UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2003.
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to .
Commission File Number 0-25236
M I C R E L, I N C O R P O R A T E D
(Exact name of Registrant as specified in its charter)
California 94-2526744
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2180 Fortune Drive, San Jose, CA 95131
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (408) 944-0800
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act. Yes [X] No [ ]
As of October 31, 2003 there were 92,147,819 shares of common stock, no par
value, outstanding.
MICREL, INCORPORATED
INDEX TO
REPORT ON FORM 10-Q
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2003
Page
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements:
Condensed Consolidated Balance Sheets - September 30, 2003
and December 31, 2002 3
Condensed Consolidated Statements of Operations - Three and
Nine Months Ended September 30, 2003 and 2002 4
Condensed Consolidated Statements of Cash Flows - Three and
Nine Months Ended September 30, 2003 and 2002 5
Notes to Condensed Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 13
Item 3. Quantitative and Qualitative Disclosures about Market Risk 26
Item 4. Controls and Procedures 26
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 27
Item 2. Changes in Securities and Use of Proceeds 27
Item 6. Exhibits and Reports on Form 8-K 27
Signature 28
2
ITEM 1. FINANCIAL STATEMENTS
MICREL, INCORPORATED
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
(In thousands, except share amounts)
September 30, December 31,
2003 2002 (1)
------------ ------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 126,772 $ 117,363
Accounts receivable, net 32,206 29,577
Inventories 37,024 39,531
Other current assets 2,674 2,675
Deferred income taxes 30,470 30,828
---------- ----------
Total current assets 229,146 219,974
PROPERTY, PLANT AND EQUIPMENT, NET 88,824 92,318
DEFERRED INCOME TAXES 4,966 9,606
INTANGIBLE ASSETS, NET 6,220 8,387
OTHER ASSETS 444 390
---------- ----------
TOTAL $ 329,600 $ 330,675
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 11,367 $ 13,026
Taxes payable -- 3,405
Deferred income on shipments to distributors 11,130 9,832
Other current liabilities 13,637 10,645
Current portion of long-term debt 856 911
---------- ----------
Total current liabilities 36,990 37,819
LONG-TERM DEBT 10,303 10,983
OTHER LONG-TERM OBLIGATIONS 5,313 8,254
SHAREHOLDERS' EQUITY:
Preferred stock, no par value - authorized:
5,000,000 shares; issued and outstanding: none -- --
Common stock, no par value -
authorized: 250,000,000 shares;
issued and outstanding:
2003 - 92,233,819 shares;
2002 - 92,006,571 shares 158,443 160,889
Deferred stock compensation (5,023) (9,971)
Accumulated other comprehensive loss (26) (25)
Retained earnings 123,600 122,726
---------- ----------
Total shareholders' equity 276,994 273,619
---------- ----------
TOTAL $ 329,600 $ 330,675
========== ==========
(1) Derived from the audited balance sheet included in the Annual Report on
Form 10-K of Micrel, Incorporated for the year ended December 31, 2002.
See Notes to Condensed Consolidated Financial Statements.
3
MICREL, INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(In thousands, except per share amounts)
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- --------------------
2003 2002 2003 2002
--------- --------- --------- ---------
NET REVENUES $ 53,364 $ 50,367 $ 153,428 $ 154,055
COST OF REVENUES* 32,160 37,110 93,451 101,926
--------- --------- --------- ---------
GROSS PROFIT 21,204 13,257 59,977 52,129
--------- --------- --------- ---------
OPERATING EXPENSES:
Research and development 11,500 14,104 36,325 40,475
Selling, general and
administrative 7,263 7,940 20,837 24,809
Amortization of deferred
stock compensation* 834 2,358 2,515 7,410
Manufacturing facility
impairment (624) 23,357 (624) 23,357
Restructuring expense 286 5,536 286 5,536
--------- --------- --------- ---------
Total operating expenses 19,259 53,295 59,339 101,587
--------- --------- --------- ---------
INCOME (LOSS) FROM OPERATIONS 1,945 (40,038) 638 (49,458)
OTHER INCOME, NET 150 284 497 872
--------- --------- --------- ---------
INCOME (LOSS) BEFORE INCOME TAXES 2,095 (39,754) 1,135 (48,586)
PROVISION (BENEFIT) FOR
INCOME TAXES 482 (15,286) 261 (20,407)
--------- --------- --------- ---------
NET INCOME (LOSS) $ 1,613 $ (24,468) $ 874 $ (28,179)
========= ========= ========= =========
NET INCOME (LOSS) PER SHARE:
Basic $ 0.02 $ (0.26) $ 0.01 $ (0.30)
========= ========= ========= =========
Diluted $ 0.02 $ (0.26) $ 0.01 $ (0.30)
========= ========= ========= =========
SHARES USED IN COMPUTING PER
SHARE AMOUNTS:
Basic 92,032 92,563 92,174 92,845
========= ========= ========= =========
Diluted 93,735 92,563 93,317 92,845
========= ========= ========= =========
* Amortization of deferred stock
compensation related to:
Cost of revenues $ 279 $ 770 $ 870 $ 2,322
========= ========= ========= =========
Operating expenses:
Research and development $ 462 $ 1,199 $ 1,471 $ 3,926
Selling, general and
administrative 372 1,159 1,044 3,484
--------- --------- --------- ---------
Total operating expenses $ 834 $ 2,358 $ 2,515 $ 7,410
========= ========= ========= =========
See Notes to Condensed Consolidated Financial Statements.
