw materials; pricing pressures and other competitive factors;
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; the successful
implementation of the Company's expense reduction and restructuring initiatives;
the successful separation of the Company's Mindspeed Technologies and Personal
Networking businesses; labor relations of the Company, its customers and
suppliers; the Company's ability to attract and retain qualified personnel;
maintaining a consistent and reliable source of energy; and the uncertainties of
litigation, as well as other risks and uncertainties including those set forth
herein and those detailed from time to time in the filings of the Company with
the Securities and Exchange Commission. These forward-looking statements are
made only as of the date hereof, and the Company undertakes no obligation to
update or revise the forward-looking statements, whether as a result of new
information, future events or otherwise.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's financial instruments include cash and cash equivalents,
marketable securities and long-term debt. The Company's main investment
objectives are the preservation of investment capital and the maximization of
after-tax returns on its investment portfolio. Consequently, the Company invests
in debt securities only of high-credit-quality issuers and limits the amount of
credit exposure to any one issuer. The Company's marketable equity securities
consist of an investment initially entered into for the promotion of business
and strategic objectives. The Company does not use derivative instruments for
speculative or investment purposes.
The Company's cash and cash equivalents are not subject to significant interest
rate risk due to the short maturities of these instruments. As of March 31,
2001, the carrying value of the Company's cash and cash equivalents approximated
fair value. The Company's marketable debt securities (consisting of corporate
and government securities) principally have remaining terms of in excess of one
year. Consequently, such securities are subject to interest rate risk.
Marketable equity securities consist of an equity investment in a semiconductor
company, initially made for the promotion of business and strategic objectives,
which is subject to equity price risk.
All of the Company's marketable securities are classified as available for sale
and, as of March 31, 2001, unrealized gains of $15.3 million (net of related
income taxes of $9.3 million) on these securities are included in accumulated
other comprehensive income. A 10% adverse change in equity prices would result
in an approximate $3.7 million decrease in the fair value of the Company's
marketable equity securities as of March 31, 2001.
The Company's long-term debt consists of convertible subordinated notes with
interest at fixed rates. Consequently, the Company does not have significant
cash flow exposure on its long-term debt. However, the fair value of the
convertible subordinated notes is subject to significant fluctuation due to
their convertibility into shares of the Company's common stock.
The following table shows the fair values of the Company's investments and
long-term debt as of March 31, 2001 (in thousands):
Carrying Value Fair Value
-------------- ----------
Cash and equivalents ....................... $124,144 $124,144
Marketable debt securities ................. 277,682 277,682
Marketable equity securities (including
unrealized gains of $21.3 million)....... 36,683 36,683
Long-term debt ............................. 709,849 391,878
The Company transacts business in various foreign currencies, and is subject to
certain foreign exchange risks, principally arising from customer accounts
receivable at its Japanese subsidiary which are denominated in yen. At March 31,
2001, such receivables totaled approximately $15.0 million. The Company is also
subject to foreign exchange risks relating to certain purchase commitments,
principally denominated in euros. The Company has established a foreign currency
hedging program utilizing foreign currency forward exchange contracts to hedge
certain of its foreign currency transaction exposures (principally to the euro
and the Japanese yen). Under this program, the Company seeks to offset foreign
currency transaction gains and losses with gains and losses on the forward
contracts, so as to mitigate its overall risk of foreign transaction gains and
losses. The Company does not enter into forward contracts for speculative or
trading purposes.
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The table below provides information about the Company's foreign currency
forward exchange contracts as of March 31, 2001. The table presents the notional
amounts (the U.S. dollar equivalent, based on the contract exchange rates) and
the contract foreign currency exchange rates.
Notional Contract Rate Estimated
Amount Per US$1.00 Fair Value
-------- ------------- ----------
(dollars in thousands)
Buy (Sell):
Euro......................... $ 10,926 0.917 $(462)
Japanese yen................. $ (6,111) 114.8 $ 497
Based on the Company's overall currency rate exposure at March 31, 2001, a 10
percent change in currency rates would not have a significant effect on the
consolidated financial position, results of operations or cash flows of the
Company.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On July 29, 1991, Shumpei Yamazaki filed suit against a Japanese subsidiary of
Rockwell in the Tokyo District Court, Twenty-ninth Civil Division for patent
infringement relating to Conexant's facsimile modem chipsets seeking 685 million
yen (approximately $5.6 million based on the exchange rate on April 27, 2001)
and court costs. In October 1998, the District Court rendered its decision
dismissing the suit against Conexant, from which decision Mr. Yamazaki appealed.
