Form 10-K

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended September 28, 2012

Commission file number: 001-31650

MINDSPEED TECHNOLOGIES, INC.

(Exact name of registrant as specified in its charter)

 

Delaware   01-0616769
(State of incorporation)  

(I.R.S. Employer

Identification No.)

4000 MacArthur Boulevard, East Tower   92660-3095
Newport Beach, California   (Zip code)
(Address of principal executive offices)  

Registrant’s telephone number, including area code:

(949) 579-3000

Securities registered pursuant to Section 12(b) of the Act:

 

(Title of Each Class)

 

(Name of Each Exchange on Which Registered)

Common Stock $0.01 par value per share   The NASDAQ Stock Market LLC
(including associated Preferred Share Purchase Rights)  

Securities registered pursuant to Section 12(g) of the Act:

None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨        No  þ

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ¨        No  þ

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

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

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  þ

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

 

Large accelerated filer  ¨

    

Accelerated filer  þ

  Non-accelerated filer  ¨  

Smaller reporting company  ¨

(Do not check if a smaller reporting company)    

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

The aggregate market value of the registrant’s voting and non-voting stock held by non-affiliates of the registrant as of the end of its most recently completed second fiscal quarter was approximately $249.7 million. Shares held by each officer and director and each person owning more than 10% of the outstanding voting and non-voting stock have been excluded from this calculation because such persons may be deemed to be affiliates of the registrant. This determination of potential affiliate status is not necessarily a conclusive determination for other purposes. Shares held include shares of which certain of such persons disclaim beneficial ownership.

The number of outstanding shares of the registrant’s Common Stock as of November 23, 2012 was 41,725,343.

Documents Incorporated by Reference

Portions of the Registrant’s Proxy Statement for the 2013 Annual Meeting of Stockholders, to be filed pursuant to Regulation 14A within 120 days after the end of the 2012 fiscal year, are incorporated by reference into Part III of this Form 10-K.

 

 

 


FORWARD-LOOKING STATEMENTS

This Annual Report on Form 10-K contains statements relating to Mindspeed Technologies, Inc. (including certain projections and business trends) that are “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the Securities Act), and Section 21E of the Securities Exchange Act of 1934, as amended (the Exchange Act), and are subject to the “safe harbor” created by those sections. All statements included in this Annual Report on Form 10-K, other than those that are purely historical, are forward-looking statements. Words such as “expect,” “believe,” “anticipate,” “could,” “target,” “project,” “intend,” “plan,” “seek,” “estimate,” “may,” and “continue,” as well as variations of such words and similar expressions, also identify forward-looking statements. Forward-looking statements in this Annual Report on Form 10-K include, without limitation, statements regarding:

 

   

our expectations regarding the achievement of the potential earnout payments and the collectability of accounts receivable acquired in connection with our acquisition of picoChip Inc. and its wholly owned subsidiaries;

 

   

our belief that the disposition of certain legal proceedings will not have a material adverse effect on our financial condition or results of operations;

 

   

our plans to maintain our position in the 3G small cell base station market as the small cell base station market transitions to dual-mode 3G/4G and 4G-only products;

 

   

the ability of our relationships with leading network infrastructure original equipment manufacturers to facilitate early adoption of our products, enhance our ability to obtain design wins and encourage adoption of our technology in the industry;

 

   

the growth prospects for the network infrastructure equipment and communications semiconductors markets, including increased demand for network capacity, the upgrade and expansion of existing networks, the build-out of networks in developing countries and the application of our technologies to other portions of the network infrastructure;

 

   

our expectation that original equipment manufacturers will outsource more of their semiconductor component requirements to semiconductor suppliers;

 

   

our belief that the markets for semiconductor products addressing the enterprise, broadband access and metro service areas will grow at faster rates than the markets for network infrastructure equipment, in general, and our position to increase our share in those target areas;

 

   

our belief that power efficiency is becoming increasingly important as our customers adopted a variety of energy-efficiency initiatives;

 

   

our belief that our diverse portfolio of semiconductor solutions, combined with our expertise in low-power semiconductor hardware and software and communication systems engineering, has positioned us to capitalize on some of the most significant trends in telecommunications spending;

 

   

our belief that we are well-situated in China and that fiber deployments are being rolled out by the country’s major telecommunications carriers;

 

   

our belief that raw materials, parts and supplies required by our foundry suppliers will remain available in the foreseeable future;

 

   

our belief that the loss or termination of any single patent, license, trade secret, know-how, trademark or copyright would not materially affect our business or financial condition;

 

   

our plans to make substantial investments in research and development and participate in the formulation of industry standards;

 

   

our belief that we can maximize our return on our research and development spending by focusing our investment in what we believe are key growth markets;

 

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the sufficiency of our existing sources of liquidity to fund our operations, research and development efforts, potential earnout payments, anticipated capital expenditures, working capital and other financing requirements, including interest payments on debt obligations, for the next 12 months;

 

   

our estimates regarding our minimum future obligations under our operating leases and our anticipated rental income;

 

   

our restructuring plans, including timing, expected workforce reductions, the expected cost savings under our restructuring plans and the uses of those savings, the timing and amount of payments, the impact on our business, the amounts of future charges to complete our restructuring plans, including any future plans to reduce operating expenses and/or increase revenue;

 

   

our intention to continue to expand our international business activities, including expansion of design and operations centers abroad, and the challenges associated with such expansion;

 

   

our belief that our properties are well maintained, are in good sound operating condition and contain all of the equipment and facilities to operate at present levels;

 

   

our expectations regarding the cyclical nature of the semiconductor industry; and

 

   

the impact of recent accounting pronouncements and the adoption of new accounting standards.

Our expectations, beliefs, anticipations, objectives, intentions, plans and strategies regarding the future are not guarantees of future performance and are subject to risks and uncertainties that could cause actual results, and actual events that occur, to differ materially from results contemplated by the forward-looking statement. These risks and uncertainties include, but are not limited to:

 

   

worldwide political and economic uncertainties and specific conditions in the markets we address;

 

   

fluctuations in our operating results and future operating losses;

 

   

cash requirements and terms and availability of financing;

 

   

successful and timely development and introduction of competitive new products;

 

   

the adverse effect our debt obligations may have on our financial condition;

 

   

constraints in the supply of wafers and other product components from our third-party manufacturers;

 

   

our acquisition of picoChip Inc. and its wholly owned subsidiaries;

 

   

pricing pressures and other competitive factors;

 

   

loss of or diminished demand from one or more key customers or distributors;

 

   

doing business internationally and our ability to successfully and cost effectively establish and manage operations in foreign jurisdictions;

 

   

the expense of and our ability to defend our intellectual property against infringement claims by others;

 

   

lengthy sales cycles;

 

   

our ability to attract and retain qualified personnel;

 

   

order and shipment uncertainty;

 

   

our ability to obtain design wins and develop revenue from them;

 

   

product defects and bugs;

 

   

business acquisitions and investments; and

 

   

our ability to utilize our net operating loss carryforwards and certain other tax attributes.

 

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The forward-looking statements in this report are subject to additional risks and uncertainties, including those set forth in Item 1A — “Risk Factors” and those detailed from time to time in our other filings with the Securities and Exchange Commission. These forward-looking statements are made only as of the date hereof and, except as required by law, we undertake no obligation to update or revise any of them, whether as a result of new information, future events or otherwise. Mindspeed®, Mindspeed Technologies®, Comcerto® and Transcede® are registered trademarks or trademarks of Mindspeed Technologies, Inc. Other brands, names and trademarks contained in this report are the property of their respective owners.

PART I

 

Item 1. Business

Mindspeed Technologies, Inc. (we or Mindspeed) designs, develops and sells semiconductor solutions for communications applications in wireline and wireless network infrastructure equipment, which includes broadband access networks (fixed and mobile), enterprise networks and metropolitan and wide area networks (WAN) (fixed and mobile). We have organized our solutions for these interrelated and rapidly converging networks into three product families: communications convergence processing, which includes small cell wireless equipment; high-performance analog; and WAN communications. Our communications convergence processing products include ultra-low-power, multi-core digital signal processor (DSP) system-on-chip (SoC) products for the fixed and mobile (3G/4G) carrier infrastructure and residential and enterprise platforms. Our high-performance analog products include high-density crosspoint switches, optical drivers, equalization and signal-conditioning solutions that solve difficult switching, timing and synchronization challenges in next-generation optical networking, enterprise storage and broadcast video transmission applications. Our WAN communications portfolio helps optimize today’s circuit-switched networks that furnish much of the Internet’s underlying long-distance infrastructure.

Our products are sold to original equipment manufacturers (OEMs) for use in a variety of network infrastructure equipment, including:

 

   

Communications Convergence Processing — triple-play access gateways for Voice-over-Internet Protocol (VoIP) and data processing platforms; broadband customer premises equipment (CPE) gateways and other equipment that carriers use to deliver voice, data and video services to residential subscribers; Internet Protocol (IP) private branch exchange (PBX) equipment and security appliances used in the enterprise and 3G/4G wireless small cell base stations in the carrier infrastructure;

 

   

High-Performance Analog — next-generation fiber access network equipment (including passive optical networking, or PON, systems); switching and signal conditioning products supporting fiber-to-the-premise, optical transport networks (OTN), storage and server systems and broadcast video, inclusive of routers and other systems that are driving the migration to 3G high-definition (HD) transmission; and

 

   

WAN Communications — circuit-switched networking equipment that implements asynchronous transfer mode (ATM) and T1/E1 and T3/E3 communications protocols.

Our customers include Alcatel-Lucent SA, Cisco Systems, Inc., Huawei Technologies Co. Ltd., Hitachi Ltd., LM Ericsson Telephone Company, Mitsubishi Electric Corporation, Nokia Siemens Networks and Zhongxing Telecom Equipment Corp., among others.

We believe the breadth of our product portfolio, combined with more than three decades of experience in semiconductor hardware, software and communications systems engineering, provides us with a competitive advantage. We have proven expertise in signal, packet and transmission processing technologies, which are critical core competencies for successfully defining, designing and implementing advanced semiconductor products for next-generation network infrastructure equipment. We have cultivated and continue to initiate and foster close relationships with leading network infrastructure OEMs to understand emerging markets, technologies and standards. We focus our research and development efforts on applications in the segments of

 

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the telecommunications network which we believe offer the most attractive growth prospects. Our business is fabless, which means we outsource all of our manufacturing needs, and we do not own or operate any semiconductor manufacturing facilities. We believe being fabless allows us to minimize operating infrastructure and capital expenditures, maintain operational flexibility and focus our resources on the design, development and marketing of our products.

Mindspeed was originally incorporated in Delaware in 2001 as a wholly owned subsidiary of Conexant Systems, Inc. On June 27, 2003, Conexant completed the distribution to Conexant stockholders of all outstanding shares of common stock of Mindspeed. Prior to the distribution, Conexant transferred to us the assets and liabilities of its Mindspeed business, including the stock of certain subsidiaries, and certain other assets and liabilities, which were allocated to us under the distribution agreement entered into between us and Conexant. Also, prior to the distribution, Conexant contributed cash to our company in an amount such that at the time of the distribution our cash balance was $100.0 million. We issued to Conexant a warrant to purchase approximately 6.3 million shares of our common stock at a price of $16.25 per share, as adjusted, exercisable for a period of ten years after the distribution. Following the distribution, we began operations as an independent, publicly held company. Our common stock trades on the Nasdaq Global Market under the ticker symbol “MSPD.”

On February 6, 2012, we completed the acquisition of picoChip, Inc. and its wholly owned subsidiaries (picoChip). picoChip is a supplier of integrated SoC solutions for small cell base stations. The acquisition expands our small cell base station product portfolio, which addresses the next generation mobile broadband communications infrastructure.

We operate a single business segment which designs, develops and sells semiconductor solutions for communications applications in wireline and wireless network infrastructure equipment, which includes broadband access networks (fixed and mobile), enterprise networks and metropolitan and wide area networks (fixed and mobile). The financial information for this segment is reported in Item 8. Financial Statements and Supplementary Data of this Form 10-K.

Industry Overview

Communications semiconductor products are a critical part of network infrastructure equipment. Network infrastructure OEMs require advanced communications semiconductor products — such as low-power, multi-core DSP SoC solutions, as well as switching and signal timing and conditioning solutions — that are highly optimized for the equipment employed by their customers. We seek to provide semiconductor products that enable network infrastructure OEMs to meet the needs of their service provider and enterprise customers in terms of system performance, functionality and time-to-market.

Addressed Markets

Our semiconductor products are primarily focused on network infrastructure equipment applications in three areas of the broadly defined communications network: broadband access service areas, including wireless and wireline infrastructure networks, enterprise networks, and metropolitan and wide area networks. The type and complexity of network infrastructure equipment used in these network areas continues to expand, driven by the need for the processing, transmission and switching of digital voice, data and video traffic over multiple communication media, at numerous transmission data rates and employing different protocols.

Broadband Access service areas of the telecommunications network refer to the “last mile” of a telecommunications or cable service provider’s physical network (including copper, fiber optic or wireless transmission), including network infrastructure equipment that connects end-users (typically located at a business or residence) with metropolitan and wide area networks. For this portion of the network, infrastructure equipment requires semiconductors that enable reliable, high-speed connectivity capable of aggregating or disaggregating and transporting multiple forms of voice, data and video traffic. In addition, communications semiconductors must accommodate multiple transmission standards and communications protocols to provide a bridge between dissimilar access networks; for example, connecting wireless base station equipment to a wireline network, and

 

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enabling the computationally complex processing that is required in order for carriers to meet cellular data service demands with limited available spectrum. Typical network infrastructure equipment found at the edge of the broadband access service area that use our products include optical node units, optical line terminals, remote access concentrators, digital subscriber line (DSL) access multiplexers, broadband customer premises equipment gateways, mixed-media gateways, wireless base stations, digital loop carrier equipment and media converters.

Included in the Broadband Access service area are the sales of our wireless SoCs to OEMs that manufacture small cells. Small cells have been developed for the 3G/HSPA and 4G/LTE networks to increase wireless voice and data coverage as demands on the networks rapidly increase. Carriers across the globe, including AT&T, Verizon, Sprint, Telefonica, China Mobile, Korea Telecom and SK Telecom, et al, have announced plans to roll out 4G/LTE and small cell networks, highlighting the potential demand for our products.

Enterprise networks include equipment that enables voice and data communications and access to outside networks, and is deployed primarily in the offices of commercial enterprises, including specialized commercial segments, such as broadcast video production, which have demanding network requirements. An enterprise network may be comprised of many local area networks, as well as client workstations, centralized database management systems, storage area networks (SANs) and other components. In enterprise networks, communications semiconductors facilitate the processing and transmission of voice, data and video traffic in converged IP networks that are replacing the traditional separate telephone, data and video conferencing networks. Typical network infrastructure equipment found in enterprise networks that use our products include voice and media gateways, IP PBXs, SAN routers, director-class switches and emerging enterprise-class wireless base station systems for enhanced mobile enterprise service delivery. In addition, a major trend in the broadcast video segment of the enterprise networking market is the switch from analog to digital television transmission and the conversion from standard-definition television services to high-definition television (HDTV) services featuring more detailed images and digital surround sound. We offer a family of broadcast-video products optimized for high-speed HDTV routing and production switcher applications.

Metropolitan and Wide Area Networks refer to the portion of a service provider’s physical network that enables high-speed communications within a city or a larger regional area, including inexpensive mobile backhaul services for wireless communications carriers. In addition, this portion of the network provides the communications link between broadband access service areas and the fiber optic-based, wide area network. For metro equipment applications, our communications semiconductors provide transmission and processing capabilities, as well as information segmentation and classification, and routing and switching functionality, to support high-speed traffic from multiple sources employing different transmission standards and communications protocols. These functions require signal conversion, signal processing and packet processing expertise to support the design and development of highly integrated mixed-signal devices combining analog and digital functions with communications protocols and application software. Typical network infrastructure equipment found in metro service areas that use our products includes add-drop multiplexers, switches, high-speed routers, digital cross-connect systems, optical edge devices and multiservice provisioning platforms. The market for metropolitan and wide area networks has declined over the past two years and it may continue this trajectory.

The telecommunications network, including the Internet, has evolved into a complex, hybrid series of converging digital and optical networks that connect individuals and businesses globally. These new higher-bandwidth, data-centric networks integrate voice, data and video traffic, operate over both wired and wireless media, link existing voice and data networks and cross traditional enterprise, broadband access, metro and long haul service area boundaries. Network infrastructure OEMs are designing faster, more intelligent and more complex equipment to satisfy the needs of service providers as they continue to expand their network coverage and service offerings while upgrading and connecting or integrating existing networks of disparate types. In this demanding environment, we believe network infrastructure OEMs select as their strategic partners communications semiconductor suppliers who can deliver advanced products that provide increased functionality, lower total system cost and support for a variety of communications media, operating speeds and protocols.

 

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The Mindspeed Approach

We believe the breadth of our product portfolio, combined with our expertise in low-power semiconductor hardware and software and communications systems engineering, provide us with a competitive advantage in designing and selling our products to leading network infrastructure OEMs.

We have proven expertise in signal, packet and transmission processing technologies. Signal processing involves both signal conversion and digital signal processing techniques that convert and compress voice, data and video between analog and digital representations. Packet processing involves bundling or segmenting information traffic using standard protocols such as IP or ATM and enables sharing of transmission bandwidth across a given communication medium. Transmission processing involves the transport and receipt of voice, data and video traffic across copper wire and optical fiber communications media.

These core technology competencies are critical for developing semiconductor networking solutions that enable the processing, transmission and switching of high-speed voice, data and video traffic, employing multiple communications protocols, across disparate communications networks. Our core technology competencies are the foundation for developing our:

 

   

low-power semiconductor device architectures, including mixed-signal devices and application-specific multi-core SoC solutions that combine core central processing units, digital signal processors and programmable hardware-accelerated protocol engines plus analog signal processing capabilities;

 

   

highly optimized signal processing algorithms and communications protocols, which we implement in semiconductor devices, including wireless echo-cancellation, wideband voice and advanced video technologies;

 

   

critical software drivers and application software to perform signal, packet and transmission processing tasks, plus programming tools, which customers can use to add their own proprietary value to designs based on our SoCs;

 

   

integration, transmission and receiving of multi-gigabit serial data streams over optical and copper media to solve difficult system challenges in synchronous optical network (SONET), OTN, dense wavelength division multiplexing (DWDM) telecommunications equipment, broadcast video systems, and enterprise storage, networking and computing applications; and

 

   

traditional transmission components for the public switched telephone network (PSTN).

Increasing Demand for Communications Semiconductors

We believe the market for network infrastructure equipment in general, and for communications semiconductors in particular, offers attractive long-term growth prospects for several reasons:

 

   

We anticipate that demand for network capacity will continue to increase, driven by:

 

   

wireless user growth;

 

   

Internet user growth;

 

   

higher network utilization rates as carriers seek to maximize the return on the capital and operational investments in their network infrastructure; and

 

   

growing consumer and business demand for VoIP and other bandwidth-intensive services and applications, such as wireless data transfer and video/multimedia content delivery.

 

   

We believe that incumbent telecommunications carriers, integrated communication service providers and cable multiple service operators worldwide will continue to upgrade and expand legacy portions of their networks to accommodate new service offerings and to reduce operating costs. This upgrade and expansion cycle, along with the development of new, next-generation networks, requires the development

 

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of a variety of new equipment created from advanced semiconductor solutions. Further, we believe such carriers will expand their wireless networks with the implementation of 4G/LTE technologies to enhance the user experience and handle the increased loads on the networks.

 

   

In certain countries, we expect that service providers will continue the build-out of telecommunication networks, including the rollout of 4G/LTE networks, many of which were previously government owned and are now often taking the lead on new technology deployment, ahead of more established regions in terms of creating high-growth market opportunities for the latest advances.

 

   

We also believe that many technologies developed to solve high-speed optical networking challenges also apply to challenges in other portions of the network infrastructure. For instance, high-speed backplanes for DWDM equipment have sophisticated timing and signal-conditioning requirements that are similar to those required in enterprise storage and broadcast video transmission applications. In both cases, advanced silicon is a critical enabler for system designs.

Moreover, we expect that network infrastructure OEMs will outsource more of their semiconductor component requirements to semiconductor suppliers, allowing the OEMs to reduce their operating cost structure by shifting their focus and investment from internal application specific integrated circuit semiconductor design and development to more strategic systems development.

Strategy

Our objective is to grow our business profitably and to become the leading supplier of semiconductor networking solutions to leading global network infrastructure OEMs in key wireline and wireless access market segments, including carrier and enterprise solutions. To achieve this objective, we are pursuing the following strategies:

Focus on Increasing Share in Growth Applications

We have established strong market positions for our products in the enterprise and broadband access (fixed and mobile) service areas of the telecommunications network. We believe the markets for semiconductor products that address these applications will grow at faster rates than the markets for network infrastructure equipment, in general. This key attribute is expected to make enterprise and broadband access attractive markets for the foreseeable future. We believe that our three core technology competencies, coupled with focused investments in product development, will position us to increase our share in those target areas.

Expand Strategic Relationships with Industry-Leading Global Network Infrastructure OEMs and Maximize Design Win Share

We identify and selectively establish strategic relationships with market leaders in the network infrastructure equipment industry to develop next-generation products and, in some cases, customized solutions for their specific needs. We have an extensive history of working closely with our customers’ research and development groups and marketing teams to understand emerging markets, technologies and standards, and we invest our product development resources in those areas. We believe our close relationships with leading network infrastructure OEMs facilitate early adoption of our semiconductor products during development of their system-level products, enhance our ability to obtain design wins from those customers and encourage adoption of our technology throughout the industry.

In North America, we have cultivated close relationships with leading network infrastructure OEMs. We have established close relationships with market leaders such as Huawei Technologies Co., Ltd., and Zhongxing Telecom Equipment Corp. in the Asia-Pacific region and Alcatel-Lucent, Nokia Siemens Networks and LM Ericsson Telephone Company in Europe.

Capitalize on the Breadth of Our Product and Intellectual Property Portfolio

We build on the breadth of our product portfolio of physical-layer devices, together with our signal and packet processing devices and communications software expertise, to increase our share of the silicon content in

 

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our customers’ products. We offer a range of complementary products that are optimized to work with each other and provide our customers with complete information receipt, processing and transmission functions. These complementary products allow infrastructure OEMs to source components that provide proven interoperability from a single semiconductor supplier, rather than requiring OEMs to combine and coordinate individual components from multiple vendors.

In addition, we offer highly integrated products, such as our family of Comcerto packet processors that provide our customers with a complete hardware and software solution in a single device. These integrated products perform functions typically requiring multiple discrete components and software, and combine the programmability of alternative general-purpose DSP solutions with the superior performance and power efficiency of a multi-processor solution with selected application-specific fixed-function acceleration. Our multi-core SoC expertise is also becoming increasingly important as network infrastructure equipment requires more and more computational complexity to solve difficult multi-layered signal processing challenges. To enable the integration of more and more processing cores into SoC devices, we have developed proprietary intellectual property for managing large arrays of DSPs, including task-scheduling technology that has been field-proven and steadily enhanced through several generations of triple-play edge gateways used for complex packet-processing applications.