4
MICREL, INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)
Nine Months Ended
September 30,
---------------------
2003 2002
--------- ---------
NET CASH FLOWS PROVIDED BY OPERATING ACTIVITIES:
Net income (loss) $ 874 $ (28,179)
Adjustments to reconcile net income (loss) to net
cash provided by operating activities:
Depreciation and amortization 22,046 25,961
Manufacturing facility impairment (624) 23,357
Stock based compensation 3,385 9,732
Loss on disposal of assets (3) 73
Deferred rent 19 (467)
Deferred income taxes 4,998 (18,193)
Changes in operating assets and liabilities:
Accounts receivable (2,629) (4,363)
Inventories 2,507 (8,583)
Prepaid expenses and other assets (53) 2,855
Accounts payable (1,659) 872
Income taxes (4,319) --
Other accrued liabilities 32 5,367
Deferred income on shipments to distributors 1,298 (1,374)
--------- ---------
Net cash provided by operating activities 25,872 7,058
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment (15,758) (27,042)
Purchase of intangible asset -- (2,054)
Proceeds from sales and maturities of
short-term investments -- 3,092
--------- ---------
Net cash used by investing activities (15,758) (26,004)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from long-term debt borrowing -- 10,736
Repayments of long-term debt (735) (3,021)
Proceeds from the issuance of common stock 3,531 6,293
Repurchase of common stock (3,501) (26,440)
--------- ---------
Net cash used by financing activities (705) (12,432)
--------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 9,409 (31,378)
CASH AND CASH EQUIVALENTS - Beginning of period 117,363 130,406
--------- ---------
CASH AND CASH EQUIVALENTS - End of period $ 126,772 $ 99,028
========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest $ 513 $ 286
========= =========
Income taxes $ 661 $ 91
========= =========
Non-cash transactions:
Deferred stock compensation (reversal) $ (1,562) $ (2,917)
========= =========
Acquisition of intangible asset under patent
cross license and settlement agreement $ -- $ 5,154
========= =========
See Notes to Condensed Consolidated Financial Statements.
5
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. SIGNIFICANT ACCOUNTING POLICIES
Interim Financial Information - The accompanying condensed consolidated
financial statements of Micrel, Incorporated and its wholly-owned
subsidiaries ("Micrel" or the "Company") as of September 30, 2003 and for
the three and nine months ended September 30, 2003 and 2002 are unaudited.
In the opinion of management, the condensed consolidated financial
statements include all adjustments (consisting only of normal recurring
accruals) that management considers necessary for a fair presentation of
its financial position, operating results and cash flows for the interim
periods presented. Operating results and cash flows for interim periods
are not necessarily indicative of results for the entire year.
This financial data should be read in conjunction with the audited
consolidated financial statements and notes thereto included in the
Company's Annual Report on Form 10-K for the year ended December 31, 2002.
This financial data should also be read in conjunction with the Company's
critical accounting policies included in Management's Discussion and
Analysis of Financial Condition and Results of Operations in the Company's
Annual Report on Form 10-K for the year ended December 31, 2002.
Net Income (Loss) Per Common and Equivalent Share - Basic net income (loss)
per share is computed by dividing net income (loss) by the number of
weighted average common shares outstanding. Diluted net income (loss) per
share reflects potential dilution from outstanding stock options using the
treasury stock method. Reconciliation of weighted average shares used in
computing earnings per share is as follows (in thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- --------------------
2003 2002 2003 2002
--------- --------- --------- ---------
Weighted average common
shares outstanding 92,032 92,563 92,174 92,845
Dilutive effect of stock options
outstanding using the treasury
stock method 1,343 -- 1,143 --
--------- --------- --------- ---------
Shares used in computing diluted
net income (loss) per share 93,375 92,563 93,317 92,845
========= ========= ========= =========
For the three and nine months ended September 30, 2002, 1.5 million and 3.2
million common stock equivalent shares, respectively, have been excluded
from the weighted-average number of common shares outstanding for the
diluted net loss per share computations as they were anti-dilutive.
Stock Based Awards - The Company accounts for stock-based awards to
employees using the intrinsic value method in accordance with Accounting
Principles Board Opinion ("APB") No. 25, "Accounting for Stock Issued to
Employees". Deferred stock compensation balances are recorded as a contra-
equity amount and amortized as a charge to operating results over the
applicable vesting periods. As of September 30, 2003 total unamortized
stock compensation was $5.0 million.
SFAS No. 123, "Accounting for Stock-Based Compensation," requires the
disclosure of pro forma net income and earnings per share had the Company
applied the fair value method. Under SFAS 123, the fair value of stock-
based awards to employees is calculated through the use of option pricing
models, even though such models were developed to estimate the fair value
of freely tradable, fully transferable options without vesting
restrictions, which significantly differ from the Company's stock option
awards. These models also require subjective assumptions, including future
stock volatility and expected time to exercise, which greatly affect the
calculated values. The Company's calculations for the fair value of stock
options were made using the Black-Scholes option pricing model with the
6
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
following weighted average assumptions for 2003 and 2002, respectively:
expected life, 60 months; stock volatility, 85% and 86%; risk free interest
rates, 3%; and no dividends during the expected terms. The Company's
calculations are based on a multiple option valuation approach and
forfeitures are recognized as they occur. The Company's calculations for
the fair value of stock issued under the employee stock purchase plan were
made using the Black-Scholes option pricing model with the following
weighted average assumptions for 2003 and 2002, respectively: expected
life, 6 months; stock volatility, 85% and 86%; risk free interest rates 1%;
and no dividends during the term.