On April 12, 1999, Mr. Yamazaki presented his position, as well as additional
causes of action at the first portion of the appellate hearing. The Tokyo High
Court rejected Mr. Yamazaki's additional claims and set the calendar for
appellate hearings. In February 2001, the three-judge Tokyo High Court panel
asked for argument on damages, with the next hearing scheduled for May 23, 2001.
Conexant believes it has meritorious defenses to Mr. Yamazaki's infringement and
damages claims, and is vigorously defending this action.
On May 30, 1997, Klaus Holtz filed suit against Rockwell in the U.S. District
Court for the Northern District of California for patent infringement relating
to Conexant's modem products utilizing the V.42bis standard for data
compression. On September 30, 1998, the Court barred any alleged damages arising
before May 30, 1997. On December 17, 1998, the Court issued an order construing
the claims of the patent. Conexant filed a motion for Summary Judgment of
Non-Infringement on February 22, 1999. A hearing was held thereon on June 14,
1999. On October 25, 1999, the Court found in favor of Conexant and the case was
dismissed. On July 10, 2000, the District Court granted Conexant's motion to
declare the case an exceptional case under 35 U.S.C. 285, and awarded Conexant
$250,000. Holtz filed a notice of appeal to the court of appeals for the Federal
Circuit, challenging the District Court's findings on claim construction,
non-infringement and laches. Conexant began collection efforts on the
approximately $275,000 owed to Conexant by Holtz as a result of the litigation
so far. On August 22, 2000, Holtz filed for bankruptcy protection under Chapter
7 of the bankruptcy laws in the State of California. The Federal Circuit appeals
were placed under the control of the trustee in bankruptcy, and were stayed
pending resolution of the bankruptcy. Conexant has reached an agreement with the
bankruptcy trustee, wherein Holtz' appeals against Conexant will be dismissed
and Conexant will receive a license under Holtz' patents. This agreement is
subject to, and the Company is waiting for, approval of the Bankruptcy Court.
Various other lawsuits, claims and proceedings have been or may be instituted or
asserted against Rockwell or Conexant or their respective subsidiaries,
including those pertaining to product liability, intellectual property,
environmental, safety and health, and employment matters. In connection with the
Company's spin-off from Rockwell, Conexant assumed responsibility for all then
current and future litigation (including environmental and intellectual property
proceedings) against Rockwell or its subsidiaries in respect of the operations
of the semiconductor systems business of Rockwell.
The outcome of litigation cannot be predicted with certainty and some lawsuits,
claims or proceedings may be disposed of unfavorably to the Company. Many
intellectual property disputes have a risk of injunctive relief and there can be
no assurance that a license will be granted. Injunctive relief could have a
material adverse effect on the financial condition or results of operations of
the Company. Based on its evaluation of matters which are pending or asserted
and taking into account the Company's reserves for such matters, management
believes the disposition of such matters will not have a material adverse effect
on the Company's financial condition or results of operations.
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company's annual meeting of shareowners was held on February 28, 2001 in New
York, New York. At the meeting, the following matters were voted on by the
Company's shareowners:
Withheld/
Abstentions/
Broker
For Against non-vote
----------- ------- -----------
Election of directors:
Donald R. Beall 198,024,866 -- 4,358,647
Jerre L. Stead 198,665,290 -- 3,718,223
Proposal to ratify the appointment of Deloitte &
Touche LLP as independent auditors for the Company 199,975,200 914,307 1,494,006
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
12 -- Statement re: Computation of Ratios
(b) Reports on Form 8-K
Report on Form 8-K filed March 27, 2001, reporting expense reduction
initiatives and the expectation of lower second fiscal quarter revenues
(Items 5 and 7).
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
CONEXANT SYSTEMS, INC.
(Registrant)
Date: May 8, 2001 By /s/ Balakrishnan S. Iyer
----------------------------------
Balakrishnan S. Iyer
Senior Vice President and
Chief Financial Officer
(principal financial officer)
Date: May 8, 2001 By /s/ J. Scott Blouin
----------------------------------
J. Scott Blouin
Vice President and
Chief Accounting Officer
(principal accounting officer)
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EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
-------- -----------
12 Statement re: Computation of Ratios