We believe that this strategy of offering both complementary and integrated products increases product performance, speeds time-to-market and lowers the total system cost for our customers. The breadth of our product portfolio also provides a competitive advantage for serving network convergence applications such as multiprotocol wireless-to-wireline connectivity. These applications generally require a combination of processing, transmission or switching functionality to move high-speed voice and data traffic using multiple communications protocols across disparate communications networks.

Through our efforts in building a large product portfolio, we have developed and we maintain a broad intellectual property portfolio consisting of sophisticated algorithms and other specialized technology, such as the advanced echo-cancellation techniques that have been used in voice ports of carrier telecommunications equipment that our products have enabled. We periodically enter into strategic arrangements to leverage our portfolio by licensing or selling our intellectual property.

Additionally, we have aligned with key strategic partners to collaborate on advanced multi-core SoC architectures that we believe are critical for next-generation, ultra-low-power communications processing solutions. For instance, our work with ARM Holdings plc has resulted in 12 generations of power-efficiency advances, initially for carrier-class convergence processors and more recently for triple-play home-gateway platforms, as well as for our Transcede products for wireless applications. Power efficiency is becoming increasingly important as our customers adopt a variety of energy-efficiency initiatives, including the European Union energy-consumption guidelines for broadband equipment.

Provide Outstanding Technical Support and Customer Service

We provide broad-based technical and product design support to our customers through three dedicated teams: field application engineers, product application engineers and technical marketing personnel. We believe that comprehensive service and support are critical to shortening our customers’ design cycles and maintaining a long-term competitive position within the network infrastructure equipment market. Outstanding customer service and support are important competitive factors for semiconductor component suppliers like us seeking to be the preferred suppliers to leading network infrastructure OEMs.

Products

We provide network infrastructure OEMs with a broad portfolio of advanced semiconductor networking solutions. Our products can be classified into three focused product families: communications convergence processing products, high-performance analog products and WAN communications products. These three product families are found in a variety of wireless and wireline networking equipment designed to process, transmit and switch voice, data and video traffic between, and within, the different segments of the communications network.

 

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Communications Convergence Processing Products

Our communications convergence processing products include the Comcerto and Transcede families of products. Comcerto provides a complete SoC solution for carrier-class video and Voice-over-Packet (VoP) applications. Our Transcede family of 3G/4G base station baseband processors extends our proven multi-core processing expertise into the mobile infrastructure.

In February 2012, we completed our acquisition of picoChip, which expanded our presence in 3G and enabled us to introduce our dual-mode SoCs to meet the demands of networks that require both 3G and 4G capabilities in a single chip.

Our Comcerto family of packet processors includes a full range of software-compatible solutions that enable OEMs to provide scalable systems with customized features for carrier, enterprise and customer premise applications. These products serve as bridges for transporting video, voice, fax and modem transmissions between circuit-switched and packet-based fixed and mobile networks, and across network boundaries. Our DSP device architecture combines the performance of a digital-signal processor core with the flexibility of a microcontroller core to support our extensive suite of voice compression techniques, echo cancellers and communications protocols. These products process and translate voice and data and perform various management and reporting functions. They compress the signals to minimize bandwidth consumption and modify or add communications protocols to accommodate transport of the signals across a variety of different networks. Supported services include video and VoIP, Voice-over-ATM (VoATM) and Voice-over-DSL services, as well as wireline-to-wireless connectivity.

The high-density members of this family, the Comcerto 5000, 900, 700 and 600 series processors and related software, provide a complete SoC solution for carrier-class video and VoP applications. All are targeted for use in media gateways designed to bridge wireless, wireline and enterprise networks.

The Comcerto 100 series broadband services processor is designed to support secure triple-play (voice, video and data) networks for residential and small office/home office markets. The Comcerto 100 series processor integrates high-performance security processing, packet processing and quality of service (QoS) capabilities for next-generation broadband customer premises equipment enabling service providers to deliver sophisticated multi-media content to their subscribers.

The Comcerto 300, 500 and 800 series solutions are designed for access and enterprise voice and data processing applications. The Comcerto 300 series is targeted at VoIP integration in lower density access platforms, such as multi-dwelling units (MDUs), digital subscriber line access multiplexer (DSLAM) equipment and multi-service access nodes (MSANs), and are widely deployed in passive optical network/fiber-to-the-building (PON/FTTB) applications. The Comcerto 500 series is a silicon “PBX-on-a-chip” which supports all required voice processing functionality for up to 128 channels, including encryption. The Comcerto 800 series enables a new class of “office-in-a-box” systems by combining a high-quality VoP subsystem with a high-performance routing and virtual private network (VPN) engine. The Comcerto 800 series integrates voice processing, packet processing and encryption functionality into a single device for the rapidly growing market for VoP enterprise networks. This product is targeted for use in enterprise voice gateways, PBXs and integrated access devices.

The Comcerto 1000 series of low-power embedded packet processers address a wide variety of applications ranging from high-end VoIP enabled home gateways and small-to-midsized business high performance security appliances to Ethernet powered 802.11n enterprise access points. The Comcerto 1000 series of processors delivers scalability, high-performance packet handling capabilities, increased VPN and secure sockets layer (SSL) throughput and industry leading QoS hardware features.

The Comcerto 2000 series builds on the Comcerto 1000 series by increasing performance and adding programmable packet processing engines. This significantly increases the market opportunity, as we can address switching, routing, security, multi-service gateways, enterprise class wireless access points and controllers, network attached storage and VoIP applications for residential, enterprise and networking equipment for small and medium businesses.

 

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Our Transcede family extends our multi-core processor to deliver highly integrated baseband solutions for 3G and dual-mode base stations. Transcede is designed to meet the huge increase in base station diversity and computational complexity caused by the mobile Internet’s migration from a voice-to data-centric mobile network. Transcede is designed to enable the development of a wide range of equipment, from residential small cells to picocells and enterprise femtocells serving a relatively small number of subscribers to microcells and macrocells serving hundreds or thousands of subscribers. Demand for this diverse set of platforms is being driven by the need for carriers to offload mobile data traffic and bridge today’s 3G coverage and performance gaps, while paving the way for next-generation 4G and long-term evolution (LTE) networks.

The Transcede family ranges from cost-effective devices for mass-market residential small cells, through products for the enterprise and to high-performance metrocells and microcells. We have solutions for 3G (both high-speed packet access (HSPA) and time-division synchronous code division multiple access (TD-SCDMA)), for LTE (both time-division duplexing (TDD) and frequency-division duplexing (FDD) and dual-mode, which incorporates both 3G and 4G functionality into a single solution.

The Transcede family includes the T4000, whose processor cores run at 600 MHz, with less than 12 watt power consumption, and the T4020, which features 750 MHz processor cores and typical power consumption less than 15 watts. These devices enable 64-user picocell on a chip, delivering three sectors of LTE processing in a single device, while still providing substantial processing headroom so manufacturers can deploy their own value-added features as part of an overall Transcede-based solution. The Transcede family also includes the Transcede 3000, which is designed for small-cell 3G and 4G base stations supporting up to 32 users. The Transcede processors combine Layer 1 (L1) physical layer (PHY) and Layer 2 (L2) media access control (MAC) functionality on the same device to improve performance and reduce development time and costs.

In fiscal 2012, we introduced the Transcede T2200 and T3300 next-generation SoCs. These are dual-mode solutions with both HSPA and LTE in one device. Our lead customers are currently sampling these new devices. The T2200 is suitable for home and small business applications and the T3300 is suitable for larger enterprises. We also produce the T2100 and T3100 variants for LTE-only single mode.

The picoChip product line is shipping in volume to operators around the world. The products include PC302 for residential, PC323 for enterprise and PC333 for metrocells. The next generation devices (PC3008, PC3024 and PC3032) are being sampled by our customers.

High-Performance Analog Products

Our high-performance analog integrated circuit solutions enable the transport, signal conditioning and switching of high-speed data in telecom and enterprise networks, including fiber-to-the-premise, optical transport networks, storage area networks, local and metro area networks and broadcast video.

Our transport portfolio includes physical layer devices for fiber optics and coaxial connectivity, including laser drivers, limiting amplifiers, transimpedance amplifiers, cable drivers, cable equalizers and cable reclockers. Our signal conditioning products include clock and data recovery circuits, equalizers and serializers/deserializers. Our switching portfolio is comprised of a wide range of non-blocking crosspoint switches with matrix sizes up to 288 x 288.

Our leading-edge analog and mixed signal portfolio enables customers to deliver high-performance systems by:

 

   

enabling longer reach data transmission over fiber or coaxial cables;

 

   

conditioning the signal to remove unwanted noise;

 

   

combining lower speed signals from multiple parallel paths into higher speed serial paths, and vice-versa, for bandwidth economy;

 

   

amplifying and equalizing weaker signals as they pass through a particular system’s equipment, media or network; and

 

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allowing low-latency switching of high-speed data for:

 

   

rerouting of data to new destination points in the network;

 

   

network redundancy; and

 

   

simplifying printed circuit board design.

WAN Communications Products

Our WAN communications products include transmission solutions and high-performance ATM/multi-protocol label switching (MPLS) network processors that facilitate the aggregation, processing and transport of voice and data traffic over copper wire or fiber optic cable to access metropolitan and long-haul networks.

Our high-performance ATM/MPLS network processors, and T1/E1, T3/E3 and SONET carrier devices are designed for use in a variety of equipment including digital loop carriers, DSL access multiplexers, add-drop multiplexers, switches, high-speed routers, digital cross-connect systems, optical edge devices, multiservice provisioning platforms, voice gateways, wireless backhaul and wireless base station controllers.

Customers

We market and sell our semiconductor networking solutions directly to leading network infrastructure OEMs. We also sell our products indirectly through electronic component distributors and third-party electronic manufacturing service providers, which manufacture products incorporating our semiconductor networking solutions for OEMs. Sales to distributors accounted for approximately 65% of our revenue for fiscal 2012. For fiscal 2012, distributor Alltek Technology Corporation accounted for 26% of our net revenue and distributor Avnet, Inc. accounted for 21% of our net revenue.

Our top direct OEM customer for fiscal 2012 was Zhongxing Telecom Equipment Corp. (ZTE), who accounted for 7% of our net revenue. Huawei Technologies Co. Ltd. was also a significant direct OEM customer and accounted for a total of 6% of our net revenue. We believe that our significant indirect network infrastructure OEM customers for fiscal 2012 also included Mitsubishi Electric Corporation, Oki Electric Industry Co., Ltd and Alcatel-Lucent.

Our customer base is dispersed geographically. Revenue derived from customers located in the Americas region was 17%, in the Europe region was 7% and in the Asia-Pacific region was 76% of our total net revenue for fiscal 2012. We believe a portion of the products we sell to OEMs and third-party manufacturing service providers in the Asia-Pacific region is ultimately shipped to end-markets in the Americas and Europe. See Item 8 “Financial Statements and Supplementary Data,” including Note 3 and Note 17 of Notes to Consolidated Financial Statements for additional information on customers and geographic areas.

Sales, Marketing and Technical Support

We have a worldwide sales, marketing and technical support organization that is currently comprised of 78 employees located in three domestic and eight international sales locations. Our marketing, sales and field applications engineering teams, augmented by 12 electronic component distributors and one sales representative organization, focus on marketing and selling semiconductor networking solutions to worldwide network infrastructure OEMs.

We maintain close working relationships with our customers throughout their lengthy product development cycle. Our customers may need six months or longer to test and evaluate our products and an additional six months or longer to begin volume production of network infrastructure equipment that incorporates our products. During this process, we provide broad-based technical and product design support to our customers through our field application engineers, product application engineers and technical marketing personnel. We believe that providing comprehensive product service and support is critical to shortening our customers’ design cycles and maintaining a competitive position in the network infrastructure equipment market.

 

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Operations and Manufacturing

We are a fabless company, which means we do not own or operate foundries for wafer fabrication or facilities for device assembly and final test of our products. Instead, we outsource wafer fabrication, assembly and testing of our semiconductor products to independent, third-party contractors. We use mainstream digital complementary metal-oxide semiconductor (CMOS) process technology for the majority of our products; we rely on specialty processes for the remainder of our products. Taiwan Semiconductor Manufacturing Co., Ltd. (TSMC) is our principal foundry supplier of CMOS wafers and die and produces some of our specialty process products. We use several other suppliers for wafers used in older products. We believe that the raw materials, parts and supplies required by our foundry suppliers are generally available at present and will remain available in the foreseeable future.

Semiconductor wafers are usually shipped to third-party contractors for device assembly and packaging where the wafers are cut into individual die, packaged and tested before final shipment to customers. We use Amkor Technology, Inc., Advanced Semiconductor Engineering, Inc. (ASE) and other third-party contractors, located in the Asia-Pacific region, Europe and California, to satisfy a variety of assembly and packaging technology and product testing requirements associated with the back-end portion of the manufacturing process.

We qualify each of our foundry and back-end process providers. This qualification process consists of a detailed technical review of process performance, design rules, process models, tools and support, as well as analysis of the subcontractor’s quality system and manufacturing capability. We also participate in quality and reliability monitoring through each stage of the production cycle by reviewing electrical and parametric data from our wafer foundry and back-end providers. We closely monitor wafer foundry production for overall quality, reliability and yield levels.

Competition

The communications 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 (U.S.) and international suppliers that are both larger and smaller than us in terms of resources and market share. We expect intense competition to continue.

Our principal competitors are Cavium Networks Inc., Freescale Semiconductor, Inc., Semtech Corporation (based on the acquisition of Gennum Corporation), Maxim Integrated Products, Inc., PMC-Sierra, Inc., Texas Instruments Inc. and Vitesse Semiconductor Corporation. With the introduction of our wireless SoCs, we now also compete with Broadcom Corporation and Qualcomm Incorporated.

We believe that the principal competitive factors for semiconductor suppliers in each of our served markets are:

 

   

time-to-market;

 

   

product quality, reliability and performance;

 

   

comprehensive product service and customer support;

 

   

price and total system cost;

 

   

new product innovation;

 

   

compliance with industry standards;

 

   

design wins;

 

   

market acceptance of our, or our competitors’ products;

 

   

production efficiencies; and

 

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general economic conditions.

While we believe that we compete favorably with respect to each of these factors, many of our current and potential competitors have certain advantages over us, including:

 

   

stronger financial position and liquidity;

 

   

longer, or stronger, presence in key markets;

 

   

greater name recognition;

 

   

more secure supply chain;

 

   

lower cost alternatives to our products;

 

   

access to larger customer bases; and

 

   

significantly greater sales and marketing, manufacturing, distribution, technical and other resources.

As a result, these competitors may be able to devote greater resources to the development, promotion and sale of their products than we can. Our competitors may also be able to adapt more quickly to new or emerging technologies and changes in customer requirements or may be more able to respond to the cyclical fluctuations or downturns that affect the semiconductor industry from time to time. If we are not successful in assuring our customers of our financial stability, our OEM customers may choose semiconductor suppliers whom they believe have a stronger financial position or liquidity, which may materially adversely affect our business.

Backlog

Our sales are made primarily pursuant to standard purchase orders for delivery of products. Because industry practice allows customers to cancel orders with limited advance notice to us prior to shipment, we believe that backlog as of any particular date is not a reliable indicator of our future revenue levels.

Research and Development

We have significant research, development, engineering and product design capabilities. We currently have 378 employees engaged in research and development activities. On research and development activities, we spent approximately $67.9 million in fiscal 2012, $59.2 million in fiscal 2011 and $51.4 million in fiscal 2010. We perform research and product development activities at our headquarters in Newport Beach, California and at 10 design centers. In order to enhance the cost-effectiveness of our operations, we have increasingly sought to shift portions of our research and development operations to regions with lower cost structures than that available in the United States. Our design centers are strategically located to take advantage of key technical and engineering talent. Our success depends to a substantial degree upon our ability to timely develop and introduce new products and enhancements to our existing products that meet changing customer requirements and emerging industry standards. We have made and plan to make substantial investments in research and development and to participate in the formulation of industry standards. In addition, we actively collaborate with technology leaders to define and develop next-generation technologies.

Intellectual Property

Our success and future revenue growth depend, in part, on the intellectual property that we own and develop, including patents, licenses, trade secrets, know-how, trademarks and copyrights, and on our ability to protect our intellectual property. We continuously review our patent portfolio to maximize its value to us and abandon or sell inapplicable or less useful patents. Our patent portfolio may be used to avoid, defend or settle any potential litigation with respect to various technologies contained in our products. The portfolio may also provide negotiating leverage in attempts to cross-license patents or technologies with third parties. We may also seek to leverage our patent portfolio by licensing or selling our patents or other intellectual property. We rely primarily on patent, copyright, trademark and trade secret laws, as well as employee and third-party nondisclosure and

 

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confidentiality agreements and other methods to protect our proprietary technologies and processes. In connection with our participation in the development of various industry standards, we may be required to reasonably license certain of our patents to other parties, including competitors that develop products based upon the adopted industry standards. We have also entered into agreements with certain of our customers and granted these customers the right to use our proprietary technology in the event that we file for bankruptcy protection or take other equivalent actions. While in the aggregate our intellectual property is important to our operations, we do not believe that any single patent, license, trade secret, know-how, trademark or copyright is considered of such importance that its loss or termination would materially affect our business or financial condition.

Employees

We currently have 554 full-time employees, approximately 370 of whom are engineers. Our employees are not covered by any collective bargaining agreements and we have not experienced a work stoppage in the past nine years since our inception. We believe our future success will depend in large part on our ability to continue to attract, motivate, develop and retain highly skilled and dedicated technical, marketing and management personnel.

Cyclicality

The semiconductor industry is highly cyclical and is characterized by constant and rapid technological change, rapid product obsolescence and price erosion, evolving technical standards, short product life cycles and wide fluctuations in product supply and demand. From time to time, these and other factors, together with changes in general economic conditions, cause significant upturns and downturns in the industry, and in our business in particular.

In addition, our operating results are subject to substantial quarterly and annual fluctuations due to a number of factors, such as demand for network infrastructure equipment, the timing of receipt, reduction or cancellation of significant orders, fluctuations in the levels of component inventories held by our customers, the gain or loss of significant customers, market acceptance of our products and our customers’ products, our ability to timely develop, introduce and market new products and technologies, the availability and cost of products from our suppliers, new product and technology introductions by competitors, intellectual property disputes and the timing and extent of product development costs.

Available Information

We maintain a website at www.mindspeed.com. Our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to such reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act, and other information related to our company, are available free of charge on this site as soon as reasonably practicable after such reports are filed with or furnished to the Securities and Exchange Commission (SEC). Our Code of Business Conduct and Ethics, Guidelines on Corporate Governance and Board Committee Charters are also available on our website. We will provide reasonable quantities of paper copies of filings free of charge upon request. In addition, we will provide a copy of the Board Committee Charters to stockholders upon request. No portion of our website or the information contained in or connected to the website is incorporated into this Annual Report on Form 10-K.

 

Item 1A. Risk Factors

Our business, financial condition and operating results can be affected by a number of factors, including those listed below, any one of which could cause our actual results to vary materially from recent results or from our anticipated future results. Any of these risks could also materially and adversely affect our business, financial condition or the price of our common stock or other securities.

 

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Our operating results may be adversely impacted by worldwide economic uncertainties and specific conditions in the markets we address, including the cyclical nature of and volatility in the semiconductor industry.

We operate in the semiconductor industry, which is cyclical and subject to rapid change and evolving industry standards. From time to time, the semiconductor industry has experienced significant downturns characterized by decreases in product demand, excess customer inventories and accelerated erosion of prices. The semiconductor industry also periodically experiences increased demand and production capacity constraints, which may affect our ability to ship products. Furthermore, during challenging economic times, our customers and vendors may face issues gaining timely access to sufficient credit, which could impact their ability to make timely payments to us. As a result, we may experience growth patterns that are different than the end demand for products, particularly during periods of high volatility. Accordingly, our operating results may vary significantly as a result of the general conditions in the semiconductor industry, which could cause large fluctuations in our stock price.

We cannot predict the timing, strength or duration of any economic slowdown or the impact it will have on our customers, our vendors or us. The combination of our lengthy sales cycle coupled with challenging macroeconomic conditions could have a compound impact on our business. The impact of market volatility is not limited to revenue, but may also affect our product gross margins and other financial metrics. Any downturns in the semiconductor industry could be severe and prolonged, and any failure of the industry or wired and wireless communications markets to fully recover from downturns could seriously impact our revenue and harm our business, financial condition and results of operations.

Our operating results are subject to substantial quarterly and annual fluctuations.

We have incurred significant losses in prior periods. Our net revenue and operating results have fluctuated in the past and may fluctuate in the future and we may incur losses and negative cash flows in future periods. These fluctuations are due to a number of factors, many of which are beyond our control. These factors include, among others:

 

   

changes in end-user demand for the products manufactured and sold by our customers;

 

   

customers could accelerate their demand to earn financial incentives;

 

   

the effects of competitive pricing pressures, including decreases in average selling prices of our products;

 

   

the gain or loss of significant customers;

 

   

market acceptance of our products and our customers’ products;

 

   

our ability to timely develop, introduce, market and support new products and technologies;

 

   

availability and cost of products from our suppliers;

 

   

intellectual property disputes;

 

   

the timing of receipt, reduction or cancellation of significant orders by customers;

 

   

fluctuations in the levels of component inventories held by our customers and changes in our customers’ inventory management practices;

 

   

shifts in our product mix and the effect of maturing products;

 

   

the timing and extent of product development costs;

 

   

new product and technology introductions by us or our competitors;

 

   

fluctuations in manufacturing yields; and

 

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significant warranty claims, including those not covered by our suppliers.

The foregoing factors are difficult to forecast, and these, as well as other factors, could materially and adversely affect our quarterly or annual operating results.

We have substantial cash requirements to fund our operations, research and development efforts and capital expenditures. Our capital resources are limited and capital needed for our business may not be available when we need it.

We have used significant cash to fund our operating activities. Our principal sources of liquidity are our existing cash balances, cash generated from product sales and our revolving credit facility with Silicon Valley Bank (SVB). We believe that our existing cash balances, along with cash expected to be generated from operations and our revolving credit facility, will be sufficient to fund our operations, research and development efforts, anticipated capital expenditures, working capital and other financing requirements, including interest payments on our debt obligations, for at least the next 12 months. We have completed transactions that involved the issuance of equity and the issuance or incurrence of indebtedness, including credit facilities. Even after completing these transactions, we may need additional capital in the future and may not have access to additional sources of capital on favorable terms or at all. If we raise additional funds through the issuance of equity, equity-based or debt securities, such securities may have rights, preferences or privileges senior to those of our common stock and our stockholders may experience dilution of their ownership interests. In addition, there can be no assurance that we will continue to benefit from the sale or licensing of intellectual property as we have in previous periods.

Our success depends on our ability to timely develop competitive new products and keep abreast of the rapid technological changes in our market.

Our operating results will depend largely on our ability to continue to timely introduce new and enhanced semiconductor products, as well as our ability to keep abreast of rapid technological changes in our markets. Our products could become obsolete sooner than we expect because of faster than anticipated, or unanticipated, changes in one or more of the technologies related to our products. The introduction of new technology representing a substantial advance over current technology could adversely affect demand for our existing products. Currently accepted industry standards are also subject to change, which may also contribute to the obsolescence of our products. If we are unable to develop and introduce new or enhanced products in a timely manner, our business may be adversely affected.