SFAS No. 148 amends SFAS No. 123 in December 2002 to require that
disclosures of the pro forma effect of using the fair value method of
accounting for stock-based employee compensation be displayed more
prominently and in a tabular format. The following table illustrates the
effect on the Company's net income (loss) and net income (loss) per share
if it had recorded compensation costs based on the estimated grant date
fair value as defined by SFAS No. 123 for all granted stock-based awards
(in thousands, except per share amounts):
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- --------------------
2003 2002 2003 2002
--------- --------- --------- ---------
Net income (loss) as reported $ 1,613 $ (24,468) $ 874 $ (28,179)
Add: stock-based employee
compensation expense included
in reported net income (loss),
net of tax effects 677 1,902 2,058 5,917
Deduct: stock-based employee
compensation expense determined
under fair value based method,
net of tax effects (3,394) (3,722 (10,244) (16,105)
--------- --------- --------- ---------
Pro forma net loss $ (1,105) $(26,288) $ (7,312) $ (38,367)
========= ========= ========= =========
Net income (loss) per share
as reported:
Basic $ 0.02 $ (0.26) $ 0.01 $ (0.30)
========= ========= ========= =========
Diluted $ 0.02 $ (0.26) $ 0.01 $ (0.30)
========= ========= ========= =========
Pro forma net loss per share:
Basic $ (0.01) $ (0.28) $ (0.08) $ (0.41)
========= ========= ========= =========
Diluted $ (0.01) $ (0.28) $ (0.08) $ (0.41)
========= ========= ========= =========
2. RECENTLY ISSUED ACCOUNTING STANDARDS
In January 2003, the Financial Accounting Standards Board ("FASB" or the
"Board") issued Interpretation No. 46 ("FIN 46") "Consolidation of Variable
Interest Entities." FIN 46 requires certain variable interest entities to
be consolidated by the primary beneficiary of the entity if the equity
investors in the entity do not have the characteristics of a controlling
financial interest or do not have sufficient equity at risk for the entity
to finance its activities without additional subordinated financial support
from other parties. FIN 46 is effective immediately for all new variable
interest entities created or acquired after January 31, 2003. For variable
interest entities created or acquired before February 1, 2003, the
provisions of FIN 46 must be applied for the first interim or annual period
beginning after December 15, 2003. The Company does not currently
anticipate this statement to have any effect on its financial statements.
In November 2002, the Emerging Issues Task Force reached a consensus on
Issue No. 00-21 ("EITF 00-21"), "Revenue Arrangements with Multiple
Deliverables." EITF 00-21 provides guidance on how to account for
arrangements that involve the delivery or performance of multiple products,
services and/or rights to use assets. The provisions of EITF 00-21 will
apply to revenue arrangements entered into in fiscal periods beginning
after June 15, 2003. The adoption of this standard had no material impact
on the Company's financial statements.
In May 2003, the FASB issued Statement of Accounting Standards No. 150
("SFAS 150"), "Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity." SFAS No. 150 changes the
accounting guidance for certain financial instruments that, under
previously guidance, could be classified as equity or "mezzanine" equity by
now requiring those instruments to be classified as liabilities (or assets
in some circumstances) in the statement of financial position. Further,
SFAS No. 150 requires disclosure regarding the terms of those instruments
7
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
and settlement alternatives. SFAS No. 150 is generally effective for all
financial instruments entered into or modified after May 31, 2003, and is
otherwise effective at the beginning of the first interim period beginning
after June 15, 2003. While the effective date of certain elements of SFAS
No. 150 have been deferred, the adoption of SFAS No. 150 when finalized is
not expected to have a material impact on the Company's financial position,
results of operations or cash flows.
3. INVENTORIES
Inventories consist of the following (in thousands):
September 30, December 31,
2003 2002
------------ ------------
Finished goods $ 13,133 $ 15,597
Work in process 22,783 22,523
Raw materials 1,108 1,411
---------- ----------
$ 37,024 $ 39,531
========== ==========
4. BORROWING ARRANGEMENTS
Borrowing agreements consisted of $5.0 million revolving line of credit from
a commercial bank. There were no borrowings under the revolving line of
credit agreement at September 30, 2003. The revolving line of credit
agreement expires on June 30, 2005. Borrowings under the revolving line of
credit bear interest rates of, at the Company's election, the prime rate
(4.0% at September 30, 2003), or the bank's revolving offshore rate, which
approximates LIBOR (1.16% at September 30, 2003) plus 2.0%. The agreement
contains certain restrictive covenants that include a restriction on the
declaration and payment of dividends without the lender's consent. The
Company was in compliance with all such covenants at September 30, 2003.
In September 2002, associated with the purchase of its previously leased
manufacturing facilities in San Jose, CA, the Company borrowed $10.7 million
through a commercial mortgage financing agreement. Borrowings under this
agreement bear interest, at the Company's election, at the daily floating
prime rate (4.0% at September 30, 2003), or adjustable monthly LIBOR (1.16%
at September 30, 2003) plus 1.5%. The principal balance of the loan shall
be repaid in 59 consecutive monthly installments of $16,890 and one final
installment in the amount necessary to pay in full the remaining outstanding
principal balance. The mortgage agreement contains certain restrictive
covenants. The Company was in compliance with all such covenants at
September 30, 2003.
As of September 30, 2003, the Company had $11.2 million under term notes
outstanding.