Successful product development and introduction depends on numerous factors, including, among others:

 

   

our ability to anticipate customer and market requirements and changes in technology and industry standards;

 

   

our ability to accurately define new products;

 

   

our ability to complete development of new products, and bring our products to market, on a timely basis;

 

   

our ability to differentiate our products from offerings of our competitors; and

 

   

overall market acceptance of our products.

We may not have sufficient resources to make the substantial investment in research and development in order to develop and bring to market new and enhanced products, particularly if we are required to take further cost reduction actions. 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 may be unable to timely develop and introduce new or enhanced products, our products may not satisfy customer requirements or achieve market acceptance, or we may be unable to anticipate new industry standards and technological changes. We also may not be able to respond successfully to new product announcements and introductions by competitors.

 

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Research and development projects may experience unanticipated delays related to our internal design efforts. New product development also requires the production of photomask sets and the production and testing of sample devices. In the event we experience delays in obtaining these services from the wafer fabrication and assembly and test vendors on whom we rely, our product introductions may be delayed and our revenue and results of operations may be adversely affected.

Our debt obligations could adversely affect our financial condition.

In recent periods, our debt obligations have increased. As of September 28, 2012, we had $47.0 million in aggregate principal amount of convertible senior notes outstanding. In addition, our loan and security agreement with SVB includes: (i) a term loan facility of $15.0 million; and (ii) a revolving credit facility of up to $20.0 million. As of September 28, 2012, the outstanding balance on the term loan was $15.0 million and the outstanding balance on the revolving credit facility was $13.5 million. Our debt obligations may adversely impact our financial condition. For example, our debt obligations may:

 

   

require us to use a large portion of our cash flow to repay our indebtedness thereunder if we fail to comply with the restrictive financial and operating covenants in the loan and security agreement or if other events of default occur, which may have a material adverse effect on our liquidity and will reduce the availability of our cash flow to fund working capital, capital expenditures, acquisitions or strategic business opportunities, research and development expenditures and other general business activities;

 

   

limit our future ability to raise funds for working capital, capital expenditures, acquisitions or strategic business opportunities, research and development expenditures and other general business activities; and

 

   

contribute to a future downgrade of our credit rating, which could increase future borrowing costs.

Our ability to meet our payment obligations under our debt obligations depends on our ability to generate significant cash flow in the future. We believe our existing and expected cash balances will be sufficient to fund the $15.0 million principal payment of our 6.50% convertible senior notes due in August 2013. However, there can be no assurance that our business will generate cash flow from operations, or that additional capital will be available to us, in an amount sufficient to enable us to meet our payment obligations under our debt obligations and to fund our other liquidity needs. If we are unable to generate sufficient cash flow to service our debt obligations, we may need to refinance or restructure our debt, sell assets, reduce or delay capital investments, or seek to raise additional capital. If we were unable to implement one or more of these alternatives, we may be unable to meet our debt payment obligations.

We are entirely dependent upon third parties for the manufacture of our products and are vulnerable to their capacity constraints during times of increasing demand for semiconductor products.

We are entirely dependent upon outside wafer fabrication facilities, known as foundries, for wafer fabrication services. Our principal suppliers of wafer fabrication services are TSMC and Jazz Semiconductor, Inc. We are also dependent upon third parties, including Amkor and ASE, for the assembly and testing of all of our products. Under our fabless business model, our long-term revenue growth is dependent on our ability to obtain sufficient external manufacturing capacity, including wafer production capacity. Periods of upturns in the semiconductor industry may be characterized by rapid increases in demand and a shortage of capacity for wafer fabrication and assembly and test services.

The risks associated with our reliance on third parties for manufacturing services include:

 

   

the lack of assured supply, potential shortages and higher prices;

 

   

the effects of disputes or litigation involving our third-party foundries;

 

   

increased lead times;

 

   

limited control over delivery schedules, manufacturing yields, production costs and product quality; and

 

   

the unavailability of, or delays in obtaining, products or access to key process technologies.

 

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Our standard lead time, or the time required to manufacture our products (including wafer fabrication, assembly and testing), is typically 12 to 16 weeks. During periods of manufacturing capacity shortages, the foundries and other suppliers on whom we rely may devote their limited capacity to fulfill the production requirements of other customers that are larger or better financed than we are, or who have superior contractual rights to enforce the manufacture of their products, including to the exclusion of producing our products.

Additionally, if we are required to seek alternative foundries or assembly and test service providers, we would be subject to longer lead times, indeterminate delivery schedules and increased manufacturing costs, including costs to find and qualify acceptable suppliers. For example, if we choose to use a new foundry, the qualification process may take as long as six months over the standard lead time before we can begin shipping products from the new foundry. Such delays could negatively affect our relationships with our customers.

Wafer fabrication processes are subject to obsolescence, and foundries may discontinue a wafer fabrication process used for certain of our products. In such event, we generally offer our customers a “last-time buy” program to satisfy their anticipated requirements for our products. Any unanticipated discontinuation of a wafer fabrication process on which we rely may adversely affect our revenue and our customer relationships.

The foundries and other suppliers on whom we rely may experience financial difficulties or suffer disruptions in their operations due to causes beyond our control, including deteriorations in general economic conditions, labor strikes, work stoppages, electrical power outages, fire, earthquake, flooding or other natural disasters. Certain of our suppliers’ manufacturing facilities are located near major earthquake fault lines in the Asia-Pacific region and in California. Due to cross dependencies, supply chain disruptions could negatively impact demand of our products, including, for example, if our customers are unable to obtain sufficient supply of other components required for their end product. In the event of a disruption of the operations of one or more of our suppliers, we may not have an alternate source immediately available. Such an event could cause significant delays in shipments until we are able to shift the products from an affected facility or supplier to another facility or supplier. The manufacturing processes we rely on are specialized and are available from a limited number of suppliers. Alternate sources of manufacturing capacity, particularly wafer production capacity, may not be available to us on a timely basis. Even if alternate manufacturing capacity is available, we may not be able to obtain it on favorable terms, or at all. Difficulties or delays in securing an adequate supply of our products on favorable terms, or at all, could impair our ability to meet our customers’ requirements and have a material adverse effect on our operating results.

In addition, the highly complex and technologically demanding nature of semiconductor manufacturing has caused foundries to experience, from time to time, lower than anticipated manufacturing yields, particularly in connection with the introduction of new products and the installation and start-up of new process technologies. Lower than anticipated manufacturing yields may affect our ability to fulfill our customers’ demands for our products on a timely basis. Moreover, lower than anticipated manufacturing yields may adversely affect our gross margin and our results of operations.

Our acquisition of picoChip Inc. and its wholly owned subsidiaries on February 6, 2012 has exposed us to risks arising from the acquisition and could have a material adverse effect on our financial position, results of operations and/or cash flows.

Acquisition transactions are subject to inherent risks and uncertainties, including, among others, risks associated with the successful integration of geographically separate organizations; the ability to integrate the companies’ technologies; and the potential for key employee attrition. Acquisition transactions could also result in large one-time write-offs, amortization expenses related to intangible assets, limitations on our ability to use our net operating loss carryforwards, litigation or other claims in connection with the acquired company and the diversion of management’s time and attention from operating our business to acquisition integration challenges. Litigation or other claims may arise relating to certain terms and conditions of the acquisition agreement, such as earnout payments or closing net asset adjustments. Operationally, the business of picoChip has depended on key customer and supplier relationships, and we will need to maintain those relationships. If we fail to maintain those relationships, it would have an adverse effect on our operating objectives and could have an adverse effect on our future operating results. Integration of our respective operations, including technology integration and integration

 

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of financial and administrative functions, may not proceed as we currently anticipate and could result in presently unanticipated costs or expenses (including unanticipated capital expenditures) that could have an adverse effect on our future operating results. We may also incur liability for activities of picoChip and its subsidiaries prior to the acquisition, including patent and trademark infringement claims, violations of laws, commercial disputes, tax liabilities and other known and unknown liabilities. In addition, we have no recent experience operating our business in the United Kingdom and lack familiarity with local laws, regulations and business practices. We cannot provide any assurances that we will achieve our business and financial objectives in connection with the acquisition of picoChip.

The cash payment of the initial purchase price for the acquisition of picoChip was financed in part with bank debt and through the issuance of shares of our common stock that resulted in dilution to our existing stockholders. We will be required to service this additional indebtedness and cannot provide assurances that picoChip’s business will generate sufficient net cash flows, if any, to permit us to service the indebtedness without relying on cash flows, if any, generated by our incumbent businesses. The benefits or synergies we may expect from the acquisition of picoChip may not be realized to the extent or in the time frame we initially anticipate, which may result in an adverse effect on our stock price or our ability to raise additional financing, either in the public capital markets or through further debt financing.

The price of our common stock may fluctuate significantly.

The price of our common stock is volatile and may fluctuate significantly. There can be no assurance as to the prices at which our common stock will trade or that an active trading market in our common stock will be sustained in the future. The market price at which our common stock trades may be influenced by many factors, including:

 

   

our operating and financial performance and prospects, including our ability to achieve sustained profitability;

 

   

the depth and liquidity of the market for our common stock which can impact, among other things, the volatility of our stock price and the availability of market participants to borrow shares;

 

   

investor perception of us and the industry in which we operate;

 

   

the recently completed acquisition of picoChip may not be accretive and may cause dilution to our earnings per share;

 

   

the level of research coverage of our common stock;

 

   

changes in earnings estimates or buy/sell recommendations by analysts;

 

   

the issuance and sale of additional shares of common stock;

 

   

the recently completed sale and issuance of convertible senior notes;

 

   

limitations placed on our investors by our stockholders rights agreement, which is designed to protect our net operating loss carryforwards;

 

   

general financial and other market conditions; and

 

   

domestic and international economic conditions.

In addition, public stock markets have experienced, and may in the future experience, extreme price and trading volume volatility, particularly in the 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. If we do not meet the requirements for continued quotation on the Nasdaq Global Select Market (NASDAQ), our common stock could be delisted which would adversely affect the ability of investors to sell shares of our common stock and could otherwise adversely affect our business.

 

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We are subject to intense competition.

The communications semiconductor industry in general, and the markets in which we compete in particular, are intensely competitive. We compete worldwide with a number of U.S. and international semiconductor manufacturers that are both larger and smaller than we are 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.

Many of our current and potential competitors have certain advantages over us, including:

 

   

stronger financial position and liquidity;

 

   

longer, or stronger, presence in key markets;

 

   

greater name recognition;

 

   

more secure supply chain;

 

   

lower cost alternatives to our products;

 

   

access to larger customer bases; and

 

   

significantly greater 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. Moreover, we have incurred substantial operating losses and we may in the future incur losses in future periods. We believe that financial stability of suppliers is an important consideration in our customers’ purchasing decisions. If our OEM customers perceive that we lack adequate financial stability, they may choose semiconductor suppliers that they believe have a stronger financial position or liquidity.

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 may not be able to compete successfully against current and potential competitors.

The loss of one or more key customers or distributors, or the diminished demand for our products from a key customer could significantly reduce our net revenue, gross margin and results of operations.

A relatively small number of end customers and distributors have accounted for a significant portion of our net revenue in any particular period. There has been an increasing trend toward industry consolidation in our markets in recent years, particularly among major network equipment and telecommunications companies. Industry consolidation could decrease the number of significant customers for our products thereby increasing our reliance on key customers. In addition, industry consolidation has generally led, and may continue to lead, to pricing pressures and loss of market share. We have no long-term volume purchase commitments from our key customers. One or more of our key customers or distributors may discontinue operations as a result of consolidation, financial instability, liquidation or otherwise. Reductions, delays and cancellation of orders from our key customers or the loss of one or more key customers could significantly reduce our net revenue and results of operations. We cannot assure you that our current customers will continue to place orders with us, that orders by existing customers will continue at current or historical levels or that we will be able to obtain orders from new customers.

We are subject to the risks of doing business internationally.

A significant part of our strategy involves our continued pursuit of growth opportunities in a number of international markets. We market, sell, design and service our products internationally. Products shipped to

 

21


international destinations, primarily in the Asia-Pacific region and Europe, were approximately 85% of our net revenue for fiscal 2012. China is a particularly important international market for us, as approximately 35% of our net revenue for fiscal 2012 came from customers in China. In addition, we have design centers, customer support centers and rely on suppliers, located outside the U.S., including foundries and assembly and test service providers located in the Asia-Pacific region. We intend to continue to expand our international business activities and may open other design centers and customer support centers abroad. Our international sales and operations are subject to a number of risks inherent in selling and operating abroad which could adversely impact our international sales and could make our international operations more expensive. These include, but are not limited to, risks regarding:

 

   

currency exchange rate fluctuations;

 

   

local economic and political conditions;

 

   

difficulties in staffing and managing foreign operations;

 

   

potential hostilities and changes in diplomatic and trade relationships;

 

   

tax laws;

 

   

natural disasters, including earthquakes or flooding;

 

   

restrictive governmental actions (such as restrictions on the transfer or repatriation of funds and trade protection measures, including export duties and quotas and customs duties and tariffs);

 

   

changes in legal or regulatory requirements;

 

   

difficulty in obtaining distribution and support;

 

   

disruptions of capital and trading markets;

 

   

acts of terrorism;

 

   

wage inflation;

 

   

greater difficulty in accounts receivable collection and longer payment cycles;

 

   

the laws and policies of the U.S. and other countries affecting trade, foreign investment and loans and import or export requirements, including the Foreign Corrupt Practices Act and similar rules and regulations;

 

   

existing or future environmental laws and regulations governing, among other things, air emissions, wastewater discharges, the contents of our products, the use, handling and disposal of hazardous substances and wastes, soil and groundwater contamination and employee health and safety;

 

   

limitations on our ability under local laws to protect our intellectual property; and

 

   

cultural differences in the conduct of business.

Because most of our international sales 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. As we continue to shift a portion of our operations offshore, more of our expenses are incurred in currencies other than those in which we bill for the related services. An increase in the value of certain currencies, such as the Euro, Japanese yen, Ukrainian hryvnia and Indian rupee, against the U.S. dollar could increase costs of our offshore operations by increasing labor and other costs that are denominated in local currencies.

We may in the future enter into foreign currency forward exchange contracts to mitigate the risk of loss from currency exchange rate fluctuations for foreign currency commitments entered into in the ordinary course of business. We do not enter into foreign currency forward exchange contracts for other purposes. Our financial condition and results of operations could be adversely affected by currency fluctuations.

 

22


We may be subject to claims, or we may be required to defend and indemnify customers against claims, of infringement of third-party intellectual property rights or demands that we, or our customers, license third-party technology, which could result in significant expense.

The semiconductor industry is characterized by vigorous protection and pursuit of intellectual property rights. From time to time, third parties have asserted and may in the future assert patent, copyright, trademark and other intellectual property rights against technologies that are important to our business. The resolution or compromise of any litigation or other legal process to enforce such alleged third party rights, including claims arising through our contractual indemnification of our customers, or claims challenging the validity of our patents, regardless of its merit or resolution, could be costly and divert the efforts and attention of our management and technical personnel.

We may not prevail in any such litigation or other legal process or we may compromise or settle such claims because of the complex technical issues and inherent uncertainties in intellectual property disputes and the significant expense in defending such claims. If litigation or other legal process results in adverse rulings, we may be required to:

 

   

pay substantial damages for past, present and future use of the infringing technology;

 

   

cease the manufacture, use or sale of infringing products;

 

   

discontinue the use of infringing technology;

 

   

expend significant resources to develop non-infringing technology;

 

   

pay substantial damages to our customers or end users to discontinue use or replace infringing technology with non-infringing technology;

 

   

license technology from the third party claiming infringement, which license may not be available on commercially reasonable terms, or at all; or

 

   

relinquish intellectual property rights associated with one or more of our patent claims, if such claims are held invalid or otherwise unenforceable.

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 employee and third-party nondisclosure and confidentiality agreements and other methods, to protect our proprietary technologies and processes. We may be required to engage in litigation to enforce or protect our intellectual property rights, which may require us to expend significant resources and to divert the efforts and attention of our management from our business operations; in particular:

 

   

the steps we take to prevent misappropriation or infringement of our intellectual property may not be successful;

 

   

any existing or future patents may be challenged, invalidated or circumvented; or

 

   

the measures described above may not provide meaningful protection.

Despite the preventive measures and precautions that we take, a third party could copy or otherwise obtain and use our technology without authorization, develop similar technology independently or design around our patents. We generally enter into confidentiality agreements with our employees, consultants and strategic partners. We also try to control access to and distribution of our technologies, documentation and other proprietary information. Despite these efforts, internal or external parties may attempt to copy, disclose, obtain or use our products, services or technology without our authorization. Also, former employees may seek employment with our business partners, customers or competitors, and the confidential nature of our proprietary information may not be maintained in the course of such future employment. Further, in some countries outside

 

23


the U.S., patent protection is not available or not reliably enforced. Some countries that do allow registration of patents do not provide meaningful redress for patent violations. As a result, protecting intellectual property in those countries is difficult and competitors may sell products in those countries that have functions and features that infringe on our intellectual property.

Because of the lengthy sales cycles of many of our products, we may incur significant expenses before we generate any revenue related to those products.

Our customers generally need six months or longer to test and evaluate our products and an additional nine months or more to begin volume production of equipment that incorporates our products. These lengthy periods also increase 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 any revenue from new products. We may never generate the anticipated revenue if our customers cancel or change their product plans as customers may increasingly do if economic conditions continue to deteriorate.

Substantial sales of the shares of our common stock issuable upon conversion of our convertible senior notes or exercise of our outstanding warrant and antidilution and other provisions in our outstanding warrant, or substantial sales of the shares of our common stock issued in connection with the picoChip acquisition could adversely affect our stock price or our ability to raise additional financing in the public capital markets.

At September 28, 2012, we had $47.0 million aggregate principal amount of convertible senior notes outstanding. These notes are convertible at any time, at the option of the holder, into a total of approximately 11.4 million shares of common stock. In connection with the acquisition of picoChip, we issued an aggregate of approximately 5.2 million shares of our common stock to the stockholders of picoChip. The conversion of the notes and subsequent sale of a substantial number of shares of our common stock related to the notes or the sale of a substantial number of the picoChip acquisition shares could also adversely affect demand for, and the market price of, our common stock. Each of these transactions could adversely affect our ability to raise additional financing by issuing equity or equity-based securities in the public capital markets.

A warrant is outstanding to acquire approximately 6.3 million shares of our common stock at a price of $16.25 per share (adjusted to reflect a change in the number of shares and exercise price, which resulted from the offering of our 6.75% convertible seniors notes completed in the third quarter of fiscal 2012), exercisable through June 27, 2013, representing approximately 10% of our outstanding common stock on a fully diluted basis. The warrant may be transferred or sold in whole or part at any time. If the warrant holder sells the warrant or if it or a transferee of the warrant exercises the warrant and sells a substantial number of shares of our common stock in the future, or if investors perceive that these sales may occur, the market price of our common stock could decline or market demand for our common stock could be sharply reduced.

The warrant contains antidilution provisions that provide for adjustment of the warrant’s exercise price, and the number of shares issuable under the warrant, upon the occurrence of certain events. If we issue, or are deemed to have issued, shares of our common stock, or securities convertible into our common stock, at prices below the current market price of our common stock (as defined in the warrant) at the time of the issuance of such securities, the warrant’s exercise price will be reduced and the number of shares issuable under the warrant will be increased. The amount of such adjustment, if any, will be determined pursuant to a formula specified in the warrant and will depend on the number of shares issued, the offering price and the current market price of our common stock at the time of the issuance of such securities. Adjustments to the warrant pursuant to these antidilution provisions may result in significant dilution to the interests of our existing stockholders and may adversely affect the market price of our common stock. The antidilution provisions may also limit our ability to obtain additional financing on terms favorable to us.

Moreover, we may not realize any cash proceeds from the exercise of the warrant. The holder of the warrant may opt for a cashless exercise of all or part of the warrant. In a cashless exercise, the holder of the warrant

 

24


would make no cash payment to us, and would receive a number of shares of our common stock having an aggregate value equal to the excess of the then-current market price of the shares of our common stock issuable upon exercise of the warrant over the exercise price of the warrant. Such an issuance of common stock would be immediately dilutive to the interests of other stockholders.

We may not be able to attract and retain qualified personnel necessary for the design, development, sale and support of our products. Our success could be negatively affected if key personnel leave.

Our future success depends on our ability to attract, retain and motivate qualified personnel, including executive officers and other key management, technical and support personnel. As the source of our technological and product innovations, our key technical personnel represent a significant asset. The competition for such personnel can be intense in the semiconductor industry. We may not be able to attract and retain qualified management and other personnel necessary for the design, development, sale and support of our products.

In periods of poor operating performance, we have experienced, and may experience in the future, particular difficulty attracting and retaining key personnel. If we are not successful in assuring our employees of our financial stability and our prospects for success, our employees may seek other employment, which may materially and adversely affect our business. We intend to continue to expand our international business activities including expansion of design and operations centers abroad and may have difficulty attracting and maintaining international employees. The loss of the services of one or more of our key employees, including Raouf Y. Halim, our 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.

Some of our engineers are foreign nationals working in the U.S. under work visas. The visas permit qualified foreign nationals working in specialty occupations, such as certain categories of engineers, to reside in the U.S. during their employment. The number of new visas approved each year may be limited and may restrict our ability to hire additional qualified technical employees. In addition, immigration policies are subject to change, and these policies have generally become more stringent since the events of September 11, 2001. Any additional significant changes in immigration laws, rules or regulations may further restrict our ability to retain or hire technical personnel.

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 substantial portion of our products through distributors, some of whom have a right to return unsold products to us. Sales to distributors accounted for approximately 65% of our revenue for fiscal 2012.

Because of the significant lead times for wafer fabrication and assembly and test services, we routinely purchase inventory based on estimates of end-market demand for our customers’ products. End-market demand may be subject to dramatic changes and is difficult to predict. End-market demand is highly influenced by the timing and extent of carrier capital expenditures which may decrease due to general economic conditions, and uncertainty, over which we have no control. The difficulty in predicting demand 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. Conversely, if we fail to anticipate inventory needs we may be unable to fulfill demand for our products, resulting in a loss of potential revenue.

 

25


If network infrastructure OEMs do not design our products into their equipment, we will be unable to sell 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 network infrastructure OEMs to select our products from among alternative offerings to be designed into their equipment. We may be unable to achieve these “design wins.” Without design wins from OEMs, we would be unable to sell our products. Once an OEM designs another supplier’s semiconductors into one of its product platforms, it is 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 for the OEM. Achieving a design win with a customer does not ensure that we will receive significant revenue from that customer, and we may be unable to convert design wins into actual sales. 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 if, for example, its own products are not commercially successful.

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

Although we, our customers and our suppliers rigorously test our products, our products are complex and may contain errors, defects or bugs when first introduced or as new versions are released. We have in the past experienced, and may in the future experience, errors, defects and bugs. If any of our products contain production defects or reliability, safety, quality or compatibility problems that are significant to our customers, our reputation may be damaged and customers may be reluctant to buy our products, which could adversely affect our ability to retain existing customers and attract new customers. In addition, these defects or bugs could interrupt or delay sales of affected products to our customers, which could adversely affect our results of operations.

If defects or bugs are discovered after commencement of commercial production of a new product, we may be required to make significant expenditures of capital and other resources to resolve the problems. This could result in significant additional development costs and the diversion of technical and other resources from our other development efforts. We could also incur significant costs to repair or replace defective products, and we could be subject to claims for damages by our customers or others against us. We could also be exposed to product liability claims or indemnification claims by our customers. These costs or damages could have a material adverse effect on our financial condition and results of operations.

We may make business acquisitions or investments, which involve significant risk.

In addition to the acquisition of picoChip, we may, from time to time, make acquisitions, enter into alliances or make investments in other businesses to complement our existing product offerings, augment our market coverage or enhance our technological capabilities. However, any such transactions could result in:

 

   

issuances of equity securities dilutive to our existing stockholders;

 

   

substantial cash payments;

 

   

the incurrence of substantial debt and assumption of unknown liabilities;

 

   

large one-time write-offs;

 

   

amortization expenses related to intangible assets;

 

   

a limitation on our ability to use our net operating loss carryforwards;

 

   

the diversion of management’s time and attention from operating our business to acquisition integration challenges;

 

   

adverse tax consequences; and

 

   

the potential loss of key employees, customers and suppliers of the acquired business.

 

26


Additionally, in periods subsequent to an acquisition, we must evaluate goodwill and acquisition-related intangible assets for impairment. If such assets are found to be impaired, they will be written down to estimated fair value, with a charge against earnings.

Integrating acquired organizations and their products and services may be expensive, time-consuming and a strain on our resources and our relationships with employees, customers and suppliers, and ultimately may not be successful. The benefits or synergies we may expect from the acquisition of complementary or supplementary businesses may not be realized to the extent or in the time frame we initially anticipate. Some of the risks that may affect our ability to successfully integrate acquired companies include those associated with:

 

   

failure to successfully further develop the acquired products or technology;

 

   

conforming the acquired company’s standards, policies, processes, procedures and controls with our operations;

 

   

coordinating new product and process development, especially with respect to highly complex technologies;

 

   

loss of key employees or customers of the acquired company;

 

   

hiring additional management and other critical personnel;

 

   

in the case of foreign acquisitions, the need to integrate operations across different cultures and languages and to address the particular economic, currency, political and regulatory risks associated with specific countries;

 

   

increasing the scope, geographic diversity and complexity of our operations;

 

   

consolidation of facilities, integration of the acquired company’s accounting, human resource and other administrative functions and coordination of product, engineering and sales and marketing functions;

 

   

the geographic distance between the companies;

 

   

liability for activities of the acquired company before the acquisition, including patent and trademark infringement claims, violations of laws, commercial disputes, tax liabilities and other known and unknown liabilities; and

 

   

litigation or other claims in connection with the acquired company, including claims for terminated employees, customers, former stockholders or other third parties.

Our ability to utilize our net operating loss carryforwards and certain other tax attributes may be limited.

As of September 28, 2012, we had net operating loss carryforwards of approximately $649.5 million for federal income tax purposes. Furthermore, we acquired additional net operating loss carryforwards upon the acquisition of picoChip. As of December 31, 2011, picoChip had net operating loss carryforwards for U.S. federal and California income tax purposes of $1.5 million each and for U.K. corporation tax purposes of $28.9 million. Under Section 382 of the Internal Revenue Code, if a corporation undergoes an “ownership change,” the corporation’s ability to use its pre-change net operating loss carryforwards and other pre-change tax attributes to offset its post-change income may be significantly limited. An ownership change is generally defined as a greater than 50% change in equity ownership by value over a three-year period. In August 2009, our board of directors adopted a stockholders’ rights agreement that is designed to help preserve our ability to utilize fully certain tax assets primarily associated with net operating loss carryforwards under Section 382 of the Internal Revenue Code. Even with this rights agreement in place, we may experience an ownership change in the future as a result of shifts in our stock ownership, including upon the issuance of our common stock, the exercise of stock options or warrants or as a result of any conversion of our convertible notes into shares of our common stock, among other things. If we were to trigger an ownership change in the future, our ability to use any net operating loss carryforwards existing at that time could be significantly limited.

 

27


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

The methods, estimates and judgments we use in applying our accounting policies have a significant impact on our results of operations (see “Critical Accounting Policies and Estimates” in Part I, Item 7 of this Annual Report on Form 10-K). Such methods, estimates and judgments are, by their nature, subject to substantial risks, uncertainties and assumptions, and changes in rule making by various regulatory bodies. Factors may arise over time that lead us to change our methods, estimates and judgments. Changes in those methods, estimates and judgments could significantly affect our results of operations.

Provisions in our organizational documents and stockholders rights agreements and Delaware law will make it more difficult for someone to acquire control of us.

Our restated certificate of incorporation, our amended and restated bylaws, our stockholders rights agreements and the Delaware General Corporation Law contain several provisions that would make more difficult an acquisition of control of us in a transaction not approved by our board of directors. Our restated certificate of incorporation and amended and restated bylaws include provisions such as:

 

   

the division of our board of directors into three classes to be elected on a staggered basis, one class each year;

 

   

the exclusive responsibility of the board of directors to fill vacancies on the board of directors;

 

   

the ability of our board of directors to issue shares of our preferred stock in one or more series without further authorization of our stockholders;

 

   

a prohibition on stockholder action by written consent;

 

   

a requirement that stockholders provide advance notice of any stockholder nominations of directors or any proposal of new business to be considered at any meeting of stockholders;

 

   

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 amended and restated bylaws;

 

   

elimination of the right of stockholders to call a special meeting of stockholders; and

 

   

a fair price provision.

Our stockholders rights agreements give our stockholders 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 stockholders rights agreements and the provisions in our restated certificate of incorporation and amended and restated bylaws, Section 203 of the Delaware General Corporation Law generally provides that a corporation shall not engage in any business combination with any interested stockholder during the three-year period following the time that such stockholder becomes an interested stockholder, unless a majority of the directors then in office approves either the business combination or the transaction that results in the stockholder becoming an interested stockholder or specified stockholder approval requirements are met.

 

Item 1B. Unresolved Staff Comments

None.

 

Item 2. Properties

Currently, we occupy our headquarters located in Newport Beach, California (which includes design and sales offices), 11 design centers and 11 sales locations. These facilities had an aggregate floor space of approximately 191,000 square feet, all of which is leased, consisting of approximately 97,000 square feet at our

 

28


headquarters, 71,000 square feet at our design centers and 23,000 square feet at our sales locations. The lease on our headquarters extends through December 2019. We may, at our option, extend the lease for an additional four years at fair market rent. We believe our properties are well maintained, are in sound operating condition and contain all the equipment and facilities to operate at present levels.

Through our design centers, we provide design engineering and product application support and after-sales service to our OEM customers. The design centers are strategically located to take advantage of key technical and engineering talent worldwide.

 

Item 3. Legal Proceedings

We are currently not engaged in legal proceedings that require disclosure under this Item. We are, from time to time, subject to legal proceedings and claims that arise in the normal course of our business. We do not believe that the ultimate outcome of any such currently pending matters, if any, arising in the normal course of business will have a material adverse effect on our financial position, results of operations or cash flows.

 

Item 4. Mine Safety Disclosures

Not applicable.

PART II

 

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Market Information

Our common stock is traded on the Nasdaq Global Market under the symbol “MSPD.” The following table lists the high and low closing sales price of our common stock as reported by the Nasdaq Global Market for the periods indicated.

 

     High      Low  

Fiscal 2012

     

Quarter ended December 30, 2011

   $ 6.09       $ 4.23   

Quarter ended March 30, 2012

     7.19         4.67   

Quarter ended June 29, 2012

     6.37         2.42   

Quarter ended September 28, 2012

     3.46         2.36   

Fiscal 2011

     

Quarter ended December 31, 2010

   $ 8.21       $ 5.58   

Quarter ended April 1, 2011

     8.70         6.19   

Quarter ended July 1, 2011

     9.11         7.37   

Quarter ended September 30, 2011

     8.31         5.07   

Recent Share Prices and Holders

The last reported sale price of our common stock on December 3, 2012 was $3.69 and there were approximately 25,137 holders of record of our common stock. However, many holders’ shares are listed under their brokerage firms’ names.

Dividend Policy

We have never paid cash dividends on our capital stock. We currently intend to retain any earnings for use in our business and do not anticipate paying cash dividends in the foreseeable future.

 

29


Stock Performance Graph

The following graph shows a five-year comparison of the cumulative total stockholder return on our common stock against the cumulative return of the Nasdaq U.S. Index and the Nasdaq Electronic Components Index. The graph assumes that $100 was invested on September 28, 2007, in each of our common stock, the Nasdaq U.S. Index and the Nasdaq Electronic Components Index and that all dividends were reinvested. No cash dividends have been paid or declared on our common stock. We maintain a fifty-two/fifty-three week fiscal year ending on the Friday closest to September 30.

 

LOGO

 

     Cumulative Total Return  
     September 28,
2007
     October 3,
2008
     October 2,
2009
     October 1,
2010
     September 30,
2011
     September 28,
2012
 

Mindspeed Technologies, Inc.

   $ 100.00       $ 24.05       $ 35.26       $ 89.36       $ 60.12       $ 40.00   

Nasdaq U.S. Index

     100.00         73.50         61.09         71.55         67.89         75.82   

Nasdaq Electronic Components Index

     100.00         63.76         71.21         75.96         94.83         124.65   

Issuer Purchases of Equity Securities

 

     Total Number of
Shares  (or Units)
Purchased (a)
     Average Price
Paid per Share
(or Unit)
     Total Number of
Shares (or Units)
Purchased as Part of
Publicly Announced
Plans or Programs
     Maximum Number (or
Approximate Dollar
Value) of Shares (or
Units) that May yet be
Purchased Under the
Plans or Programs
 

June 30, 2012 to July 27, 2012

           $                   

July 28, 2012 to August 24, 2012

     43,772         2.43                   

August 25, 2012 to September 28, 2012

     6,141         2.51                   
  

 

 

       

 

 

    
     49,913       $ 2.44                   
  

 

 

       

 

 

    

 

(a)

Represents shares of our common stock withheld from, or delivered by, employees in order to satisfy applicable tax withholding obligations in connection with the vesting of restricted stock. These repurchases were not made pursuant to any publicly announced plan or program.

 

30


Item 6. Selected Financial Data

The selected consolidated financial data presented below should be read in conjunction with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the notes thereto appearing elsewhere in this report. Our consolidated selected financial data have been derived from our audited consolidated financial statements.

 

     September 28,
2012
    September 30,
2011
    October 1,
2010
    October 2,
2009
    October 3,
2008
 
     (in thousands, except per share amounts)  

Statement of Operations Data

          

Net revenue:

          

Products

   $ 140,415      $ 159,589      $ 165,379      $ 121,552      $ 144,349   

Intellectual property

     591        2,500        12,800        5,000        16,350   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total net revenue

     141,006        162,089        178,179        126,552        160,699   

Cost of goods sold

     62,497        60,292        59,840        49,981        47,625   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross margin

     78,509        101,797        118,339        76,571        113,074   

Operating expenses:

          

Research and development

     67,946        59,174        51,367        50,650        56,217   

Selling, general and administrative

     43,317        42,118        41,419        41,582        46,984   

Acquisition-related costs

     3,777                               

Asset impairments

                   828        2,865          

Restructuring charges

     2,054        1,032        1,856        4,031        211   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     117,094        102,324        95,470        99,128        103,412   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating (loss)/income

     (38,585     (527     22,869        (22,557     9,662   

Interest expense

     (3,148     (1,595     (1,817     (3,127     (5,310

Other income, net

     9,341        1,608        424        1,052        544   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(Loss)/income before income taxes

     (32,392     (514     21,476        (24,632     4,896   

Provision for income taxes

     359        241        406        482        611   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (loss)/income

   $ (32,751   $ (755   $ 21,070      $ (25,114   $ 4,285   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (loss)/income per share:

          

Basic

   $ (0.89   $ (0.02   $ 0.70      $ (1.04   $ 0.19   

Diluted

   $ (0.89   $ (0.02   $ 0.65      $ (1.04   $ 0.18   

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

          

Basic

     36,787        32,279        30,260        24,156        23,046   

Diluted

     36,787        32,279        34,579        24,156        23,202   
     September 28,
2012
    September 30,
2011
    October 1,
2010
    October 2,
2009
    October 3,
2008
 
     (in thousands)  

Balance Sheet Data

          

Cash and cash equivalents

   $ 49,098      $ 45,227      $ 43,685      $ 20,891      $ 43,033   

Working capital

     28,775        50,346        53,762        14,223        50,277   

Total assets

     197,096        110,611        108,684        62,463        100,413   

Long-term debt

     52,765        14,216        13,810        13,415        40,749   

Long-term capital leases

     68        111        574        269          

Stockholders’ equity

     81,735        69,412        61,636        18,890        32,666   

 

31


Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

Mindspeed Technologies, Inc. (we or Mindspeed) designs, develops and sells semiconductor solutions for communications applications in wireline and wireless network infrastructure equipment, which includes broadband access networks (fixed and mobile), enterprise and metropolitan and wide area networks (WAN) (fixed and mobile). We have organized our solutions for these interrelated and rapidly converging networks into three product families: communications convergence processing, which includes small cell wireless equipment, high-performance analog and WAN communications. Our communications convergence processing products include ultra-low-power, multi-core digital signal processor (DSP) system-on-chip (SoC) products for the fixed and mobile (3G/4G) carrier infrastructure and residential and enterprise platforms. Our high-performance analog products include high-density crosspoint switches, optical drivers, equalization and signal-conditioning solutions that solve difficult switching, timing and synchronization challenges in next-generation optical networking, enterprise storage and broadcast video transmission applications. Our WAN communications portfolio helps optimize today’s circuit-switched networks that furnish much of the Internet’s underlying long-distance infrastructure.

Our products are sold to original equipment manufacturers (OEMs) for use in a variety of network infrastructure equipment, including:

 

   

Communications Convergence Processing — triple-play access gateways for Voice-over-Internet Protocol (VoIP) and data processing platforms; broadband customer premises equipment (CPE) gateways and other equipment that carriers use to deliver voice, data and video services to residential subscribers; Internet Protocol (IP) private branch exchange (PBX) equipment and security appliances used in the enterprise and 3G/4G wireless small cell base stations in the carrier infrastructure;

 

   

High-Performance Analog — next-generation fiber access network equipment (including passive optical networking, or PON, systems); switching and signal conditioning products supporting fiber-to-the-premise, optical transport networks (OTN), storage and server systems and broadcast video, inclusive of routers and other systems that are driving the migration to 3G high-definition (HD) transmission; and

 

   

WAN Communications — circuit-switched networking equipment that implements asynchronous transfer mode (ATM) and T1/E1 and T3/E3 communications protocols.

Our customers include Alcatel-Lucent SA, Cisco Systems, Inc., Huawei Technologies Co. Ltd., Hitachi Ltd., LM Ericsson Telephone Company, Mitsubishi Electric Corporation, Nokia Siemens Networks and Zhongxing Telecom Equipment Corp., among others.

We report on a fifty-two/fifty-three week fiscal year ending on the Friday closest to September 30. Fiscal year 2012 comprised 52 weeks and ended on September 28, 2012. Fiscal year 2011 comprised 52 weeks and ended on September 30, 2011. Fiscal year 2010 comprised 52 weeks and ended on October 1, 2010.

Trends and Factors Affecting Our Business

Our products are components of network infrastructure equipment. As a result, we rely on network infrastructure OEMs to select our products from among alternative offerings to be designed into their equipment. These “design wins” are an integral part of the long sales cycle for our 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. We believe our close relationships with leading network infrastructure OEMs facilitate early adoption of our products during development of their products, enhance our ability to obtain design wins and encourage adoption of our technology by the industry. We believe our diverse portfolio of semiconductor solutions has us well positioned to capitalize on some of the most significant trends in telecommunications spending, including: next generation network convergence; VoIP/fiber access deployment in developing and developed markets; 3G/4G wireless infrastructure build-out; the adoption of higher speed interconnectivity solutions; and the migration of broadcast video to HD.

 

32


We market and sell our semiconductor products directly to network infrastructure OEMs. We also sell our products indirectly through electronic component distributors and third-party electronic manufacturing service providers, who manufacture products incorporating our semiconductor networking solutions for OEMs. Sales to distributors accounted for approximately 65% of our net revenue for fiscal 2012. Our revenue is well diversified globally, with 83% of fiscal 2012 net revenue coming from outside of the Americas. We believe a portion of the products we sell to OEMs and third-party manufacturing service providers in the Asia-Pacific region is ultimately shipped to end markets in the Americas and Europe. We believe we are well-situated in China, where fiber deployments are being rolled out by the country’s major telecommunications carriers. Through our OEM customers, we are shipping into the fiber-to-the-building (FTTB) deployments of China Telecom, China Unicom and China Mobile. Approximately 35% of our net revenue for fiscal 2012 was derived from customers in China.

We have significant research, development, engineering and product design capabilities. Our success depends to a substantial degree upon our ability to develop and introduce in a timely fashion new products and enhancements to our existing products that meet changing customer requirements and emerging industry standards. We have made, and plan to make, substantial investments in research and development and to participate in the formulation of industry standards. We spent approximately $67.9 million on research and development in fiscal 2012. We seek to maximize our return on our research and development spending by focusing our research and development investment in what we believe are key growth markets, including VoIP and other high-bandwidth multiservice access applications, high-performance analog applications such as optical networking and broadcast-video transmission, and wireless infrastructure solutions for base station processing. We have developed and maintain a broad intellectual property portfolio, and we may periodically enter into strategic arrangements to leverage our portfolio by licensing or selling our intellectual property.

We are dependent upon third parties for the development, manufacturing, assembly and testing of our products. Our ability to bring new products to market, to fulfill orders and to achieve long-term revenue growth is dependent upon our ability to obtain sufficient external manufacturing capacity, including wafer fabrication capacity. Periods of upturn in the semiconductor industry may be characterized by rapid increases in demand and a shortage of capacity for wafer fabrication and assembly and test services. In such periods, we may experience longer lead times or indeterminate delivery schedules, which may adversely affect our ability to fulfill orders for our products. During periods of capacity shortages for manufacturing, assembly and testing services, our primary foundries and other suppliers may devote their limited capacity to fulfill the requirements of their other customers that are larger than we are, or who have superior contractual rights to enforce manufacture of their products, including to the exclusion of producing our products. The foundries and other suppliers on whom we rely may experience financial difficulties or suffer disruptions in their operations due to causes beyond our control, including deteriorations in general economic conditions, labor strikes, work stoppages, electrical power outages, fire, earthquake, flooding or other natural disasters. We may also incur increased manufacturing costs, including costs of finding acceptable alternative foundries or assembly and test service providers. In order to achieve sustained profitability and positive cash flows from operations, we may need to further reduce operating expenses and/or increase our revenue. We have completed a series of cost reduction actions, which have improved our operating cost structure, and we will continue to perform additional actions, when necessary.

Our ability to achieve revenue growth will depend on increased demand for network infrastructure equipment that incorporates our products, which in turn depends primarily on the level of capital spending by communications service providers, the level of which may decrease due to general economic conditions and uncertainty, over which we have no control. We believe the market for network infrastructure equipment in general, and for communications semiconductors in particular, offers attractive long-term growth prospects due to increasing demand for network capacity, the continued upgrading and expansion of existing networks and the build-out of telecommunication networks in developing countries. However, the semiconductor industry is highly cyclical and is characterized by constant and rapid technological change, rapid product obsolescence and price erosion, evolving technical standards, short product life cycles and wide fluctuations in product supply and demand. In addition, there has been an increasing trend toward industry consolidation, particularly among major network equipment and telecommunications companies. Consolidation in the industry has generally led to pricing pressure and loss of market share. These factors have caused substantial fluctuations in our revenue and our results of operations in the past, and we may experience cyclical fluctuations in our business in the future.

 

33


Critical Accounting Policies and Estimates

The preparation of financial statements in accordance with generally accepted accounting principles (GAAP) in the United States requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Among the significant estimates affecting our consolidated financial statements are those relating to inventories, stock-based compensation, revenue recognition, income taxes, business combinations, goodwill and other long-lived assets and impairment of goodwill and other long-lived assets. We regularly evaluate our estimates and assumptions based upon historical experience and various other factors that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. To the extent actual results differ from those estimates, our future results of operations may be affected.

Inventories — We assess the recoverability of our inventories at least quarterly through a review of inventory levels in relation to foreseeable demand (generally over 12 months). Foreseeable demand is based upon all available information, including sales backlog and forecasts, product marketing plans and product life cycles. When the inventory on hand exceeds the foreseeable demand, we write down the value of those inventories which, at the time of our review, we expect to be unable to sell. The amount of the inventory write-down is the excess of historical cost over estimated realizable value. Once established, these write-downs are considered permanent adjustments to the cost basis of the excess inventory.

Our products are used by OEMs that have designed our products into network infrastructure equipment. For many of our products, we gain these design wins through a lengthy sales cycle, which often includes providing technical support to the OEM customer. In the event of the loss of business from existing OEM customers, we may be unable to secure new customers for our existing products without first achieving new design wins. In the event that quantities of inventory on hand exceed foreseeable demand from existing OEM customers into whose products our products have been designed, we generally are unable to sell our excess inventories to others, and the estimated realizable value of such inventories to us is generally zero.

We base our assessment of the recoverability of our inventories, and the amounts of any write-downs, on currently available information and assumptions about future demand and market conditions. Demand for our products may fluctuate significantly over time, and actual demand and market conditions may be more or less favorable than those projected by management. In the event that actual demand is lower than originally projected, additional inventory write-downs may be required.

Stock-Based Compensation — We account for stock-based compensation transactions using a fair-value method and recognize the fair value of each award as an expense over the service period. The fair value of restricted stock awards is based upon the market price of our common stock at the grant date. For the majority of our awards, we estimate the fair value of stock option awards, as of the grant date, using the Black-Scholes option-pricing model. The use of the Black-Scholes model requires that we make a number of estimates, including the expected option term, the expected volatility in the price of our common stock, the risk-free rate of interest and the dividend yield on our common stock. If our expected option term and stock-price volatility assumptions were different, the resulting determination of the fair value of stock option awards could be materially different. In addition, judgment is also required in estimating the number of share-based awards that we expect will ultimately vest upon the fulfillment of service conditions (such as time-based vesting) or the achievement of specific performance conditions. If the actual number of awards that ultimately vest differs significantly from these estimates, stock-based compensation expense and our results of operations could be materially impacted. We classify compensation expense related to these awards in our consolidated statement of operations based on the department to which the recipient reports.

Revenue Recognition — We generate revenue from direct product sales, sales to distributors, maintenance contracts, development agreements and the sale and license of intellectual property. We recognize revenue when the following fundamental criteria are met: (i) persuasive evidence of an arrangement exists; (ii) delivery has occurred; (iii) our price to the customer is fixed or determinable; and (iv) collection of the sales price is

 

34


reasonably assured. In instances where final acceptance of the product, system, or solution is specified by the customer, revenue is deferred until all acceptance criteria have been met.

We recognize revenue on products shipped directly to customers at the time the products are shipped and title and risk of loss transfer to the customer, in accordance with the terms specified in the arrangement, and the four above mentioned revenue recognition criteria are met.