5. SIGNIFICANT CUSTOMERS
During the nine months ended September 30, 2003, two customers, a world-wide
distributor and an Asian based stocking representative, accounted for $19.4
million (13%) and $17.9 million (12%) of net revenues, respectively. No
direct original equipment manufacturer accounted for more than 10% of net
revenues. During the nine months ended September 30, 2002, one customer, an
Asian based stocking representative, accounted for $19.9 million (13%) of
net revenues. No direct original equipment manufacturer accounted for more
than 10% of net revenues.
8
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
6. COMPREHENSIVE INCOME (LOSS)
Comprehensive income or loss, which was comprised of the Company's net
income or loss for the periods and changes in unrealized gains or losses on
investments, was net income of $1.6 million and $874,000 for the three and
nine months ended September 30, 2003, respectively, and net loss of $24.5
million and $28.2 million for the three and nine months ended September 30,
2002, respectively.
7. SEGMENT REPORTING
The Company follows the provisions of SFAS No. 131, Disclosures about
Segments of an Enterprise and Related Information. SFAS No. 131 establishes
standards for reporting information regarding operating segments in annual
financial statements and requires selected information for those segments to
be presented in interim financial reports issued to stockholders. SFAS No.
131 also establishes standards for related disclosures about products and
services and geographic areas. Operating segments are identified as
components of an enterprise about which separate discrete financial
information is available for evaluation by the chief operating decision
maker. The Company operates in two reportable segments: standard products
and custom and foundry products. The chief operating decision maker
evaluates segment performance based on revenue. Accordingly, all expenses
are considered corporate level activities and are not allocated to segments.
Therefore, it is not practical to show profit or loss by operating segments.
Also, the chief operating decision maker does not assign assets to these
segments. Consequently, it is not practical to show assets by operating
segments.
Net Revenues by Segment
(Dollars in thousands)
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- --------------------
2003 2002 2003 2002
--------- --------- --------- ---------
Net Revenues:
Standard Products $ 48,182 $ 42,811 $ 137,016 $ 135,219
Custom and Foundry Products 5,182 7,556 16,412 18,836
--------- --------- --------- ---------
Total net revenues $ 53,364 $ 50,367 $ 153,428 $ 154,055
========= ========= ========= =========
As a Percentage of Total
Net Revenues:
Standard Products 90% 85% 89% 88%
Custom and Foundry Products 10% 15% 11% 12%
--------- --------- --------- ---------
Total net revenues 100% 100% 100% 100%
========= ========= ========= =========
8. LITIGATION AND OTHER CONTINGENCIES
On February 26, 1999, the Lemelson Medical, Education & Research Foundation
(the "Lemelson Partnership") filed a complaint which was served on the
Company on June 15, 1999, entitled Lemelson Medical, Education & Research
Foundation, Limited Partnership v. Lucent Technologies Inc., et al. in the
United States District Court in Phoenix, Arizona, against eighty-eight
defendants, including the Company, alleging infringement of Lemelson
Foundation patents. The complaint in the lawsuit seeks unspecified
compensatory damages, treble damages and attorneys' fees, as well as
injunctive relief against further infringement of the Lemelson patents at
issue. The case is currently in the motion and hearing phase. The Company
intends to continue to defend itself against these claims.
On May 9, 1994, Linear Technology Corporation ("Linear" or "LTC"), a
competitor of the Company, filed a complaint against the Company, entitled
Linear Technology Corporation v. Micrel, Incorporated, in the United States
9
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
District Court in San Jose, California, alleging patent and copyright
infringement and unfair competition. All claims, except the patent
infringement claim, have been settled or dismissed. The complaint in the
lawsuit seeks unspecified compensatory damages, treble damages and
attorneys' fees as well as preliminary and permanent injunctive relief
against infringement of the Linear patent at issue. On August 20, 1999,
the United States District Court in San Jose adjudicated in favor of the
Company on a motion, finding the patent to be invalid under the "on sale
bar" defense as the plaintiff had placed integrated circuits containing the
alleged invention on sale more than a year before filing its patent
application. The United States District Court in San Jose dismissed the
plaintiff's complaint on the merits of the case and awarded the Company its
legal costs. Linear appealed the trial Court's decision to the United
States Court of Appeal for the Federal Circuit ("CAFC") on September 17,
1999. On December 28, 2001 the CAFC reversed the District Court's judgment
of invalidity and remanded the case to the District Court. After the
Company's Petition for Rehearing En Banc by the Court of Appeal was denied,
the Company filed a Petition for Writ of Certiorari with the Supreme Court
of the United States, which Linear opposed. On May 19, 2003, the Supreme
Court denied the Petition for Writ of Certiorari. The parties subsequently
attended a case management conference with the District Court, at which
time a schedule was determined for further discovery and hearing matters
before the Court. The Company intends to continue to defend itself against
the claims alleged in this litigation.
On December 27, 2002, the Company filed a complaint against TRW, Inc.
("TRW") entitled Micrel, Incorporated v. TRW, Inc., dba TRW Automotive
Electronics Group, in the United States District Court, Northern District
of Ohio, Eastern Division, alleging various causes of action relating to
breach of a relationship surrounding the development of certain custom
products by Micrel for TRW. In this lawsuit, Micrel is alleging that TRW
breached various agreements to assist in Micrel's development of, and to
purchase, certain Application Specific Integrated Circuits. The complaint
seeks compensatory damages, attorneys' fees and costs of suit. On February
24, 2003, TRW filed an answer to the Company's complaint and a counterclaim
alleging various causes of action relating to breach of the above-mentioned
relationship concerning ASIC development. The case is currently in the
motion and discovery phase.