We recognize revenue on sales to distributors based on the rights granted to these distributors in our distribution agreements. We have certain distributors who have been granted return rights and receive credits for changes in selling prices to end customers, the magnitude of which is not known at the time products are shipped to the distributor. The return rights granted to these distributors consist of limited stock rotation rights, which allow them to rotate up to 10% of the products in their inventory twice a year, as well as certain product return rights if the applicable distribution agreement is terminated. These distributors also receive price concessions because they resell our products to end customers at various negotiated price points which vary by end customer, product, quantity, geography and competitive pricing environments. When a distributor’s resale is priced at a discount from the distributor’s invoice price, we credit back to the distributor a portion of the distributor’s original purchase price after the resale transaction is complete. Thus, a portion of the “Deferred income on sales to distributors” balance will be credited back to the distributor in the future. Under these agreements, we defer recognition of revenue until the products are resold by the distributor, at which time our final net sales price is fixed and the distributor’s right to return the products expires. At the time of shipment to these distributors: (i) we record a trade receivable at the invoiced selling price because there is a legally enforceable obligation from the distributor to pay us currently for product delivered; (ii) we relieve inventory for the carrying value of products shipped because legal title has passed to the distributor; and (iii) we record deferred revenue and deferred cost of inventory under the “Deferred income on sales to distributors” caption in the liability section of our consolidated balance sheets. We evaluate the deferred cost of inventory component of this account for possible impairment by considering potential obsolescence of products that might be returned to us and by considering the potential of resale prices of these products being below our cost. By reviewing deferred inventory costs in the manner discussed above, we ensure that any portion of deferred inventory costs that are not recoverable from future contractual revenue are charged to cost of sales as an expense. “Deferred income on sales to distributors” effectively represents the gross margin on sales to distributors; however, the amount of gross margin we recognize in future periods is typically less than the originally recorded deferred income as a result of negotiated price concessions. In recent years, such concessions have exceeded 30% of list price on average. For detail of this account balance, see Note 3 to our consolidated financial statements.

We recognize revenue from other distributors at the time of shipment and when title and risk of loss transfer to the distributor, in accordance with the terms specified in the arrangement, and when the four above mentioned revenue recognition criteria are met. These distributors may also be given business terms to return a portion of inventory, however they do not receive credits for changes in selling prices to end customers. At the time of shipment, product prices are fixed or determinable and the amount of future returns can be reasonably estimated and accrued.

Our products are often integrated with software that is essential to the functionality of the equipment. Additionally, we provide unspecified software upgrades and enhancements through our maintenance contracts for many of our products. Accordingly, we account for revenue in accordance with Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) 985-605, Software Revenue Recognition, and all related interpretations. For sales of products where software is not included or is incidental to the equipment, we apply the provisions of ASC 605, Revenue Recognition, and all related interpretations.

Revenue from the sale and license of intellectual property is recognized when the above-mentioned four revenue recognition criteria are met. Development revenue is recognized when services are performed and customer acceptance has been received and was not significant for any of the periods presented.

Deferred Income Taxes and Uncertain Tax Positions — We have provided a full valuation allowance against our U.S federal and state deferred tax assets. If sufficient positive evidence of our ability to generate future U.S federal and/or state taxable income becomes apparent, we may be required to reduce our valuation

 

35


allowance, resulting in income tax benefits in our statement of operations. We evaluate the realizability of our deferred tax assets and assess the need for a valuation allowance quarterly. We follow ASC 740, Income Taxes, for the accounting for uncertainty in income taxes recognized in an entity’s financial statements. ASC 740 prescribes a recognition threshold and measurement attributes for financial statement disclosure of tax positions taken or expected to be taken on a tax return. Under ASC 740, the impact of an uncertain income tax position on the income tax return must be recognized at the largest amount that is more likely than not to be sustained upon audit by the relevant taxing authority. An uncertain income tax position will not be recognized if it has less than a 50% likelihood of being sustained. Additionally, the new interpretations provide guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. The application of tax laws and regulations is subject to legal and factual interpretation, judgment and uncertainty. Tax laws and regulations themselves are subject to change as a result of changes in fiscal policy, changes in legislation, the evolution of regulations and court rulings. Therefore, the actual liability for U.S. or foreign taxes may be materially different from our estimates, which could result in the need to record additional tax liabilities or potentially reverse previously recorded tax liabilities.

Business Combinations — The purchase price of an acquisition is allocated to the underlying assets acquired and liabilities assumed based upon their estimated fair values at the date of acquisition. To the extent the purchase price exceeds the fair value of the net identifiable tangible and intangible assets acquired and liabilities assumed, such excess is allocated to goodwill. We determine the estimated fair values after review and consideration of relevant information, including discounted cash flows, quoted market prices and estimates made by management. We adjust the preliminary purchase price allocation, as necessary, during the measurement period of up to one year after the acquisition closing date as we obtain more information as to facts and circumstances existing at the acquisition date impacting asset valuations and liabilities assumed. Goodwill acquired in business combinations is assigned to the reporting unit expected to benefit from the combination as of the acquisition date. Acquisition-related costs are recognized separately from the acquisition and are expensed as incurred.

Goodwill and Other Long-Lived Assets — Goodwill is recorded as the difference, if any, between the aggregate consideration paid for an acquisition and the fair value of the acquired net tangible and intangible assets. Other long-lived assets include the acquired intangible assets of developed technology, trademarks and trade names, customer relationships and in-process research and development, or IPR&D. We currently amortize our acquired intangible assets with definite lives over periods ranging from one to twelve years using a method that reflects the pattern in which the economic benefits of the intangible asset are consumed or otherwise used or, if that pattern cannot be reliably determined, using a straight-line amortization method. We capitalize IPR&D projects acquired as part of a business combination. On completion of each project, IPR&D assets will be reclassified to developed technology and amortized over their estimated useful lives.

Impairment of Goodwill and Other Long-Lived Assets — We evaluate goodwill for impairment on an annual basis as of the end of the tenth month of each fiscal year or more frequently if we believe indicators of impairment exist.

We conduct a two step goodwill impairment test. The first step of the impairment test involves comparing the fair value of the reporting unit with its carrying value. We have four reporting units: wireless, VoIP, high-performance analog (HPA) and WAN. We determine the fair value of the reporting unit using the income approach (Level 2 and Level 3 inputs) and market approach (Level 2 inputs) to valuation, as well as other generally accepted valuation methodologies. If the carrying amount of the reporting unit exceeds the reporting unit’s fair value, we perform the second step of the goodwill impairment test. The second step of the goodwill impairment test involves comparing the implied fair value of the reporting unit’s goodwill with the carrying value of that goodwill. The amount by which the carrying value of the goodwill exceeds its implied fair value, if any, will be recognized as an impairment loss.

The goodwill is allocated to the wireless reporting unit. For purposes of step one analyses for our 2012 annual goodwill impairment test, the fair value of the wireless reporting unit was determined based on the weighted fair value using market and income approach. Determining the fair value of our reporting units is judgmental in nature and requires the use of significant estimates and assumptions. The income approach was

 

36


based on discounted cash flows which were derived from internal forecasts and economic expectations. Key assumptions used to determine the fair value under the income approach include the cash flow period, terminal values based on a terminal growth rate and the discount rate. The market approach utilized valuation multiples based on operating and valuation metrics from comparable companies in the industry. The result of the impairment analysis showed that the estimated fair value of the wireless reporting unit exceeded its carrying value by approximately 17%. We continue to monitor the impact of recent market and economic events to determine if impairment indicators exist. Should a triggering event occur in 2013, we will perform an interim impairment test.

During development, IPR&D is not subject to amortization and is tested for impairment annually or more frequently if events or changes in circumstances indicate that the asset might be impaired. The impairment test consists of a comparison of the fair value to its carrying amount. We determine the fair value using the income approach (Level 2 and Level 3 inputs). If the carrying value exceeds its fair value, an impairment loss is recognized in an amount equal to that excess. Once an IPR&D project is complete, it becomes a definite long-lived intangible asset and is evaluated for impairment in accordance with our policy for the impairment of other long-lived assets.

We continually monitor events or changes in circumstances that could indicate that the carrying amount of long-lived assets to be held and used, including intangible assets, may not be recoverable. An indication of impairment exists when the asset carrying value exceeds the undiscounted future cash flows resulting from the use of the asset and its eventual disposition. When indicators of impairment exist for a long-lived asset, the amount of impairment loss is the excess of net book value over fair value. Long-lived assets to be disposed of are reported at the lower of carrying amount or fair value less costs to sell. See Note 13 to our consolidated financial statements for a discussion of the impairment of certain long-lived assets.

Recent Accounting Pronouncements

In September 2011, the FASB issued accounting guidance intended to simplify goodwill impairment testing. Entities will be allowed to perform a qualitative assessment on goodwill impairment to determine whether a quantitative assessment is necessary. This guidance is effective for goodwill impairment tests performed in interim and annual periods for fiscal years beginning after December 15, 2011. Early adoption is permitted. We do not expect the adoption of this guidance to have a material impact on our consolidated financial statements.

In June 2011, the FASB issued guidance regarding the presentation of comprehensive income. The new standard requires the presentation of comprehensive income, the components of net income and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. The updated guidance is effective on a retrospective basis for financial statements issued for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2011. We early adopted and retrospectively applied the provisions of this guidance. The adoption of this guidance did not have a material impact on our consolidated financial statements.

In May 2011, the FASB issued additional guidance on fair value measurements that clarifies the application of existing guidance and disclosure requirements, changes certain fair value measurement principles and requires additional disclosures about fair value measurements. We adopted these provisions during the second quarter of fiscal 2012. The adoption of this guidance did not have a material impact on our consolidated financial statements.

In July 2012, the FASB issued accounting guidance intended to simplify the test for impairment of indefinite-lived intangible assets. The amendments permit an entity to first assess qualitative factors to determine whether it is more likely than not that the fair value of the asset is less than its carrying amount as a basis for determining if performing a quantitative test is necessary. The amendments do not change the measurement of impairment losses. The amendments are effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012 with early adoption permitted. We do not expect the adoption of this guidance to have a material impact on our consolidated financial statements.

 

37


Results of Operations

Net Revenue

The following table summarizes net revenue by product line for fiscal 2012 compared to fiscal 2011:

 

     Year Ended              
     September  28,
2012
     % of  Net
Revenue
    September  30,
2011
     % of  Net
Revenue
    Change  
               $     %  
     (in thousands, except percentages)  

Communications convergence processing

   $ 58,892         42   $ 71,652         44   $ (12,760     -17.8

High-performance analog

     64,667         46     59,240         36     5,427        9.2

WAN communications

     16,856         12     28,697         18     (11,841     -41.3
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

Total net product revenue

     140,415         100     159,589         98     (19,174     -12.0

Intellectual property

     591         0     2,500         2     (1,909     -76.4
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

Net revenue

   $ 141,006         100   $ 162,089         100   $ (21,083     -13.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

The decrease in our net revenue for fiscal 2012 compared to fiscal 2011 was due to lower sales volumes for our communications convergence processing products, WAN communications products and intellectual property revenue. These decreases were partially offset by an increase in demand for our high-performance analog products. Net revenue from our communications convergence processing products decreased in fiscal 2012 when compared to fiscal 2011 due to a decrease in net revenue from a slowdown in carrier capital expenditures in 3G equipment, which resulted in fewer shipments of wireless media gateways used in terminating calls between the public telephone switched networks (PTSN) and mobile networks. This decrease was partially offset by an increase in shipments of products for small cell base stations of $9.9 million resulting from our acquisition of picoChip, which closed on February 6, 2012. Net revenue from high-performance analog products increased in fiscal 2012 when compared to fiscal 2011 due to increased demand for optical physical media devices, as well as an increase in demand for crosspoint switches. Net revenue from WAN communications products decreased in fiscal 2012 compared to fiscal 2011 due to a slowdown in demand at several large customers, particularly in legacy ATM-based systems. WAN communications products represent a legacy business for us, as we have shifted almost all of our research and development investment into our growth businesses of CPE, wireless and high-performance analog products. Net revenue from intellectual property licensing and sales decreased in fiscal 2012 compared to fiscal 2011 due to the timing of intellectual property sales. We have developed and maintain a broad intellectual property portfolio, and we may periodically enter into strategic arrangements to leverage our portfolio by licensing or selling our patents.

The following table summarizes net revenue by product line for fiscal 2011 compared to fiscal 2010:

 

     Year Ended              
     September  30,
2011
     % of  Net
Revenue
    October  1,
2010
     % of  Net
Revenue
    Change  
               $     %  
     (in thousands, except percentages)  

Communications convergence processing

   $ 71,652         44   $ 66,923         38   $ 4,729        7.1

High-performance analog

     59,240         36     54,311         30     4,929        9.1

WAN communications

     28,697         18     44,145         25     (15,448     -35.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

Total net product revenue

     159,589         98     165,379         93     (5,790     -3.5

Intellectual property

     2,500         2     12,800         7     (10,300     -80.5
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

Net revenue

   $ 162,089         100   $ 178,179         100   $ (16,090     -9.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

The decrease in our net revenue for fiscal 2011 compared to fiscal 2010 mainly reflects lower sales volumes in our WAN communications products and lower revenue from the sale of intellectual property. These decreases were partially offset by higher sales volume in our communications convergence processing products and our

 

38


high-performance analog products. Net revenue from our WAN communications products decreased in fiscal 2011 compared to fiscal 2010 due to a slowdown in demand at several large customers, particularly in ATM-based systems. WAN communications products represent a legacy business for us, as we have shifted almost all of our research and development investment into our two growth businesses of communications convergence processing products and high-performance analog products. Net revenue from intellectual property licensing and sales decreased in fiscal 2011 compared to fiscal 2010 due to a decline in intellectual property sales in fiscal 2011. Net revenue from our communications convergence processing products increased in fiscal 2011 when compared to fiscal 2010, due to an increase in shipments of CPE products, which are used in broadband CPE gateways and other equipment that service providers are deploying in order to deliver voice, data and video services to residential subscribers. Within communications convergence processing, we also experienced an increase in shipments for FTTB deployments, particularly to customers in China. Net revenue from high-performance analog products increased in fiscal 2011 when compared to fiscal 2010, primarily due to increased demand for physical media devices, which are primarily used in equipment for fiber-to-the-premise deployments.

Gross Margin

Gross margin represents net revenue less cost of goods sold. As a fabless semiconductor company, we use third parties, including Taiwan Semiconductor Manufacturing Co., Ltd. (TSMC), Amkor Technology, Inc., Unisem, Inc., Jazz Semiconductor, Inc and Advanced Semiconductor Engineering, Inc. (ASE), for wafer fabrication and assembly and test services. Cost of goods sold primarily consisted of: purchased finished wafers; assembly and test services; royalty and other intellectual property costs; labor and overhead costs associated with product procurement; asset impairments; amortization of the cost of mask sets purchased; and sustaining engineering expenses pertaining to products sold.

The following table presents gross margin for fiscal 2012 compared to fiscal 2011:

 

     Year Ended              
     September  28,
2012
     % of  Net
Revenue
    September  30,
2011
     % of  Net
Revenue
    Change  
               $     %  
     (in thousands, except percentages)  

Gross margin

   $ 78,509         56   $ 101,797         63   $ (23,288     -22.9
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

 

 

 

Our gross margin for fiscal 2012 decreased from fiscal 2011 due to a $19.2 million, or 12%, decrease in product revenue, and a $1.9 million decrease in intellectual property revenue. The decrease in gross margin was also due to $3.4 million of asset impairments recorded in cost of goods sold, which related to the impairment of an intellectual property license and a photomask during the third quarter of fiscal 2012, as described in Note 13 of our consolidated financial statements, and $1.4 million from the write-up to fair value of acquired inventory and amortization of acquired intangible assets related to the picoChip acquisition. The decrease in our gross margin as a percent of net revenue for fiscal 2012 compared to fiscal 2011 was driven primarily by a change in product mix, as well as a decrease in intellectual property revenue, which had little associated cost, and the asset impairments.

The following table presents gross margin for fiscal 2011 compared to fiscal 2010:

 

     Year Ended              
     September  30,
2011
     % of  Net
Revenue
    October  1,
2010
     % of  Net
Revenue
    Change  
               $     %  
     (in thousands, except percentages)  

Gross margin

   $ 101,797         63   $ 118,339         66   $ (16,542     -14.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

Our gross margin for fiscal 2011 decreased from fiscal 2010, principally reflecting a $5.8 million decrease in product sales and a $10.3 million decrease in intellectual property revenue in fiscal 2011. The decrease in our gross margin as a percent of net revenue for fiscal 2011 compared to fiscal 2010 was primarily due to a decrease in the sale of intellectual property, which had little associated cost, as well as a change in product mix.

 

39


Research and Development

Research and development (R&D) expenses consisted primarily of: direct personnel costs, including stock-based compensation; photomasks; electronic design automation tools; and pre-production evaluation and test costs.

The following table presents details of R&D expense for fiscal 2012 compared to fiscal 2011:

 

     Year Ended               
     September  28,
2012
     % of  Net
Revenue
    September  30,
2011
     % of  Net
Revenue
    Change  
               $      %  
     (in thousands, except percentages)  

Personnel-related costs

   $ 40,043         $ 35,992         $ 4,051         11.3

Stock-based compensation

     3,727           1,783           1,944         109.0

Design and development costs

     12,418           12,299           119         1.0

Facilities

     6,688           5,605           1,083         19.3

Depreciation

     2,963           2,015           948         47.0

Other

     2,107           1,480           627         42.4
  

 

 

      

 

 

      

 

 

    

Research and development

   $ 67,946         48   $ 59,174         37   $ 8,772         14.8
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

The increase in R&D expenses for fiscal 2012 compared to fiscal 2011 was primarily due to an increase in personnel-related costs and stock-based compensation expense. The increase in personnel-related costs was primarily due to bonus expense and the additional R&D employees and related personnel costs associated with the acquisition of picoChip. The increase in stock-based compensation expense was primarily due to an increase in the number and weighted-average grant date fair value of stock awards vesting in fiscal 2012. R&D expense also increased due to increased facilities and depreciation expense related to the additional facilities and property, plant and equipment obtained through the acquisition of picoChip.

The following table presents details of R&D expense for fiscal 2011 compared to fiscal 2010:

 

     Year Ended              
     September  30,
2011
     % of  Net
Revenue
    October  1,
2010
     % of  Net
Revenue
    Change  
               $     %  
     (in thousands, except percentages)  

Personnel-related costs

   $ 35,992         $ 32,170         $ 3,822        11.9

Stock-based compensation

     1,783           1,004           779        77.6

Design and development costs

     12,299           9,689           2,610        26.9

Facilities

     5,605           5,928           (323     -5.4

Depreciation

     2,015           1,299           716        55.1

Other

     1,480           1,277           203        15.9
  

 

 

      

 

 

      

 

 

   

Research and development

   $ 59,174         37   $ 51,367         29   $ 7,807        15.2
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

The increase in R&D expenses for fiscal 2011 compared to fiscal 2010 was primarily driven by increased investment in our next generation products in both the wireless and enterprise markets that resulted in an increase in design and development costs, including engineering tools, contracted engineering services and depreciation on engineering equipment; and an increase in personnel costs, including stock-based compensation, as a result of increased headcount.

Selling, General and Administrative

Our selling, general and administrative (SG&A) expenses include personnel costs, independent sales representative commissions and product marketing, applications engineering and other marketing costs. Our SG&A expenses also include costs of corporate functions, including accounting, finance, legal, human resources, information systems and communications.

 

40


The following table presents details of SG&A expense for fiscal 2012 compared to fiscal 2011:

 

    Year Ended              
    September  28,
2012
    % of  Net
Revenue
    September  30,
2011
    % of  Net
Revenue
    Change  
            $     %  
    (in thousands, except percentages)  

Personnel-related costs

  $ 21,407        $ 25,635        $ (4,228     -16.5

Stock-based compensation

    7,930          4,046          3,884        96.0

Professional fees and outside services

    3,518          4,207          (689     -16.4

Facilities

    2,818          3,285          (467     -14.2

Depreciation

    616          671          (55     -8.2

Integration costs

    2,219                   2,219        100.0

Other

    4,809          4,274          535        12.5
 

 

 

     

 

 

     

 

 

   

Selling, general and administrative

  $ 43,317        31   $ 42,118        26   $ 1,199        2.8
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

The increase in our SG&A expenses in fiscal 2012 compared to fiscal 2011 was primarily due to increases in stock-based compensation expense and integration costs, which were partially offset by a decrease in personnel-related costs. The increase in stock-based compensation expense was primarily due to an increase in the number and weighted-average grant date fair value of stock awards vesting in fiscal 2012. The increase to integration costs was due to costs incurred to transition picoChip to be our wholly owned subsidiary. The decrease in personnel-related costs was primarily due to the restructuring plans implemented during the fourth quarter of fiscal 2011 and second and fourth quarters of fiscal 2012.

The following table presents details of SG&A expense for fiscal 2011 compared to fiscal 2010:

 

    Year Ended              
    September  30,
2011
    % of  Net
Revenue
    October  1,
2010
    % of  Net
Revenue
    Change  
            $     %  
    (in thousands, except percentages)  

Personnel-related costs

  $ 25,635        $ 26,756        $ (1,121     -4.2

Stock-based compensation

    4,046          3,076          970        31.5

Professional fees and outside services

    4,207          3,948          259        6.6

Facilities

    3,285          3,420          (135     -3.9

Depreciation

    671          549          122        22.2

Other

    4,274          3,670          604        16.5
 

 

 

     

 

 

     

 

 

   

Selling, general and administrative

  $ 42,118        26   $ 41,419        23   $ 699        1.7
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

The increase in our SG&A expenses in fiscal 2011 compared to fiscal 2010 was primarily driven by an increase in stock-based compensation expense and other expenses, including primarily business taxes and our provision for bad debt. These increases were partially offset by a decrease in personnel-related costs resulting from headcount reductions associated with our fourth quarter of fiscal 2011 restructuring plan, as well as a decrease in our accrual for management’s bonus.

Special Charges

Special charges consisted of the following:

 

     Year Ended  
     September 28,
2012
     September 30,
2011
     October 1,
2010
 
     (in thousands)  

Asset impairments

   $       $       $ 828   

Restructuring charges

     2,054         1,032         1,856   
  

 

 

    

 

 

    

 

 

 

Total special charges

   $ 2,054       $ 1,032       $ 2,684   
  

 

 

    

 

 

    

 

 

 

 

41


Asset Impairments

During fiscal 2010, we recorded asset impairment charges of $828,000. These impairment charges consisted of property and equipment that we determined to abandon or scrap.

Restructuring Charges

We have, and may in the future, commit to restructuring plans to help manage our costs or to help implement strategic initiatives, among other reasons.

Fourth Quarter of Fiscal 2012 Restructuring Plan — In the fourth quarter of fiscal 2012, we committed to the implementation of a restructuring plan, which consisted primarily of a headcount reduction in our R&D and SG&A functions. The restructuring plan is expected to be substantially completed during the second quarter of fiscal 2013. We made the decision to implement the restructuring in furtherance of our efforts to reduce operating expenses and cash consumption. Approximately $766,000 in charges were incurred in the fourth quarter of fiscal 2012 related to severance costs for affected employees.

Activity and liability balances related to our fourth quarter of fiscal 2012 restructuring plan through September 28, 2012 were as follows:

 

     Workforce
Reductions
 
     (in thousands)  

Charges to costs and expenses

   $ 766   

Cash payments

     (403

Non-cash charge

     19   
  

 

 

 

Restructuring balance, September 28, 2012

   $ 382   
  

 

 

 

The remaining accrued restructuring balance principally represents employee severance costs. We expect to pay these remaining obligations through the second quarter of fiscal 2013.

Second Quarter of Fiscal 2012 Restructuring Plan — In the second quarter of fiscal 2012, we committed to the implementation of a restructuring plan to realize synergies in connection with our acquisition of picoChip, which closed on February 6, 2012. The plan consisted primarily of a targeted headcount reduction in connection with our acquisition of picoChip. The restructuring plan was substantially completed during the third quarter of fiscal 2012. Approximately $1.2 million in charges were incurred in fiscal 2012 related to severance costs for affected employees.

Activity and liability balances related to our second quarter of fiscal 2012 restructuring plan through September 28, 2012 were as follows:

 

     Workforce
Reductions
 
     (in thousands)  

Charges to costs and expenses

   $ 1,190   

Cash payments

     (1,175

Non-cash adjustment

     (15
  

 

 

 

Restructuring balance, September 28, 2012

   $   
  

 

 

 

During the fourth quarter of fiscal 2012, any amounts left to be paid under this plan were paid and any remaining accrued amount was reversed.

Fourth Quarter of Fiscal 2011 Restructuring Plan — In the fourth quarter of fiscal 2011, we implemented a restructuring plan, which consisted primarily of a targeted headcount reduction in the SG&A functions and WAN business unit. We incurred $1.1 million of charges related to severance costs for the affected employees during the fourth quarter of fiscal 2011. The restructuring plan was substantially completed during the fourth quarter of fiscal 2011. An additional $138,000 of charges were incurred related to severance costs for the affected employees during the third quarter of fiscal 2012.

 

42


Activity and liability balances related to our fourth quarter of fiscal 2011 restructuring plan through September 28, 2012 were as follows:

 

     Workforce
Reductions
 
     (in thousands)  

Charges to costs and expenses

   $ 1,091   

Cash payments

     (189
  

 

 

 

Restructuring balance, September 30, 2011

   $ 902   
  

 

 

 

Charges to costs and expenses

     138   

Cash payments

     (995
  

 

 

 

Restructuring balance, September 28, 2012

   $ 45   
  

 

 

 

The remaining accrued restructuring balance principally represents employee severance costs. We expect to pay these remaining obligations through the third quarter of fiscal 2013.

Fourth Quarter of Fiscal 2010 Restructuring Plan — In the fourth quarter of fiscal 2010, we implemented a restructuring plan, which consisted primarily of a targeted headcount reduction in our WAN business unit and SG&A functions. The restructuring plan was substantially completed during the fourth quarter of fiscal 2010. Of the $1.3 million in charges incurred during the fourth quarter of fiscal 2010, $966,000 related to severance costs for affected employees and $311,000 related to abandoned technology.

Activity and liability balances related to our fourth quarter of fiscal 2010 restructuring plan through September 28, 2012 were as follows:

 

     Workforce
Reductions
    Facility and
Other
    Total  
     (in thousands)  

Charges to costs and expenses

   $ 966      $ 311      $ 1,277   

Cash payments

     (265            (265

Non-cash asset write-downs

            (311     (311
  

 

 

   

 

 

   

 

 

 

Restructuring balance, October 1, 2010

   $ 701      $      $ 701   
  

 

 

   

 

 

   

 

 

 

Charges to costs and expenses

     (618            (618

Cash payments

     (41            (41
  

 

 

   

 

 

   

 

 

 

Restructuring balance, September 30, 2011

   $ 42      $      $ 42   
  

 

 

   

 

 

   

 

 

 

Charges to costs and expenses

     (40            (40

Non-cash adjustment

     (2            (2
  

 

 

   

 

 

   

 

 

 

Restructuring balance, September 28, 2012

   $      $      $   
  

 

 

   

 

 

   

 

 

 

During the second quarter of fiscal 2012, any amounts left to be paid under this plan were paid and any remaining accrued amount was reversed.

Interest Expense

Interest expense primarily consisted of interest on our 6.50% convertible senior notes in periods prior to the second quarter of fiscal 2012. For periods subsequent to the second quarter of fiscal 2012, interest expense consisted of interest on our 6.75% convertible senior notes, our loan and security agreement and our 6.50% convertible senior notes.

 

43


The following table presents interest expense for fiscal 2012 compared to fiscal 2011:

 

     Year Ended        
     September  28,
2012
     % of  Net
Revenue
    September  30,
2011
     % of  Net
Revenue
    Change  
               $      %  
     (in thousands, except percentages)  

Interest expense

   $ 3,148         2   $ 1,595         1   $ 1,553         97.4
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

The increase in our interest expense in fiscal 2012 compared to fiscal 2011was due to our new 6.75% convertible senior notes and loan and security agreement. In June 2012, we sold $32.0 million in aggregate principal amount of our 6.75% convertible senior notes due 2017. Interest on the 6.75% convertible notes is paid semi-annually in arrears at a rate of 6.75% per year on the principal amount. In February 2012, we entered into a term loan facility of $15.0 million and a revolving credit facility of up to $20.0 million pursuant to a loan and security agreement dated February 6, 2012, as amended on June 12, 2012. See Note 7 to our consolidated financial statements for additional information on the interest terms.

The following table presents interest expense for fiscal 2011 compared to fiscal 2010:

 

     Year Ended              
     September  30,
2011
     % of  Net
Revenue
    October  1,
2010
     % of  Net
Revenue
    Change  
               $     %  
     (in thousands, except percentages)  

Interest expense

   $ 1,595         1   $ 1,817         1   $ (222     -12.2
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

 

 

 

The decline in our interest expense charge in fiscal 2012 compared to fiscal 2011 corresponded to the decrease in our overall debt balance during that period. In November 2009, we repaid the remaining $10.5 million due under our 3.75% convertible senior notes, thereby decreasing our interest expense related to these notes for the remainder of fiscal 2010. As a result of adopting ASC 470-20 on October 3, 2009, we have separately accounted for the liability and equity components of our convertible senior notes, retrospectively, which resulted in recognizing interest expense based on the entity’s borrowing rate at the time of issuance for similar unsecured senior debt without an equity conversion feature. See Note 7 to our consolidated financial statements for additional information on the adoption of ASC 470-20.

Other Income, Net

Other income, net, principally consisted of the change in fair value of contingent consideration, income from reimbursable foreign R&D incentives, interest income, foreign exchange gains and losses and other non-operating gains and losses.

The following table presents other income, net, for fiscal 2012 compared to fiscal 2011:

 

     Year Ended               
     September  28,
2012
     % of  Net
Revenue
    September  30,
2011
     % of  Net
Revenue
    Change  
               $      %  
     (in thousands, except percentages)  

Other Income, Net

   $ 9,341         7   $ 1,608         1   $ 7,733         480.9
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

The increase in other income, net, in fiscal 2012 compared to fiscal 2011 reflected a gain of $8.2 million related to the revaluation of our contingent consideration and an increase of $122,000 in net foreign exchange gains. The increase to other income, net, was partially offset by a $691,000 decrease in reimbursable foreign research and development credits.

 

     Year Ended               
     September  30,
2011
     % of  Net
Revenue
    October  1,
2010
     % of  Net
Revenue
    Change  
               $      %  
     (in thousands, except percentages)  

Other Income, Net

   $ 1,608         1   $ 424         0   $ 1,184         279.2
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

44


The increase in other income, net, in fiscal 2011 compared to fiscal 2010 principally reflected $1.7 million in reimbursable foreign research and development credits recorded in other income in fiscal 2011. This increase in other income was partially offset by approximately $80,000 in net foreign exchange losses recorded in fiscal 2011 compared to $430,000 in net foreign exchange gains recorded in fiscal 2010.

Provision for Income Taxes

The following tables present provision for income taxes for fiscal 2012 compared to fiscal 2011 and fiscal 2011 compared to fiscal 2010:

 

     Year Ended               
     September  28,
2012
     % of  Net
Revenue
    September  30,
2011
     % of  Net
Revenue
    Change  
               $      %  
     (in thousands, except percentages)  

Provision for income taxes

   $ 359         0   $ 241         0   $ 118         49.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

     Year Ended              
     September  30,
2011
     % of  Net
Revenue
    October  1,
2010
     % of  Net
Revenue
    Change  
               $     %  
     (in thousands, except percentages)  

Provision for income taxes

   $ 241         0   $ 406         0   $ (165     -40.6
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

 

 

 

Our provision for income taxes for fiscal 2012 and 2011 principally consisted of income taxes incurred by our foreign subsidiaries. Our provision for income taxes for fiscal 2010 principally consisted of income tax due on operating income generated in the U.S. A substantial portion of this operating income was offset by previously generated net operating losses, thereby reducing the effective tax rate on U.S. earnings.

As of September 28, 2012, we had a valuation allowance of $257.9 million against our U.S. federal and state deferred tax assets (which reduces their carrying value to zero) because we continue to believe that it is unlikely that we will realize these deferred tax assets through the reduction of future income tax payments. We have considered both positive and negative evidence in reaching this determination and placed considerable weight upon the cumulative losses over the past three year period. As of September 28, 2012, we had U.S. federal net operating loss carryforwards of approximately $649.5 million, including the net operating loss carryforwards we retained in the distribution. We can provide no assurances that we will be able to retain or fully utilize such net operating loss carryforwards, or that such net operating loss carryforwards will not be significantly limited in the future.

Liquidity and Capital Resources

Our principal source of liquidity is our existing cash and cash equivalent balance.

In order to achieve profitability and positive cash flows from operations, we may need to further reduce operating expenses, increase our gross margin and/or increase revenue. We have recently completed a series of cost reduction actions, which have improved our operating expense structure, and we will continue to perform additional actions, if necessary. In addition, we may commit to additional restructurings to help implement strategic initiatives. These restructurings and other cost saving measures alone may not allow us to achieve profitability. Our ability to maintain, or increase, current revenue levels to achieve and sustain profitability will depend on demand for network infrastructure equipment that incorporates our products, which in turn depends primarily on the level of capital spending by communications service providers and enterprises, the level of which may decrease due to general economic conditions, and uncertainty, over which we have no control. We may be unable to increase current revenue levels or sustain past and future expense reductions in subsequent periods. We may not be able to achieve profitability.

On February 6, 2012, we completed the acquisition of picoChip. We paid net cash of approximately $20.1 million (less certain deductions) and issued an aggregate of 5.2 million shares of our authorized common stock,

 

45


par value $0.01 per share, to the stockholders of picoChip. We have also become obligated to make an additional earnout payment, which was contingent on the achievement of a milestone relating to certain product developments. As of September 28, 2012, the estimated amount payable on this earnout was $1.9 million. Earnout payments will be paid in the first quarter of calendar 2013, and we may make earnout payments in the form of cash, stock or any combination thereof.

We believe that our existing cash balances, cash expected to be generated from operations and our revolving credit facility, will be sufficient to fund our operations, anticipated capital expenditures, working capital and other financing requirements, including interest payments on debt obligations, for at least the next 12 months. We have $375,000 of principal payments due in March 2013 and in June 2013 on our term loan with SVB and $15.0 million of principal payments due in August 2013 on our 6.50% convertible notes. We have no other principal payments on debt obligations for the next 12 months. We may acquire our debt securities through privately negotiated transactions, tender offers, exchange offers (for new debt or other securities), redemptions or otherwise, upon such terms and at such prices as we may determine appropriate. We will need to continue a focused program of capital expenditures to meet our research and development and corporate requirements. We may also consider acquisition opportunities to extend our technology portfolio and design expertise and to expand our product offerings. In order to fund capital expenditures, increase our working capital, re-pay debt or complete any acquisitions, we may seek to obtain additional debt or equity financing. We may also need to seek to obtain additional debt or equity financing if we experience downturns or cyclical fluctuations in our business that are more severe or longer than anticipated or if we fail to achieve anticipated revenue and expense levels. However, we cannot assure you that such financing will be available to us on favorable terms, or at all, particularly in light of recent economic conditions in the capital markets.

The following tables present details of our working capital and cash and cash equivalents:

 

     Year Ended               
     September  28,
2012
     September  30,
2011
     Change  
           $     %  
     (in thousands, except percentages)  

Working capital

   $ 28,775       $ 50,346       $ (21,571     -42.8
  

 

 

    

 

 

    

 

 

   

 

 

 

Cash and cash equivalents

   $ 49,098       $ 45,227       $ 3,871        8.6
  

 

 

    

 

 

    

 

 

   

 

 

 

 

     Year Ended               
     September  30,
2011
     October  1,
2010
     Change  
           $     %  
     (in thousands, except percentages)  

Working capital

   $ 50,346       $ 53,762       $ (3,416     -6.4
  

 

 

    

 

 

    

 

 

   

 

 

 

Cash and cash equivalents

   $ 45,227       $ 43,685       $ 1,542        3.5
  

 

 

    

 

 

    

 

 

   

 

 

 

Cash and cash equivalents increased as a result of cash provided by financing activities, which was mostly offset by cash used in operating activities and cash used in investing activities.

 

46


The following table presents the major components of the consolidated statements of cash flows:

 

     Year Ended  
     September 28,     September 30,     October 1,  
     2012     2011     2010  
     (in thousands)  

Net cash (used in)/provided by:

      

Net (loss)/income

   $ (32,751   $ (755   $ 21,070   

Non-cash operating expenses, net

     19,274        16,486        14,667   

Changes in assets and liabilities:

      

Receivables

     217        12,263        (17,986

Inventories

     4,407        (5,179     (800

Other assets, net

     (4,141     1,600        (538

Accounts payable

     194        (3,533     1,430   

Deferred income on sales to distributors

     (950     147        2,595   

Accrued restructuring charges

     (2,573     (809     (1,283

Accrued compensation and benefits

     (4,060     (2,082     3,596   

Accrued expenses and other current liabilities

     (1,888     (346     1,489   

Other liabilities, net

     5,513        377        (406
  

 

 

   

 

 

   

 

 

 

Net cash (used in)/provided by operating activities

     (16,758     18,169        23,834   

Net cash used in investing activities

     (37,763     (18,548     (8,027

Net cash provided by financing activities

     58,401        2,017        6,960   

Effect of foreign currency exchange rates on cash

     (9     (96     27   
  

 

 

   

 

 

   

 

 

 

Net increase in cash and cash equivalents

   $ 3,871      $ 1,542      $ 22,794   
  

 

 

   

 

 

   

 

 

 

Operating Activities

Operating activities used cash for fiscal 2012 due to our net loss and net cash used in changes in operating assets and liabilities, partially offset by net non-cash adjustments. Significant non-cash adjustments included stock-based compensation expense, the revaluation of contingent consideration, depreciation and amortization of property, plant and equipment, amortization of intangible assets and asset impairments. Cash outflows related to a decrease in accrued restructuring charges due to payments made on the restructuring plans implemented in the second and fourth quarters of fiscal 2012 and fourth quarter of fiscal 2011 and a decrease in accrued compensation and benefits due to the payment of bonuses under our fiscal 2011 cash bonus plan in the first quarter of fiscal 2012. These cash outflows were partially offset by a decrease in our inventory balance due to our focused efforts in decreasing our inventory on hand and increasing our inventory turns.

Operating activities provided cash for fiscal 2011 due to net non-cash adjustments and net cash provided by changes in operating assets and liabilities, which were partially offset by our net loss. Significant non-cash adjustments included stock-based compensation expense, depreciation and amortization of property, plant and equipment and amortization of intangible assets. The changes in operating assets and liabilities that had a significant impact on cash provided by operating activities included a significant decrease in receivables due to the timing of product shipments and cash receipts. Our net days sales outstanding decreased from 41 days in the fourth quarter of fiscal 2010 to 30 days in the fourth quarter of fiscal 2011. This cash inflow was partially offset by outflows resulting from an increase in inventories resulting from an acceleration of our ordering of certain raw materials in an effort to ensure supply on these items in light of the impact that the Japan natural disasters could have had on production, a decrease in accrued compensation and benefits mainly due to the fiscal 2010 management bonus that was paid in early fiscal 2011 and a decrease in accounts payable due to reduced levels of inventory purchases and the timing of vendor payments.

Operating activities provided cash for fiscal 2010 due to net income and net non-cash adjustments, offset by net cash used by changes in operating assets and liabilities. Significant non-cash adjustments included depreciation and amortization, stock-based compensation, restructuring charges, inventory provisions and amortization of licensed and purchased intangibles. The changes in operating assets and liabilities that had a

 

47


significant impact on cash provided by operating activities included an increase in accounts receivable, which was partially offset due to various factors, including an increase in sales volume in fiscal 2010 compared to fiscal 2009, the timing of sales and the timing of collections. Our net days sales outstanding increased from 20 days in the fourth quarter of fiscal 2009 to 41 days in the fourth quarter of fiscal 2010. In addition, restructuring related payments made during fiscal 2010 were significantly lower than payments made in fiscal 2009. Partially offsetting the increase in accounts receivable and decrease in restructuring related payments was an increase in accrued expenses and other current liabilities, due to our fiscal 2010 management bonus accrual, as well as the timing of vendor payments. In addition, deferred income on shipments to distributors increased due to an increase in inventory being held by our distributors.

Investing Activities

Investing activities used cash for fiscal 2012 due to payments under license agreements of $13.0 million, the purchase of property, plant and equipment of $4.6 million and the acquisition of picoChip of $20.1 million.

Investing activities used cash for fiscal 2011 due to the purchase of property, plant and equipment of $8.0 million and payments under licensed and purchased intangibles of $10.4 million.

Investing activities used cash for fiscal 2010 due to the purchase of property, plant and equipment of $6.2 million and payments under licensed and purchased intangibles of $1.8 million.

Financing Activities

Financing activities provided cash for fiscal 2012 due to the $30.6 million received upon issuance of convertible notes due 2017, $31.8 million in borrowings under our line of credit and term loan and $2.1 million in proceeds from equity compensation programs. These cash inflows were partially offset by $1.2 million in payments made related to shares of our common stock withheld from, or delivered by, employees in order to satisfy applicable tax withholding obligations in connection with the vesting of restricted stock, $1.0 million in deferred financing costs and $3.3 million in payments made on our line of credit.

Financing activities provided cash for fiscal 2011 due to $2.9 million in proceeds from equity compensation programs, partially offset by $415,000 in payments made related to shares of our common stock withheld from, or delivered by, employees in order to satisfy applicable tax withholding obligations in connection with the vesting of restricted stock and $482,000 in payments made on capital lease obligations.

Financing activities provided cash for fiscal 2010 due primarily to three significant items. In the first quarter of fiscal 2010, we used cash when we paid $10.5 million to retire the remaining principal amount of our 3.75% convertible senior notes, which matured in November 2009. Offsetting this use of cash was $17.0 million in net proceeds we received from the sale of approximately 2.5 million shares of our common stock in an offering that was completed in the second quarter of fiscal 2010. We also generated cash from financing activities of $1.6 million in proceeds received in conjunction with the exercise of stock options in fiscal 2010.

Revolving Credit Facilities and Long-Term Debt

6.75% Convertible Senior Notes

On June 19, 2012, we sold $32.0 million in aggregate principal amount of our 6.75% convertible senior notes due 2017 for net proceeds of $30.6 million. Interest on the 6.75% convertible notes is payable semi-annually on June 15 and December 15 in arrears in cash at a rate of 6.75% per year on the principal amount, accruing from June 19, 2012. The 6.75% convertible notes will mature on June 15, 2017, unless earlier repurchased, redeemed or converted. The 6.75% convertible notes are fully and unconditionally guaranteed on a senior, unsecured basis by certain of our subsidiaries. The effective interest rate was 7.5% for fiscal 2012. The interest expense for the $32.0 million convertible debt for fiscal 2012 was $697,000.

The 6.75% convertible notes are convertible at an initial conversion rate of 256.4103 shares of our common stock per $1,000 principal amount of 6.75% convertible notes, subject to adjustment in certain circumstances.

 

48


This is equivalent to an initial conversion price of $3.90 per share of common stock. Holders may convert the 6.75% convertible notes at any time prior to the close of business on the second scheduled trading day immediately preceding June 15, 2017. If we undergo certain fundamental changes prior to maturity of the notes, including a change of control, sale of all or substantially all of our assets, our liquidation or dissolution, the failure of our common stock to be listed or quoted on any of The New York Stock Exchange, The NASDAQ Global Select Market or The NASDAQ Global Market, and certain other events as more fully described in the indenture relating to the 6.75% convertible notes, a holder thereof will have the option to require us to repurchase for cash all or any portion of such notes at a repurchase price equal to 100% of the principal amount of the notes being repurchased, plus accrued and unpaid interest (including additional interest, if any) to, but excluding, the repurchase date.

On or after June 15, 2013, in the event that the last reported price of our common stock exceeds the conversion price then in effect for 20 or more trading days during any 30 consecutive trading day period ending within five trading days prior to the date we receive a notice of conversion, we will, in addition to delivering shares upon conversion of the 6.75% convertible notes (and cash in lieu of fractional shares), make a “make-whole premium” payment in cash, shares of our common stock or a combination thereof, subject to certain limitations, at our option, equal to the sum of the remaining scheduled payments of interest that would have been made on the 6.75% convertible notes to be converted had such notes remained outstanding through the earlier of the date that is three years after the date we receive the notice of conversion and June 15, 2017. If we elect to pay some or all of the “make-whole premium” in shares of our common stock, then the number of shares of common stock a holder will receive will be that number of shares that have a value equal to the amount of the “make-whole premium” payment to be paid to such holder in shares, divided by the product of 0.97 and the average of the last reported sale prices of the common stock for the five trading days immediately preceding, and including, the third trading day immediately prior to the conversion date; provided that in no event will such price be less than $3.00.

We can redeem all or any part of the 6.75% convertible notes for cash on or after June 15, 2015 if the if the last reported sale price of our common stock exceeds 150% of the conversion price then in effect for at least 20 trading days during any 30 consecutive trading day period ending within five trading days prior to the notice of redemption and certain other conditions are met (referred to as the provisional redemption). The redemption price will equal the principal amount of the convertible notes to be redeemed, plus accrued and unpaid interest to, but excluding, the redemption date, plus a “make-whole premium” payment in cash, shares of our common stock or a combination thereof, subject to certain limitations, at our option, equal to the sum of the remaining scheduled payments of interest that would have been made on the 6.75% convertible notes to be redeemed had such notes remained outstanding from the redemption date to June 15, 2017. If we elect to pay some or all of the “make-whole premium” in shares of our common stock, then the number of shares of common stock a holder will receive will be that number of shares that have a value equal to the amount of the “make-whole premium” payment to be paid to such holder in shares, divided by the product of 0.97 and the average of the last reported sale prices of our common stock for the five trading days immediately preceding, and including, the third trading day immediately prior to the redemption date; provided that in no event will such price be less than $3.00.

If there is an event of default under the notes, the principal of and premium, if any, on all the notes and the interest accrued thereon may be declared immediately due and payable, subject to certain conditions set forth in the indenture. An event of default under the indenture will occur if we: (i) are delinquent in making certain payments due under the notes; (ii) fail to deliver shares of common stock or cash upon conversion of the notes; (iii) fail to deliver certain required notices under the notes; (iv) incur certain events of default with respect to other indebtedness or obligations; (v) are subject to certain bankruptcy proceedings or orders; or (vi) fail to pay or the acceleration of other indebtedness. If we fail to file certain periodic reports with the SEC, we will be required to make additional interest payments. As of September 28, 2012, no events of default have occurred.