On April 21, 2003, the Company filed a complaint against its former
principal accountants Deloitte & Touche LLP ("Deloitte") entitled Micrel,
Incorporated v. Deloitte & Touche LLP in the Superior Court of the State of
California, County of Santa Clara, alleging various causes of action
relating to certain professional advice received by Micrel from Deloitte.
In this lawsuit, Micrel is alleging that Deloitte negligently rendered
services as accountants to Micrel, breached certain agreements with Micrel
by failing to perform services using ordinary skill and competence and in
conformance with generally accepted principles for such work and made
certain false representations upon which Micrel justifiably relied. As a
direct result of Deloitte's actions, Micrel alleges damages including:
expenses incurred in the form of payments to various professionals to
address the impact on Micrel's financial statements and other effects of
the wrongful conduct; loss of cash as well as equity from stock options;
additional charges to earnings that Micrel would not incur but for the
wrongful advice; additional potential liability for taxes; potential
liability for tax penalties; and the harm to Micrel in both financial and
semiconductor markets resulting in loss of overall value of the company as
a whole. The complaint seeks compensatory damages, costs of suit and such
other relief that the court may deem just and proper. The case is
currently in the discovery phase.
The Company believes that the ultimate outcome of the legal actions
discussed above will not result in a material adverse effect on the
Company's financial condition, results of operation or cash flows.
However, litigation is subject to inherent uncertainties, and no assurance
can be given that the Company will prevail in these lawsuits. Accordingly,
the pending lawsuits, as well as potential future litigation with other
companies, could result in substantial costs and diversion of resources and
could have a material adverse effect on the Company's financial condition,
results of operations or cash flows.
10
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The semiconductor industry is characterized by recurrent litigation
regarding patent and other intellectual property rights. To the extent
that the Company becomes involved in such intellectual property litigation,
it could result in substantial costs and diversion of resources to the
Company and could have a material adverse effect on the Company's financial
condition, results of operation or cash flows.
In the event of an adverse ruling in any intellectual property litigation
that now exists or might arise in the future, the Company might be required
to discontinue the use of certain processes, cease the manufacture, use and
sale of infringing products, expend significant resources to develop non-
infringing technology or obtain licenses to the infringing technology.
There can be no assurance, however, that under such circumstances, a
license would be available under reasonable terms or at all. In the event
of a successful claim against the Company and the Company's failure to
develop or license substitute technology on commercially reasonable terms,
the Company's financial condition, results of operations, or cash flows
could be adversely affected.
Certain additional claims and lawsuits have arisen against the Company in
its normal course of business. The Company believes that these claims and
lawsuits will not have a material adverse effect on the Company's financial
condition, results of operation or cash flows.
9. STOCK REPURCHASE PROGRAM
In February 2002, the Company's Board of Directors announced a stock
repurchase program under which the Company could purchase up to $20.0
million of its common stock. In July 2002, the Board of Directors approved
the repurchase of additional stock up to a value of $20.0 million, thereby
increasing the total authorized stock repurchase to $40.0 million of common
stock in 2002. In February 2003, the Board of Directors extended the
authorization to repurchase shares of common stock through December 31,
2003, up to a maximum purchase amount of $40 million for the years 2002 and
2003. In August 2003, the Board of Directors extended the authorization to
repurchase shares of common stock through March 31, 2004, up to a maximum
purchase amount of $45 million for the time period commencing February 11,
2002, of which $12.4 million remains authorized for repurchases through
March 31, 2004. Shares of common stock purchased pursuant to the
repurchase program are cancelled upon repurchase, and are intended to
offset dilution from the Company's stock option plans, employee stock
purchase plans and 401(k). The Company repurchased 297,900 shares of its
common stock for $3.5 million during the nine months ended September 30,
2003.
10. STOCK OPTION EXCHANGE PROGRAM
On November 8, 2002 the Company filed a Schedule TO with the Securities and
Exchange Commission in order to initiate an offer to its employees to
exchange certain of their outstanding options for new options to be granted
six months and two days after expiration of the exchange offer. The
Company's Directors, CEO and CFO were not eligible to participate in the
stock option exchange program. This offer to exchange contemplated a grant
of new options to eligible employees in a ratio equivalent to one new
option granted for every two options elected for exchange and cancelled
with respect to employees who held at the time of the offer the position of
vice president or higher, and two new options granted for every three
options elected for exchange and cancelled with respect to all other
employees. The only options eligible to be exchanged were those
outstanding employee stock options with an exercise price of $13 or higher.
On December 11, 2002, options to purchase 3,330,401 shares of the Company's
common stock were surrendered, and were replaced on June 13, 2003 with
options to purchase 1,901,769 shares at an exercise price of $10.72 equal
to the closing sales price of the Company's common stock as quoted on the
Nasdaq National Market on the date preceding the replacement grant date.
11
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
11. RESTRUCTURING AND MANUFACTURING FACILITY IMPAIRMENT
In September 2002, the Company approved a plan to close its Santa Clara, CA
wafer fabrication facility to reduce costs and improve operating
efficiencies. Associated with the facility closure, the Company accrued
$5.5 million in restructuring expenses which consisted of $1.0 million for
equipment disposal costs and $4.5 million in net contractual building lease
costs, excluding estimated sublease income, that will provide no future
benefit. During July 2003, the Company ceased all manufacturing processes
within the Santa Clara facility and completed the relocation of all
employees to its San Jose, CA facilities.