For financial accounting purposes, the requirements for us to make additional interest payments in the event of early redemption by us and to make additional interest payments in the event that we do not timely file certain periodic reports with the SEC are embedded derivatives. As of September 28, 2012, the fair value of these embedded derivatives has been estimated and is not significant. Our contingent obligation to make an interest

 

49


make-whole premium payment in the event of an early conversion by the holders of the notes is also an embedded derivative. As of September 28, 2012, the fair value of this contingent obligation has been estimated at $182,000 and is recorded in other liabilities.

We incurred $492,000 of debt issuance costs, which is being amortized to interest expense over the term of the convertible notes through June 15, 2017 using the effective interest method. At September 28, 2012, debt issuance costs of $463,000, net of accumulated amortization, was included in other assets.

Loan and Security Agreement

As discussed above, in February 2012, we completed the acquisition of picoChip and its wholly owned subsidiaries and paid approximately $26.7 million (less certain deductions) and issued an aggregate of 5.2 million shares of our authorized common stock, par value $0.01 per share, to the stockholders of picoChip. The cash payment of the initial purchase price of picoChip was financed, in part, with bank debt, which was obtained pursuant to a loan and security agreement dated as of February 6, 2012 between us and Silicon Valley Bank, as amended by that certain first amendment to the loan and security agreement entered into on June 12, 2012. Borrowings under the loan and security agreement were also used to pay costs and expenses related to the acquisition and the closing of the loan and security agreement, and may be used for working capital and other general corporate purposes.

The loan and security agreement includes: (i) a term loan facility of $15.0 million; and (ii) a revolving credit facility of up to $20.0 million. As of September 28, 2012, the outstanding balance on the term loan was $15.0 million and the outstanding balance on the revolving credit facility was $13.5 million. The obligations under the loan and security agreement are guaranteed by our material subsidiaries and secured by a security interest in substantially all of our assets and guarantors’ assets, excluding intellectual property.

The principal on the term loan will be payable in quarterly installments beginning on March 31, 2013 and ending on the maturity date of the term loan, February 6, 2017. Quarterly principal payments of $375,000 are due for each quarter during calendar year 2013, $750,000 for each quarter during calendar year 2014, $1.1 million for each quarter during calendar year 2015 and $1.5 million for each quarter during calendar year 2016. Interest on the term loan will be paid quarterly beginning in calendar year 2012. The revolving credit facility also has a maturity date of February 6, 2017. Interest on the revolving credit facility will be paid quarterly beginning in calendar year 2012.

The total amount available under the revolving credit facility is $20.0 million. We are eligible to borrow amounts against the revolving credit facility up to the amount allowable by the borrowing base. The borrowing base is calculated on a monthly basis and is based on the amount of our eligible accounts receivable. At September 28, 2012, we had an outstanding revolving credit facility balance of $13.5 million and the amount of the eligible borrowing base was $14.5 million. To the extent that the eligible borrowing base is reduced, we are required to pay down the outstanding revolving credit facility balance to the amount of the eligible borrowing base. During the next 12 months, we expect the borrowing base will be sufficient to maintain borrowings on the revolving credit facility at a minimum of $8.0 million. Consequently, we have classified $8.0 million of the revolving credit facility as a long-term liability.

We have the option to choose, with a few exceptions, whether the term loan facility and revolving credit facility bear interest based on a base rate, which is the prime rate published in The Wall Street Journal, or a LIBOR rate, which has a floor of 0.75%. A base rate facility will bear interest ranging from the base rate plus 1.25% to base rate plus 1.75%. A LIBOR rate facility will bear interest ranging from LIBOR rate plus 3.25% to LIBOR rate plus 3.75%. Both the base rate margin and LIBOR margin vary based upon our liquidity ratio. As of September 28, 2012, the interest rate on both the term loan facility and the revolving credit facility was 4.25%. Total interest expense incurred on the term loan facility and revolving credit facility was $766,000 for fiscal 2012.

The revolving credit facility is subject to an unused line of credit fee. This fee is payable quarterly in an amount equal to 0.25% — 0.50% of the average daily unused portion of the credit facility. The unused line fee will vary based upon our liquidity ratio.

 

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The loan and security agreement requires us to meet certain requirements relating to a liquidity ratio and minimum cash and cash equivalent levels. If we fail to maintain the liquidity ratio and cash and cash equivalent levels within certain targets, we will be required to maintain covenants relating to adjusted EBITDA and a fixed charge coverage ratio. As of September 28, 2012, we have maintained the required liquidity ratio and cash and cash equivalent levels.

We incurred approximately $542,000 of debt issuance costs related to the loan and security agreement, which is being amortized to interest expense over the term of the facility through February 6, 2017 using the effective interest method. At September 28, 2012, debt issuance costs of approximately $448,000, net of accumulated amortization, was included in other assets.

6.50% Convertible Senior Notes due 2013

On July 30, 2008, we entered into separate exchange agreements with certain holders of our previously outstanding 3.75% convertible senior notes, pursuant to which holders of an aggregate of $15.0 million of the notes agreed to exchange their notes for $15.0 million in aggregate principal amount of a new series of 6.50% convertible senior notes due 2013. The exchange offer closed on August 1, 2008. We paid at the closing an aggregate of approximately $100,000 in accrued and unpaid interest on the 3.75% convertible senior notes that were exchanged for the 6.50% convertible senior notes, as well as approximately $900,000 in transaction fees.

We issued our 6.50% convertible senior notes due in August 2013 pursuant to an indenture, dated as of August 1, 2008, between us and Wells Fargo Bank, N.A., as trustee.

The 6.50% convertible senior notes are unsecured senior indebtedness and bear interest at a rate of 6.50% per annum. Interest is payable on February 1 and August 1 of each year, commencing on February 1, 2009. The notes mature on August 1, 2013. At maturity, we will be required to repay the outstanding principal amount of the notes. At September 28, 2012, $15.0 million in aggregate principal amount of our 6.50% convertible senior notes were outstanding.

The 6.50% convertible senior notes are convertible at the option of the holders, at any time on or prior to maturity, into shares of our common stock at a conversion rate equal to approximately $4.74 per share of common stock, which is subject to adjustment in certain circumstances. Upon conversion of the notes, we generally have the right to deliver to the holders thereof, at our option: (i) cash; (ii) shares of our common stock; or (iii) a combination thereof. The initial conversion price of the notes will be adjusted to reflect stock dividends, stock splits, issuances of rights to purchase shares of our common stock, and upon other events. If we undergo certain fundamental changes prior to maturity of the notes, the holders thereof will have the right, at their option, to require us to repurchase for cash some or all of their 6.50% convertible senior notes at a repurchase price equal to 100% of the principal amount of the notes being repurchased, plus accrued and unpaid interest (including additional interest, if any) to, but not including, the repurchase date, or convert the notes into shares of our common stock and, under certain circumstances, receive additional shares of our common stock in the amount provided in the indenture.

For financial accounting purposes, our contingent obligation to issue additional shares or make additional cash payment upon conversion following a fundamental change is an embedded derivative. At September 28, 2012, the liability under the fundamental change adjustment has been recorded at its estimated fair value and is not significant.

If there is an event of default under the 6.50% convertible senior notes, the principal of and premium, if any, on all the notes and the interest accrued thereon may be declared immediately due and payable, subject to certain conditions set forth in the indenture. An event of default under the indenture will occur if we: (i) are delinquent in making certain payments due under the notes; (ii) fail to deliver shares of common stock or cash upon conversion of the notes; (iii) fail to deliver certain required notices under the notes; (iv) fail, following notice, to cure a breach of a covenant under the notes or the indenture; (v) incur certain events of default with respect to other indebtedness; or (vi) are subject to certain bankruptcy proceedings or orders. If we fail to deliver certain SEC reports to the trustee in a timely manner as required by the indenture: (x) the interest rate applicable to the

 

51


notes during the delinquency will be increased by 0.25% or 0.50%, as applicable (depending on the duration of the delinquency); and (y) if the required reports are not delivered to the trustee within 180 days after their due date under the indenture, a holder of the notes will generally have the right, subject to certain limitations, to require us to repurchase all or any portion of the notes then held by such holder. As of September 28, 2012, no events of default have occurred.

Our adoption of ASC 470-20 changed the accounting for these 6.50% convertible senior notes and the related deferred financing costs. Prior to the issuance of this accounting standard, we reported the notes at their principal amount of $15.0 million in long-term debt and capitalized debt issuance costs amounting to approximately $900,000. Upon adoption of ASC 470-20, we adjusted the accounting for the 6.50% convertible senior notes and the deferred financing costs for all prior periods since initial issuance of the debt in August 2008. We recorded a discount on the 6.50% convertible senior notes in the amount of $2.0 million as of the date of issuance, which will be amortized over the five year period from August 2008 through August 2013. See Note 7 to our consolidated financial statements for further information on this adoption.

Contractual Obligations

The following table summarizes the future payments we are required to make under contractual obligations as of September 28, 2012:

 

     Payments Due by Period  

Contractual Obligations

   Total      <1 Year      1-3 Years      3-5 Years      >5 Years  
     (in thousands)  

Debt

     75,510         15,750         6,000         53,760           

Interest expense on debt

     14,387         3,124         6,060         5,203           

Future commitment fees

     131         30         60         41           

Operating leases

     22,937         3,501         7,840         5,378         6,218   

Purchase obligations

     13,103         9,769         3,334                   

Employee severance

     427         427                           

Capital leases

     389         321         68                   

Total

   $ 126,884       $ 32,922       $ 23,362       $ 64,382       $ 6,218   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Debt consists of: 1) our $15.0 million of convertible senior notes, 2) our $32.0 million of convertible senior notes, 3) our term loan facility of $15.0 million and 4) $13.5 million outstanding on our revolving credit facility. The timing of the principal payments with respect to the convertible notes is based on the assumption that no early conversion occurs. Timing of the principal payments with respect to the term loan facility is based off of scheduled principal payments. Timing of the payments with respect to the revolving credit facility is based off of the maturity date of the credit facility, which is February 6, 2017.

Interest expense on debt include interest payments on our $15.0 million of convertible senior notes, $32.0 million convertible senior notes, our term loan facility of $15.0 million and the $8.0 million long-term portion of revolving credit facility. The interest rate on the convertible senior notes is calculated at the contractual interest rate and interest on the term loan facility and revolving credit facility is calculated at the current 4.25% interest rate. Interest obligations on all debt are based on scheduled interest payments.

Future commitment fees are estimated based on the amount of unused credit and the short-term portion of the revolving credit facility at September 28, 2012 and assumes no extension of terms beyond the current maturity date of our revolving credit facility which is February 6, 2017.

On April 10, 2012, we entered into a third lease amendment with our landlord with respect to our headquarters located in Newport Beach, California, effective as of April 4, 2012. Pursuant to the terms of the amendment, a five year option to extend the lease was eliminated and the term of the lease was extended and will expire on December 31, 2019. We may, at our option, extend the term an additional four years at fair market rent. The amendment provides for the abatement of fixed monthly rent for the period from January 1, 2013 through July 31, 2013, subject to no event of default occurring. We estimate our minimum future obligation under the lease at approximately $17.2 million over the remaining lease term.

 

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We lease our other facilities and certain equipment under non-cancelable operating leases. The leases expire at various dates through fiscal 2019 and contain various provisions for rental adjustments, including, in certain cases, adjustments based on increases in the Consumer Price Index. The leases generally contain renewal provisions for varying periods of time.

Purchase obligations are comprised of commitments to purchase design tools and software for use in product development, which will be spent through fiscal 2015. We have not included open purchase orders for inventory or other expenses issued in the normal course of business in the purchase obligations shown above.

Capital leases consist of equipment purchased under capital lease with payments due through December 2014.

In addition to the obligations included in the table above, we have a $1.1 million liability related to post-retirement benefits for employees at four of our international locations. We also have a $.5 million liability recorded for uncertain tax positions in accordance with FIN 48. The timing of the related payments of these liabilities is not known.

Off-Balance Sheet Arrangements

We have made guarantees and indemnities, under which we may be required to make payments to a guaranteed or indemnified party, in relation to certain transactions. In connection with the distribution to Conexant stockholders of all outstanding shares of common stock of Mindspeed, we generally assumed responsibility for all contingent liabilities and then-current and future litigation against Conexant or its subsidiaries related to our business. In connection with certain facility leases, we have indemnified our lessors for certain claims arising from the facility or the lease. We indemnify our directors and officers to the maximum extent permitted under the laws of the State of Delaware. The duration of the guarantees and indemnities varies, and in many cases is indefinite. The majority of our guarantees and indemnities do not provide for any limitation of the maximum potential future payments we could be obligated to make. We have not recorded any liability for these guarantees and indemnities in the accompanying consolidated balance sheets.

 

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

We do not use derivative instruments for speculative or investment purposes.

Interest Rate Risk

Our cash and cash equivalents are not subject to significant interest rate risk. As of September 28, 2012, the carrying value of our cash and cash equivalents approximated fair value.

At September 28, 2012, our debt consisted of a revolving credit facility, a term loan facility and short-term and long-term convertible senior notes. Our revolving credit facility and term loan facility carry variable interest rates and the interest payments are therefore subject to interest rate risk, while the principal is not subject to interest rate risk. We have the option to choose, with a few exceptions, whether the term loan facility and revolving credit facility bear interest based on a base rate, which is the prime rate published in The Wall Street Journal, or a LIBOR rate, which has a floor of 0.75%. If the prime rate or LIBOR rate changed by 1.0%, thereby changing our effective borrowing rate by the same amount, cash interest expense related to the credit facility and term loan facility would change by approximately $300,000, annually. Our convertible senior notes bear interest at a fixed rate of 6.50% and 6.75% per annum. Consequently, our results of operations and cash flows are not subject to any significant interest rate risk relating to our convertible senior notes. The fair value of the debt could increase or decrease if interest rates decreases or increase, respectively, and that could impact our ability and cost to negotiate a settlement of such notes prior to maturity.

 

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Foreign Exchange Risk

We transact business in various foreign currencies and we face foreign exchange risk on assets and liabilities that are denominated in foreign currencies. Currently, our foreign exchange risks are not hedged; however, from time to time, we may utilize foreign currency forward exchange contracts to hedge a portion of our exposure to foreign exchange risk.

These hedging transactions are intended to offset the gains and losses we experience on foreign currency transactions with gains and losses on the forward contracts, so as to mitigate our overall risk of foreign exchange gains and losses. We do not enter into forward contracts for speculative or trading purposes. At September 28, 2012, we held no foreign currency forward exchange contracts. Based on our overall currency rate exposure at September 28, 2012, a 10% change in currency rates would not have a material effect on our consolidated financial position, results of operations or cash flows.

 

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Item 8. Financial Statements and Supplementary Data

MINDSPEED TECHNOLOGIES, INC.

CONSOLIDATED BALANCE SHEETS

(in thousands, except par value)

 

     September 28,
2012
    September 30,
2011
 
ASSETS     

Current Assets

    

Cash and cash equivalents

   $ 49,098      $ 45,227   

Receivables, net of allowance for doubtful accounts of $356 at September 28, 2012 and $376 at September 30, 2011

     14,527        13,393   

Inventories

     10,482        14,216   

Prepaid expenses and other current assets

     10,497        3,067   
  

 

 

   

 

 

 

Total current assets

     84,604        75,903   

Property, plant and equipment, net

     16,031        15,369   

Intangible assets, net

     35,351        17,357   

Goodwill

     57,110          

Other assets

     4,000        1,982   
  

 

 

   

 

 

 

Total assets

   $ 197,096      $ 110,611   
  

 

 

   

 

 

 
LIABILITIES AND STOCKHOLDERS’ EQUITY     

Current Liabilities

    

Accounts payable

   $ 9,262      $ 5,532   

Accrued compensation and benefits

     6,401        7,292   

Deferred income on sales to distributors

     4,396        5,346   

Deferred revenue

     2,338        653   

Line of credit — short-term

     5,511          

Short-term debt

     15,384          

Contingent consideration

     1,876          

Other current liabilities

     10,661        6,734   
  

 

 

   

 

 

 

Total current liabilities

     55,829        25,557   

Line of credit — long-term

     8,000          

Long-term debt

     44,765        14,216   

Other liabilities

     6,767        1,426   
  

 

 

   

 

 

 

Total liabilities

     115,361        41,199   
  

 

 

   

 

 

 

Commitments, contingencies and guarantees (Notes 8, 9 and 10)

              

Stockholders’ Equity

    

Preferred stock, $0.01 par value: 25,000 shares authorized; no shares issued or outstanding

              

Common stock, $0.01 par value, 100,000 shares authorized; 41,551
(September 28, 2012) and 34,515 (September 30, 2011) issued and outstanding shares

     416        345   

Additional paid-in capital

     371,949        326,863   

Accumulated deficit

     (290,507     (257,756

Accumulated other comprehensive loss

     (123     (40
  

 

 

   

 

 

 

Total stockholders’ equity

     81,735        69,412   
  

 

 

   

 

 

 

Total liabilities and stockholders’ equity

   $ 197,096      $ 110,611   
  

 

 

   

 

 

 

See accompanying notes to consolidated financial statements.

 

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MINDSPEED TECHNOLOGIES, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share amounts)

 

     September 28,
2012
    September 30,
2011
    October 1,
2010
 

Net revenue:

      

Products

   $ 140,415      $ 159,589      $ 165,379   

Intellectual property

     591        2,500        12,800   
  

 

 

   

 

 

   

 

 

 

Total net revenue

     141,006        162,089        178,179   

Cost of goods sold

     62,497        60,292        59,840   
  

 

 

   

 

 

   

 

 

 

Gross margin

     78,509        101,797        118,339   
  

 

 

   

 

 

   

 

 

 

Operating expenses:

      

Research and development

     67,946        59,174        51,367   

Selling, general and administrative

     43,317        42,118        41,419   

Acquisition-related costs

     3,777                 

Special charges

     2,054        1,032        2,684   
  

 

 

   

 

 

   

 

 

 

Total operating expenses

     117,094        102,324        95,470   
  

 

 

   

 

 

   

 

 

 

Operating (loss)/income

     (38,585     (527     22,869   

Interest expense

     (3,148     (1,595     (1,817

Other income, net

     9,341        1,608        424   
  

 

 

   

 

 

   

 

 

 

(Loss)/income before income taxes

     (32,392     (514     21,476   

Provision for income taxes

     359        241        406   
  

 

 

   

 

 

   

 

 

 

Net (loss)/income

   $ (32,751   $ (755   $ 21,070   
  

 

 

   

 

 

   

 

 

 

Net (loss)/income per share:

      

Basic

   $ (0.89   $ (0.02   $ 0.70   

Diluted

   $ (0.89   $ (0.02   $ 0.65   

Weighted-average number of shares used in per share computation:

      

Basic

     36,787        32,279        30,260   

Diluted

     36,787        32,279        34,579   

See accompanying notes to consolidated financial statements.

 

56


MINDSPEED TECHNOLOGIES, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS)/INCOME

(in thousands)

 

     Year Ended  
     September 28,
2012
    September 30,
2011
    October 1,
2010
 

Net (loss)/income

   $ (32,751   $ (755   $ 21,070   

Other comprehensive (loss)/income:

      

Foreign currency translation adjustments

     (83     113        (493
  

 

 

   

 

 

   

 

 

 

Comprehensive (loss)/income

   $ (32,834   $ (642   $ 20,577   
  

 

 

   

 

 

   

 

 

 

See accompanying notes to consolidated condensed financial statements.

 

57


MINDSPEED TECHNOLOGIES, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

 

     September 28,
2012
    September 30,
2011
    October 1,
2010
 

Cash Flows From Operating Activities

      

Net (loss)/income

   $ (32,751   $ (755   $ 21,070   

Adjustments required to reconcile net (loss)/ income to net cash (used in)/provided by operating activities:

      

Depreciation and amortization of property, plant and equipment

     6,345        5,423        4,796   

Amortization of intangible assets

     3,419        2,303        1,497   

Asset impairments

     3,399        132        828   

Revaluation of contingent consideration

     (8,162              

Restructuring charges

     2,054        1,032        1,856   

Stock-based compensation

     10,505        5,919        4,239   

Provision for bad debt

     48        187        45   

Inventory provision

     1,266        1,168        1,497   

Deferred income tax

     (196     44        (847

Amortization of debt discount and issuance costs

     625        245        698   

Other non-cash items, net

     (29     33        58   

Changes in assets and liabilities, net of acquisitions:

      

Receivables

     217        12,263        (17,986

Inventories

     4,407        (5,179     (800

Other assets, net

     (4,141     1,600        (538

Accounts payable

     194        (3,533     1,430   

Deferred income on sales to distributors

     (950     147        2,595   

Accrued restructuring charges

     (2,573     (809     (1,283

Accrued compensation and benefits

     (4,060     (2,082     3,596   

Accrued expenses and other current liabilities

     (1,888     (346     1,489   

Other liabilities, net

     5,513        377        (406
  

 

 

   

 

 

   

 

 

 

Net cash (used in)/provided by operating activities

     (16,758     18,169        23,834   
  

 

 

   

 

 

   

 

 

 

Cash Flows From Investing Activities

      

Purchases of property, plant and equipment

     (4,637     (8,008     (6,179

Payments under license agreements

     (13,030     (10,440     (1,848

Net cash paid for acquired companies

     (20,096     (100       
  

 

 

   

 

 

   

 

 

 

Net cash used in investing activities

     (37,763     (18,548     (8,027
  

 

 

   

 

 

   

 

 

 

Cash Flows From Financing Activities

      

Gross proceeds from sale of equity

                   18,300   

Offering costs from sale of equity

                   (1,307

Maturity and payment of convertible debt

                   (10,500

Payments made on capital lease obligations

     (497     (482     (470

Borrowings under term loan

     15,000                 

Borrowings under line of credit

     16,808               7,000   

Borrowings under convertible debt

     30,560            

Payments made on line of credit

     (3,297            (7,000

Financing costs

     (1,034              

Repurchase of restricted stock for income tax withholding

     (1,213     (415     (627

Proceeds from equity compensation programs

     2,074        2,914        1,564   
  

 

 

   

 

 

   

 

 

 

Net cash provided by financing activities

     58,401        2,017        6,960   
  

 

 

   

 

 

   

 

 

 

Effect of foreign currency exchange rates on cash

     (9     (96     27   
  

 

 

   

 

 

   

 

 

 

Net increase in cash and cash equivalents

     3,871        1,542        22,794   

Cash and cash equivalents at beginning of period

     45,227        43,685        20,891   
  

 

 

   

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 49,098      $ 45,227      $ 43,685   
  

 

 

   

 

 

   

 

 

 

 

58


MINDSPEED TECHNOLOGIES, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(in thousands)

 

    Common Stock     Additional
Paid-in
Capital
    Accumulated
Deficit
    Accumulated
Other
Comprehensive

(Loss)/Gain
    Total
Shareholders’
Equity
 
         
    Shares     Amount          

Balance at October 2, 2009

    28,756      $ 288      $ 296,333      $ (278,071   $ 340      $ 18,890   

Net loss

                         21,070               21,070   

Currency translation adjustments

                                (493     (493

Sale of equity, net of offering costs

    2,524        25        16,968                      16,993   

Issuance of common stock from the exercise of stock options

    1,024        10        1,554                      1,564   

Common stock repurchased and retired

    (84     (1     (626                   (627

Compensation expense related to employee stock plans

                  4,239                      4,239   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at October 1, 2010

    32,220        322        318,468        (257,001     (153     61,636   

Net income

                         (755            (755

Currency translation adjustments

                                113        113   

Issuance of common stock from the exercise of stock options

    2,356        23        2,891                      2,914   

Common stock repurchased and retired

    (61            (415                   (415

Compensation expense related to employee stock plans

                  5,919                      5,919   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at September 30, 2011

    34,515        345        326,863        (257,756     (40     69,412   

Net loss

                         (32,751            (32,751

Currency translation adjustments

                                (83     (83

Issuance of common stock for business acquisition

    5,191        52        33,739            33,791   

Issuance of common stock related to employee stock plans

    2,095        21        2,053                      2,074   

Common stock repurchased and retired

    (250     (2     (1,211                   (1,213

Compensation expense related to employee stock plans

                  10,505                      10,505   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at September 28, 2012

    41,551      $ 416      $ 371,949      $ (290,507   $ (123   $ 81,735   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

59


MINDSPEED TECHNOLOGIES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.    The Company

Mindspeed Technologies, Inc. (Mindspeed or the Company) designs, develops and sells semiconductor solutions for communications applications in the wireline and wireless network infrastructure equipment, which includes broadband access networks (fixed and mobile), enterprise networks and metropolitan and wide area networks (fixed and mobile). On June 27, 2003, Conexant Systems, Inc. (Conexant) completed the distribution (the Distribution) to Conexant stockholders of all 18,066,689 outstanding shares of common stock of its wholly owned subsidiary, Mindspeed. Prior to the Distribution, Conexant transferred to Mindspeed the assets and liabilities of the Mindspeed business, including the stock of certain subsidiaries, and certain other assets and liabilities which were allocated to Mindspeed under the Distribution Agreement entered into between Conexant and Mindspeed. Also prior to the Distribution, Conexant contributed to Mindspeed cash in an amount such that at the time of the distribution Mindspeed’s cash balance was $100.0 million. Mindspeed issued to Conexant a warrant to purchase approximately 6.3 million shares of Mindspeed common stock at a price of $16.25 per share, as adjusted, exercisable for a period beginning one year and ending ten years after the Distribution. Following the Distribution, Mindspeed began operations as an independent, publicly held company.