Associated with the wafer fabrication facility closure, during the quarter
ended September 30, 2003, the Company incurred and paid severance costs of
$320,000 related to the termination of 46 employees, which consisted
primarily of wafer fabrication operators and maintenance technicians.
These termination costs have been reported as restructuring expense in the
statement of operations.
During the quarter ended September 30, 2003, the Company revised its
estimates related to severance costs, contractual facility costs and
equipment disposal costs based upon activity to date and estimated future
costs. A summary of restructuring expense accrual is as follows: ($000)
Contractual
Severance Facility Equipment
Costs Costs Disposal Total
---------- ----------- --------- ---------
2002 Charges $ -- $ 4,536 $ 1,000 $ 5,536
Uses -- -- -- --
-------- -------- -------- --------
Balance December 31, 2002 $ -- $ 4,536 $ 1,000 $ 5,536
2003 Charges 320 466 (500) 286
Uses (320) (466) (48) (834)
-------- -------- -------- --------
Balance September 30, 2003 $ -- $ 4,536 $ 452 $ 4,988
======== ======== ======== ========
Of the $5.0 million in accrued restructuring costs, $2.1 million has been
classified as other current liabilities and the remaining $2.9 million has
been classified as other long-term obligations as of September 30, 2003.
These restructuring costs are expected to be paid in cash over the
remaining facility lease term, which expires in October 2006.
Also related to the facility closure, in September 2002, the Company
recorded a $23.4 million impairment of long-lived assets to reduce the net
book value of the facility's leasehold improvements and equipment to fair
value. The fair value was based on a third party estimate of the current
net sales value. In August 2003, the company sold previously impaired
equipment which resulted in a $624,000 gain, recognized as an adjustment to
manufacturing facility impairment expense for the three and nine month
periods ending September 30, 2003.
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Overview
Micrel designs, develops, manufactures and markets a range of high performance
standard analog integrated circuits and high-speed mixed-signal and digital
integrated circuits. These circuits are used in a wide variety of electronics
products, including those in the computer, telecommunications, industrial and
networking markets. In addition to standard products, the Company
manufactures custom analog and mixed-signal circuits and provides wafer
foundry services.
The Company derives a substantial portion of its net revenues from standard
products. Standard products sales represented 90% and 89% of net revenues for
the three and nine months ended September 30, 2003, respectively, as compared
to 85% and 88% for the similar periods in the prior year. The Company
believes that a substantial portion of its net revenues in the future will
depend upon standard products sales, although such sales as a proportion of
net revenues may vary as the Company adjusts product output levels to
correspond with varying economic conditions and demand levels in the markets
which it serves. The standard products business is characterized by short-term
orders and shipment schedules, and customer orders typically can be canceled
or rescheduled without significant penalty to the customer. Since most
standard products backlog is cancelable without significant penalty, the
Company typically plans its production and inventory levels based on internal
forecasts of customer demand, which is highly unpredictable and can fluctuate
substantially. In addition, the Company is limited in its ability to reduce
costs quickly in response to any revenue shortfalls.
The Company may experience significant fluctuations in its results of
operations. Factors that affect the Company's results of operations include
the volume and timing of orders received, changes in the mix of products sold,
the utilization level of manufacturing capacity, competitive pricing pressures
and the successful development of new products. These and other factors are
described in further detail later in this discussion. As a result of the
foregoing or other factors, there can be no assurance that the Company will
not experience material fluctuations in future operating results on a
quarterly or annual basis, which could materially and adversely affect the
Company's business, financial condition, results of operations or cash flows.
Critical Accounting Policies
The financial statements included in this Form 10-Q and discussed within this
Management's Discussion and Analysis of Financial Condition and Results of
Operations have been prepared in accordance with accounting principles
generally accepted in the United States. Preparation of these financial
statements requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. On an on-going basis, management evaluates its estimates
and judgements. Management bases its estimates and judgements on historical
experience and on various other assumptions that are believed 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. Actual results may differ from these
estimates under different assumptions or conditions. For a detailed discussion
of the Company's significant accounting policies, see Note 1 of Notes to
Consolidated Financial Statements in Item 14 of the Company's Annual Report on
Form 10-K for the year ended December 31, 2002.
Revenue Recognition. Micrel generates revenue by selling products to original
equipment manufacturers ("OEM"s), distributors and stocking representatives.
Stocking representative firms may buy and stock the Company's products for
resale or may act as the Company's sales representative in arranging for
direct sales from the Company to an OEM customer. The Company's policy is to
recognize revenue from sales to customers when the rights and risks of
ownership have passed to the customer, when persuasive evidence of an
arrangement exists, the product has been delivered, the price is fixed and
determinable and collection of the resulting receivable is reasonably assured.
13
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Micrel allows certain distributors, primarily located in North America and
Europe, significant return rights and pricing adjustments subsequent to the
initial product shipment. Micrel defers recognition of revenue and related
cost of sales (in the balance sheet line item "deferred income on shipments to
distributors") derived from sales to these distributors until they have resold
the Company's products to their customers. Sales to OEM customers and stocking
representatives, primarily located in Asia, which have limited return rights
and pricing adjustments, are recognized upon shipment and a related returns
allowance is established based upon historical return rates. Actual future
returns could be different than the returns allowance established. The
Company also maintains an allowance for doubtful accounts for estimated
uncollectible accounts receivables. This estimate is based on an analysis of
specific customer creditworthiness and historical bad debts experience.
Actual future uncollectible amounts could exceed the doubtful accounts
allowance established.
Inventory Valuation. Inventories are stated at the lower of cost (first-in,
first-out method) or market. The Company has taken adjustments to write-down
the cost of obsolete and excess inventory to the estimated market value based
on historical and forecasted demand for its products. If actual future demand
for the Company's products is less than currently forecasted, additional
inventory adjustments may be required. Once a reserve is established, it is
maintained until the product to which it relates is sold or otherwise disposed
of. This treatment is in accordance with Accounting Research Bulletin 43 and
Staff Accounting Bulletin 100 "Restructuring and Impairment Charges."
Income Taxes. Resulting primarily from temporary timing differences between
book and tax valuation of assets and liabilities, state and federal research
and development credit carryforwards and state manufacturers credit
carryforwards, the Company had net deferred tax assets of $35.4 million as of
September 30, 2003, as compared to $40.4 million as of December 31, 2002. The
reduction in deferred assets resulted primarily from the reversal of temporary
timing difference associated with the closure of the Company's Santa Clara, CA
wafer fabrication facility. The Company believes that future taxable income
levels will be sufficient to realize the tax benefits of these deferred tax
assets and has not established a valuation allowance.
Litigation. The semiconductor industry is characterized by litigation regarding
patent and other intellectual property rights. The Company is currently
involved in such intellectual property litigation (see Note 8 of Notes to
Condensed Consolidated Financial Statements) and has not accrued any liability
for such litigation. The Company regularly evaluates current information
available to determine whether such accruals should be made. An estimated
liability would be accrued when it is determined to be probable that a
liability has been incurred and the amount of loss can be reasonably estimated.
If the Company were to determine that such a liability was probable and could
be reasonably estimated, the adjustment would be charged to income in the
period such determination was made.
Results of Operations
The following table sets forth certain operating data as a percentage of
total net revenues for the periods indicated:
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- --------------------
2003 2002 2003 2002
--------- --------- --------- ---------
Net revenues 100.0% 100.0% 100.0% 100.0%
Cost of revenues 60.3 73.7 60.9 66.2
------- ------- ------- -------
Gross profit 39.7 26.3 39.1 33.8
------- ------- ------- -------
Operating expenses:
Research and development 21.6 28.0 23.7 26.3
Selling, general and
administrative 13.6 15.7 13.6 16.1
Amortization of deferred
stock compensation 1.6 4.7 1.6 4.8
Manufacturing facility
impairment (1.2) 46.4 (0.4) 15.1
Restructuring expense 0.5 11.0 0.2 3.6
------- ------- ------- -------
Total operating expenses 36.1 105.8 38.7 65.9
------- ------- ------- -------
Income (loss) from operations 3.6 (79.5) 0.4 (32.1)
Other income, net 0.3 0.6 0.3 0.6
------- ------- ------- -------
Income (loss) before income taxes 3.9 (78.9) 0.7 (31.5)
Provision (benefit) for income
taxes 0.9 (30.3) 0.1 (13.2)
------- ------- ------- -------
Net income(loss) 3.0% (48.6)% 0.6% (18.3)%
======= ======= ======= =======
14
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Net Revenues. For the three months ended September 30, 2003, net revenues
increased 6% to $53.4 million from $50.4 million for the same period in the
prior year, reflecting increased sales of standard products. For the nine
months ended September 30, 2003, net revenues were relatively flat at $153.4
million compared to $154.1 million for the same period in the prior year, which
resulted from increased sales of standard products which were offset by
decreased sales of custom and foundry products.
For the three months ended September 30, 2003, standard products revenues
increased 13% to $48.2 million from $42.8 million for the same period in the
prior year. This increase resulted primarily from increased unit shipments of
industrial, telecommunications, computer and communications products which was
partially offset by decreased average selling prices across all significant
standard product lines. For the nine months ended September 30, 2003, standard
products revenues increased 1% to $137.0 million from $135.2 million for the
same period in the prior year. This increase resulted primarily from increased
unit shipments of industrial, telecommunications, computer and communications
products, which was partially offset by decreased average selling prices across
all significant standard product lines.
For the three months ended September 30, 2003, custom and foundry products
revenues decreased 31% to $5.2 million from $7.6 million for the same period in
the prior year. For the nine months ended September 30, 2003, custom and
foundry products revenues decreased 13% to $16.4 million compared to $18.8
million for the same period in the prior year. These decreases resulted
primarily from decreased average selling prices, which were partially offset by
increased unit shipments.
Customer demand for semiconductors can change quickly and unexpectedly. As a
result of the slowing global economy, a rapid build-up of semiconductor
inventories in global sales channels occurred during 2001, causing lead times
for components to fall precipitously. Although it is generally believed that
industry wide channel inventories have decreased substantially since 2001, the
short lead time environment has continued from the middle of 2001 through the
end of the third quarter of 2003 as a result of underutilization of
manufacturing capacity and relatively high levels of work-in-process
inventories within the semiconductor industry. For over two years, customers
have perceived that semiconductor components have been readily available and
have ordered only for their short-term needs, resulting in historically low
order backlog levels. The Company's revenue levels have been highly dependent
on the amount of new orders that are received for which product is requested
to be delivered to the customer within the same period. Within the
semiconductor industry these orders that are booked and shipped within the
period are called "turns fill" orders. During the three months ended
September 30, 2003, 58% of the Company's shipments resulted from turns-fill
orders as compared to 57% for the same period in the prior year. The Company
believes the current high turns-fill requirements and pricing pressure will
continue until lead times substantially increase and order backlogs grow. The
Company experienced an increase in order rates and backlog in the third
quarter of 2003, indicating that demand for semiconductors may be increasing
and that customers may be becoming more concerned about product availability.