2.    Summary of Significant Accounting Policies

Basis of Presentation — The consolidated financial statements, prepared in accordance with generally accepted accounting principles in the United States of America, include the accounts of Mindspeed and each of its subsidiaries. All intercompany accounts and transactions among Mindspeed and its subsidiaries have been eliminated in consolidation.

Fiscal Periods — The Company maintains a fifty-two/fifty-three week fiscal year ending on the Friday closest to September 30. Fiscal year 2012 comprised 52 weeks and ended on September 28, 2012. Fiscal year 2011 comprised 52 weeks and ended on September 30, 2011. Fiscal year 2010 comprised 52 weeks and ended on October 1, 2010.

Use of Estimates — The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Among the significant estimates affecting the Company’s consolidated financial statements are those relating to revenue recognition, inventories, allowances for doubtful accounts, goodwill and purchased intangible asset valuations, impairment of long-lived assets, stock-based compensation and income taxes. Management regularly evaluates its estimates and assumptions based upon historical experience and various other factors that the Company believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. To the extent actual results differ from those estimates, the Company’s future results of operations may be affected.

Revenue Recognition — The Company generates revenue from direct product sales, sales to distributors, maintenance contracts, development agreements and the sale and license of intellectual property. The Company recognizes revenue when the following fundamental criteria are met: (i) persuasive evidence of an arrangement exists; (ii) delivery has occurred; (iii) the price to the customer is fixed or determinable; and (iv) collection of the sales price is reasonably assured. In instances where final acceptance of the product, system or solution is specified by the customer, revenue is deferred until all acceptance criteria have been met.

Revenue is recognized on products shipped directly to customers at the time the products are shipped and title and risk of loss transfer to the customer, in accordance with the terms specified in the arrangement, and the four above mentioned revenue recognition criteria are met.

Revenue is recognized on sales to distributors based on the rights granted to these distributors in the distribution agreements. The Company has certain distributors who have been granted return rights and receive

 

60


MINDSPEED TECHNOLOGIES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

credits for changes in selling prices to end customers, the magnitude of which is not known at the time products are shipped to the distributor. The return rights granted to these distributors consist of limited stock rotation rights, which allow them to rotate up to 10% of the products in their inventory twice a year, as well as certain product return rights if the applicable distribution agreement is terminated. These distributors also receive price concessions because they resell the Company’s products to end customers at various negotiated price points which vary by end customer, product, quantity, geography and competitive pricing environments. When a distributor’s resale is priced at a discount from the distributor’s invoice price, the Company credits back to the distributor a portion of the distributor’s original purchase price after the resale transaction is complete. Thus, a portion of the “Deferred income on sales to distributors” balance will be credited back to the distributor in the future. Under these agreements, recognition of revenue is deferred until the products are resold by the distributor, at which time the Company’s final net sales price is fixed and the distributor’s right to return the products expires. At the time of shipment to these distributors: (i) a trade receivable at the invoiced selling price is recorded because there is a legally enforceable obligation from the distributor to pay the Company currently for product delivered; (ii) inventory is relieved for the carrying value of products shipped because legal title has passed to the distributor; and (iii) deferred revenue and deferred cost of inventory are recorded under the “Deferred income on sales to distributors” caption in the liability section of the Company’s consolidated balance sheets. The Company evaluates the deferred cost of inventory component of this account for possible impairment by considering potential obsolescence of products that might be returned and by considering the potential of resale prices of these products being below the Company’s cost. By reviewing deferred inventory costs in the manner discussed above, the Company ensures that any portion of deferred inventory costs that are not recoverable from future contractual revenue are charged to cost of sales as an expense. “Deferred income on sales to distributors” effectively represents the gross margin on sales to distributors; however, the amount of gross margin that is recognized in future periods is typically less than the originally recorded deferred income as a result of negotiated price concessions. In recent years, such concessions have exceeded 30% of list price on average. See Note 3 for detail of this account balance.

Revenue from other distributors is recognized at the time of shipment and when title and risk of loss transfer to the distributor, in accordance with the terms specified in the arrangement, and when the four above mentioned revenue recognition criteria are met. These distributors may also be given business terms to return a portion of inventory, however they do not receive credits for changes in selling prices to end customers. At the time of shipment, product prices are fixed and determinable and the amount of future returns can be reasonably estimated and accrued.

The Company’s semiconductor products are often integrated with software that is essential to the functionality of the semiconductor products. Additionally, the Company provides unspecified software upgrades and enhancements through its maintenance contracts for many of its products. Accordingly, the Company accounts for revenue in accordance with FASB Accounting Standards Codification 985-605, Software Revenue Recognition, or ASC 985-605, and all related interpretations. For sales of products where software is incidental to the equipment, the Company applies the provisions of Accounting Standards Codification 605, Revenue Recognition, or ASC 605, and all related interpretations.

Revenue from the sale and license of intellectual property is recognized when the above mentioned four revenue recognition criteria are met. Development revenue is recognized when services are performed and customer acceptance has been received and was not significant for any of the periods presented.

Cash and Cash Equivalents — The Company considers all highly liquid investments with original maturities of three months or less from the date of purchase to be cash equivalents. The carrying amounts of cash and cash equivalents represent their fair values.

Inventories — Inventories are stated at the lower of cost or market. Cost is computed using the average cost method on a currently adjusted standard basis (which approximates actual cost on a first-in, first-out basis); market is based upon estimated net realizable value. The valuation of inventories at the lower of cost or market

 

61


MINDSPEED TECHNOLOGIES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

requires the use of estimates as to the amounts of current inventories that will be sold. These estimates are dependent on the Company’s assessment of current and expected orders from its customers, and orders generally are subject to cancellation with limited advance notice prior to shipment.

Property, Plant and Equipment — Property, plant and equipment is stated at historical cost. Included in machinery and equipment in Note 3 are photomasks, furniture and computer software. Depreciation is based on estimated useful lives (principally ten years for furniture and fixtures; three to five years for machinery and equipment and photomasks; three years for computer software; and the shorter of the remaining terms of the leases or the estimated economic useful lives for leasehold improvements). Significant renewals and betterments are capitalized and replaced units are written off. Maintenance and repairs are charged to expense.

License Agreements — License agreements consist mainly of licenses of intellectual property that the Company uses in certain of its products. These licensed assets are amortized on a straight-line basis over the estimated production life cycle of each respective product, usually ranging from three to five years beginning upon the first shipment.

Business Combinations — The purchase price of an acquisition is allocated to the underlying assets acquired and liabilities assumed based upon their estimated fair values at the date of acquisition. To the extent the purchase price exceeds the fair value of the net identifiable tangible and intangible assets acquired and liabilities assumed, such excess is allocated to goodwill. The Company determines the estimated fair values after review and consideration of relevant information, including discounted cash flows, quoted market prices and estimates made by management. The Company adjusts the preliminary purchase price allocation, as necessary, during the measurement period of up to one year after the acquisition closing date as it obtains more information as to facts and circumstances existing at the acquisition date impacting asset valuations and liabilities assumed. Goodwill acquired in business combinations is assigned to the reporting unit expected to benefit from the combination as of the acquisition date. Acquisition-related costs are recognized separately from the acquisition and are expensed as incurred.

Goodwill and Other Long-Lived Assets — Goodwill is recorded as the difference, if any, between the aggregate consideration paid for an acquisition and the fair value of the acquired net tangible and intangible assets. Other long-lived assets include the acquired intangible assets of developed technology, trademarks and trade names, customer relationships and in-process research and development, or IPR&D. The Company currently amortizes its acquired intangible assets with definite lives over periods ranging from one to twelve years using a method that reflects the pattern in which the economic benefits of the intangible asset are consumed or otherwise used or, if that pattern cannot be reliably determined, using a straight-line amortization method. The Company capitalizes IPR&D projects acquired as part of a business combination. On completion of each project, IPR&D assets will be reclassified to developed technology and amortized over their estimated useful lives.

Impairment of Goodwill and Other Long-Lived Assets — The Company evaluates goodwill for impairment on an annual basis as of the end of the tenth month of each fiscal year or more frequently if it believes indicators of impairment exist.

The Company conducts a two step goodwill impairment test. The first step of the impairment test involves comparing the fair value of the reporting unit with its carrying value. The Company has four reporting units: wireless, VoIP, high-performance analog (HPA) and WAN. All of the Company’s recorded goodwill is in its wireless reporting unit. The Company determines the fair value of its wireless reporting unit using the income approach and market approach to valuation, as well as other generally accepted valuation methodologies. If the carrying amount of the reporting unit exceeds the reporting unit’s fair value, the Company performs the second step of the goodwill impairment test. The second step of the goodwill impairment test involves comparing the implied fair value of the reporting unit’s goodwill with the carrying value of that goodwill. The amount by which the carrying value of the goodwill exceeds its implied fair value, if any, will be recognized as an impairment loss.

 

62


MINDSPEED TECHNOLOGIES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

During development, IPR&D is not subject to amortization and is tested for impairment annually or more frequently if events or changes in circumstances indicate that the asset might be impaired. The impairment test consists of a comparison of the fair value to its carrying amount. The Company determines the fair value using the income approach (Level 2 and Level 3 inputs). If the carrying value exceeds its fair value, an impairment loss is recognized in an amount equal to that excess. Once an IPR&D project is complete, it becomes a definite long-lived intangible asset and is evaluated for impairment in accordance with the Company’s policy for the impairment of other long-lived assets.

The Company continually monitors events or changes in circumstances that could indicate that the carrying amount of long-lived assets to be held and used, including intangible assets, may not be recoverable. An indication of impairment exists when the asset carrying value exceeds the undiscounted future cash flows resulting from the use of the asset and its eventual disposition. When indicators of impairment exist for a long-lived asset, the amount of impairment loss is the excess of net book value over fair value. Long-lived assets to be disposed of are reported at the lower of carrying amount or fair value less costs to sell. See Note 13 for a discussion of the impairment of certain long-lived assets.

Foreign Currency Translation and Remeasurement — The Company’s foreign operations are subject to exchange rate fluctuations and foreign currency transaction costs. The functional currency of some of the Company’s foreign subsidiaries is the local currency. Assets and liabilities denominated in foreign functional currencies are translated into U.S. dollars at the rates of exchange in effect at the balance sheet dates and income and expense items are translated at the average exchange rates prevailing during the period. The resulting foreign currency translation adjustments are accumulated as a component of other comprehensive income. For two of the Company’s foreign subsidiaries, the functional currency is the U.S. dollar. Property, plant and equipment, payroll expenses and depreciation for those operations are remeasured from foreign currencies into U.S. dollars at historical exchange rates; other accounts are translated at current exchange rates. Gains and losses resulting from those remeasurements are included in earnings. Gains and losses resulting from foreign currency transactions are recognized currently in earnings. The amounts were not significant for any of the periods presented.

Research and Development — Research and development costs are expensed as incurred.

Product Warranties — The Company’s products typically carry a warranty for periods of up to five years. The Company establishes reserves for estimated product warranty costs in the period the related revenue is recognized, based on historical experience and any known product warranty issues. Product warranty costs and related reserves are not significant in any of the periods presented.

Stock-Based Compensation — The Company accounts for all stock-based compensation transactions using a fair-value method and recognizes the fair value of each award as an expense over the service period. The fair value of restricted stock awards is based upon the market price of the Company’s common stock at the grant date. The Company estimates the fair value of stock options granted using the Black-Scholes option-pricing model. The use of the Black-Scholes model requires a number of estimates, including the expected option term, the expected volatility in the price of the Company’s common stock, the risk-free rate of interest and the dividend yield on the Company’s common stock. Judgment is required in estimating the number of share-based awards that the Company expects will ultimately vest upon the fulfillment of service conditions (such as time-based vesting) or the achievement of specific performance conditions. The financial statements include amounts that are based on the Company’s best estimates and judgments. The Company classifies compensation expense related to these awards in the consolidated statement of operations based on the department to which the recipient reports.

Business Segments — The Company operates a single business segment which designs, develops and sells semiconductor solutions for communications applications in the wireline and wireless network infrastructure equipment, which includes broadband access networks (fixed and mobile), enterprise networks and metropolitan and wide area networks (fixed and mobile). The Company’s Chief Executive Officer is considered to be its chief operating decision maker.

 

63


MINDSPEED TECHNOLOGIES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Fair Value Measurements — The Company applies the provisions of Accounting Standards Codification 820, Fair Value Measurements and Disclosures, or ASC 820, in measuring the fair value of financial assets and financial liabilities and for non-financial assets and non-financial liabilities that the Company recognizes or discloses at fair value on a recurring basis (at least annually). ASC 820 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. See Note 6 for more information.

Other Income, Net — Other income, net, consists of changes in fair value of contingent consideration, interest income, income from reimbursable foreign research and development incentives, foreign exchange gains and losses and other non-operating gains and losses.

Income Taxes — The provision for income taxes is determined in accordance with Accounting Standards Codification 740, Income Taxes, or ASC 740. Deferred tax assets and liabilities are determined based on the temporary differences between the financial reporting and tax bases of assets and liabilities, applying enacted statutory tax rates in effect for the year in which the differences are expected to reverse. A valuation allowance is recorded when it is more likely than not that some or all of the deferred tax assets will not be realized.

The Company uses a two-step approach to recognizing and measuring uncertain tax positions accounted for in accordance with ASC 740. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is more than 50% likely of being realized upon settlement. The Company will classify the liability for unrecognized tax benefits as current to the extent that the Company anticipates payment (or receipt) of cash within one year. The Company recognizes interest and penalties related to unrecognized tax benefits in the tax provision.

Per Share Information — Basic net (loss)/income per share is computed by dividing net (loss)/income by the weighted average number of shares outstanding. In computing diluted net (loss)/income per share, the weighted average number of shares outstanding is adjusted to additionally reflect the effect of potentially dilutive securities such as stock options, warrants, convertible senior notes, securities issuable pursuant to restricted and contingent stock agreements, shares to be issued under the Company’s employee stock purchase plan and unvested restricted stock units. The dilutive effect of stock options, warrants, unvested restricted stock units and shares to be issued under the employee stock purchase plan is computed under the provision of ASC 718, Compensation – Stock Compensation, using the treasury stock method. Under ASC 718, the Company is also required to add back the after-tax amount to net income of interest recognized, as well as the weighted average common share equivalents associated with the conversion of its convertible senior notes for all periods in which the securities were included in the computation of diluted net (loss)/income per share.

Concentrations — Financial instruments that potentially subject the Company to a concentration of credit risk consist principally of cash and cash equivalents and trade accounts receivable. Cash and cash equivalents consist of demand deposits and money market funds maintained with several financial institutions. Deposits held with banks may exceed the amount of insurance provided on such deposits. Generally, these deposits may be redeemed upon demand and are maintained with high credit quality financial institutions and therefore have minimal credit risk. The Company’s trade accounts receivable primarily are derived from sales to manufacturers of network infrastructure equipment and electronic component distributors. Management believes that credit risks on trade accounts receivable are moderated by the diversity of its customers and geographic sales areas. The Company performs ongoing credit evaluations of its customers’ financial condition.

Comprehensive Income/(Loss) — Accumulated other comprehensive income/(loss) consists of foreign currency translation adjustments. Foreign currency translation adjustments are not presented net of any tax effect as the Company does not expect to incur any tax liability or realize any benefit related thereto.

 

64


MINDSPEED TECHNOLOGIES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Recent Accounting Standards — In September 2011, the FASB issued accounting guidance intended to simplify goodwill impairment testing. Entities will be allowed to perform a qualitative assessment on goodwill impairment to determine whether a quantitative assessment is necessary. This guidance is effective for goodwill impairment tests performed in interim and annual periods for fiscal years beginning after December 15, 2011. Early adoption is permitted. The Company does not expect the adoption of this guidance to have a material impact on its consolidated financial statements.

In June 2011, the FASB issued guidance regarding the presentation of comprehensive income. The new standard requires the presentation of comprehensive income, the components of net income and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. The updated guidance is effective on a retrospective basis for financial statements issued for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2011. In September 2012, the Company early adopted and retrospectively applied the provisions of this guidance. The adoption of this guidance did not have a material impact on its consolidated financial statements.

In May 2011, the FASB issued additional guidance on fair value measurements that clarifies the application of existing guidance and disclosure requirements, changes certain fair value measurement principles and requires additional disclosures about fair value measurements. The Company adopted these provisions during the second quarter of fiscal 2012. The adoption of this guidance did not have a material impact on its consolidated financial statements.

In July 2012, the FASB issued accounting guidance intended to simplify the test for impairment of indefinite-lived intangible assets. The amendments permit an entity to first assess qualitative factors to determine whether it is more likely than not that the fair value of the asset is less than its carrying amount as a basis for determining if performing a quantitative test is necessary. The amendments do not change the measurement of impairment losses. The amendments are effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012 with early adoption permitted. We do not expect the adoption of this guidance to have a material impact on our consolidated financial statements.

3.    Supplemental Financial Statement Data

Inventories

Inventories at fiscal year ends consisted of the following:

 

     September 28,
2012
     September 30,
2011
 
     (in thousands)  

Work-in-process

   $ 3,957       $ 6,200   

Finished goods

     6,525         8,016   
  

 

 

    

 

 

 

Inventories

   $ 10,482       $ 14,216   
  

 

 

    

 

 

 

The Company assesses the recoverability of inventories through an ongoing review of inventory levels in relation to sales backlog and forecasts, product marketing plans and product life cycles. When the inventory on hand exceeds the foreseeable demand, the value of inventory that, at the time of the review, is not expected to be sold is written down. The amount of the write-down is the excess of historical cost over estimated realizable value. Once established, these write-downs are considered permanent adjustments to the cost basis of the excess inventory.

The assessment of the recoverability of inventories, and the amounts of any write-downs, are based on currently available information and assumptions about future demand (generally over 12 months) and market

 

65


MINDSPEED TECHNOLOGIES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

conditions. Demand for the Company’s products may fluctuate significantly over time, and actual demand and market conditions may be more or less favorable than those projected by management. In the event that actual demand is lower than originally projected, additional inventory write-downs may be required.

The Company may retain and make available for sale some or all of the inventories which have been written down. In the event that actual demand is higher than originally projected, the Company may be able to sell a portion of these inventories in the future. The Company generally scraps inventories which have been written down and are identified as obsolete.

Prepaid Expenses and Other Current Assets

Prepaid expenses and other current assets at fiscal year ends consisted of the following:

 

     September 28,
2012
     September 30,
2011
 
     (in thousands)  

Prepaid Expenses and Other Current Assets

     

Escrow receivable

   $ 3,491       $   

Tenant allowance receivable

     3,615           

Prepaid insurance

     519         477   

Prepaid license fees

     2,198         1,622   

Other

     674         968   
  

 

 

    

 

 

 

Total prepaid and other current assets

   $ 10,497       $ 3,067   
  

 

 

    

 

 

 

Property, Plant and Equipment, Net

Property, plant and equipment, net, at fiscal year ends consisted of the following:

 

     September 28,
2012
    September 30,
2011
 
     (in thousands)  

Machinery and equipment

   $ 84,534      $ 79,340   

Leasehold improvements

     5,535        4,963   
  

 

 

   

 

 

 
     90,069        84,303   

Accumulated depreciation and amortization

     (74,038     (68,934
  

 

 

   

 

 

 

Property, plant and equipment, net

   $ 16,031      $ 15,369   
  

 

 

   

 

 

 

Intangible Assets, Net

Intangible assets, net, consisted of licensed and acquired intangibles.

Licensed intangibles consisted mainly of licenses of intellectual property.

 

     September 28,
2012
    September 30,
2011
 
     (in thousands)  

Licensed intangibles

   $ 28,145      $ 21,929   

Accumulated amortization

     (6,286     (4,572
  

 

 

   

 

 

 

Licensed intangibles, net

   $ 21,859      $ 17,357   
  

 

 

   

 

 

 

The weighted average remaining life of the Company’s licensed intangibles as of September 28, 2012 was 59 months.

 

66


MINDSPEED TECHNOLOGIES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Amortization of licensed intangible assets included in cost of goods sold was as follows:

 

     Year Ended  
     September 28,
2012
     September 30,
2011
     October 1,
2010
 
     (in thousands)  

Cost of goods sold

   $ 2,501       $ 2,303       $ 1,497   

Estimated future amortization of existing licensed intangibles is as follows:

 

     Fiscal Year  
     2013      2014      2015      2016      2017      Thereafter  
     (in thousands)  

Cost of goods sold

   $ 4,324       $ 4,524       $ 4,166       $ 3,607       $ 3,607       $ 812   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Acquired intangibles from business combinations consisted of the following:

 

     September 28, 2012     

 

     Gross      Accumulated
Amortization
    Net      Weighted-
Average
Useful Life
     (in thousands)      (in years)

Trade names and trademarks

   $ 310       $ (136   $ 174       1.5

Developed technology

     11,800         (643     11,157       12

Customer relationships

     1,500         (139