However, the sustainability of improved customer demand is uncertain, and the
high turns fill requirement together with, the uncertainty of product mix and
pricing, make it difficult to predict future levels of sales and profitability
and may require the Company to continue to carry higher levels of inventory, .
International sales represented 70% and 67% of net revenues for the quarters
ended September 30, 2003 and 2002, respectively. On a dollar basis,
international sales increased 10% to $37.2 million for the quarter ended
September 30, 2003 from $33.9 million for the comparable period in 2002. This
increase resulted primarily from increased unit shipments of
telecommunications, computer and Ethernet communications products, primarily in
Asia, which were partially offset by decreased average selling prices. For
each of the nine months ended September 30, 2003 and 2002, international sales
represented 69% of net revenues. On a dollar basis, international sales
decreased 1% to $105.3 million for the nine months ended September 30, 2003
from $106.3 million for the comparable period in 2002. This decrease resulted
primarily from decreased average selling prices, which were partially offset by
increased unit shipments of telecommunications, computer Ethernet
communications products.
15
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
The Company's international sales are denominated in U.S. currency.
Consequently, changes in exchange rates that strengthen the U.S. dollar could
increase the price in local currencies of the Company's products in foreign
markets and make the Company's products relatively more expensive than
competitors' products that are denominated in local currencies, leading to a
reduction in sales or profitability in those foreign markets. The Company has
not taken any protective measures against exchange rate fluctuations, such as
purchasing hedging instruments with respect to such fluctuations.
Gross Profit. Gross profit is affected by a variety of factors including the
volume of product sales, product mix, manufacturing utilization, product
yields and average selling prices. For the three months ended September 30,
2003 the Company's gross margin increased to 40% from 26% for the comparable
period in 2002. For the nine months ended September 30, 2003 the Company's
gross margin increased to 39% from 34% for the comparable period in 2002.
These increases in gross margin resulted primarily from a $4.5 million charge
for excess inventory included in the 2002 results, combined with decreased
wafer fabrication costs resulting from the Company's wafer fabrication
consolidation project (see Note 11 of Notes to Condensed Consolidated
Financial Statements), lower costs for external assembly and test
manufacturing services and the shipment of approximately $1.3 million in
previously reserved inventory, which were partially offset by a reduction in
average selling prices, as compared to the same periods in 2002. The Company
believes pricing pressure will continue to affect gross profit until industry
manufacturing capacity utilization levels increase and order lead times extend
beyond current levels.
Research and Development Expenses. Research and development expenses include
costs associated with the development of new processes and the definition,
design and development of new products. The Company also expenses prototype
wafers and new production mask sets related to new products as research and
development costs until products based on new designs are fully characterized
by the Company and are demonstrated to support published data sheets and
satisfy reliability tests.
As a percentage of net revenues, research and development expenses represented
22% and 28% for the three months ended September 30, 2003 and 2002,
respectively. On a dollar basis, research and development expenses decreased
$2.6 million or 18% to $11.5 million for the three months ended September 30,
2003 from $14.1 million for the comparable period in 2002. For the nine months
ended September 30, 2003 and 2002, research and development expenses
represented 24% and 26% of net revenues, respectively. On a dollar basis,
research and development expenses decreased $4.2 million or 11% to $36.3
million for the nine months ended September 30, 2003 from $40.5 million for the
comparable period in 2002. The dollar decreases were primarily due to decreased
prototype fabrication costs combined with reduced staffing costs. The Company
believes that the development and introduction of new products is critical to
its future success and expects to continue its investment in research and
development activities in the future.
Selling, General and Administrative Expenses. As a percentage of net revenues,
selling, general and administrative expenses represented 14% and 16% for the
three months ended September 30, 2003 and 2002, respectively. On a dollar
basis, selling, general and administrative expenses decreased $677,000 or 9% to
$7.3 million for the three months ended September 30, 2003 from $7.9 million
for the comparable period in 2002. For the nine months ended September 30,
2003 and 2002, selling, general and administrative expenses represented 14% and
16% of net revenues, respectively. On a dollar basis, selling, general and
administrative expenses decreased $4.0 million or 16% to $20.8 million for the
nine months ended September 30, 2003 from $24.8 million for the comparable
period in 2002. The dollar decreases were principally attributable to
decreased outside legal costs combined with decreased advertising expenses.
16
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Amortization of deferred stock compensation. The Company accounts for stock-
based awards to employees using the intrinsic value method in accordance with
Accounting Principles Board Opinion No. 25 ("APB 25"), "Accounting for Stock
Issued to Employees". Certain Company practices in effect prior to January
2002 related to employee stock option pricing resulted in stock compensation
expense under APB 25. For the three months ended September 30, 2003 total
amortization of deferred stock compensation was $1.1 million of which $279,000
was included in cost of revenues and $834,000 was included in amortization of
deferred stock compensation. For the three months ended September 30, 2002
total amortization of deferred stock compensation was $3.1 million of which
$770,000 was included in cost of revenues and $2.4 million was included in
amortization of deferred stock compensation. For the nine months ended
September 30, 2003 total amortization of deferred stock compensation was $3.4
million of which $870,000 was included in cost of revenues and $2.5 million was
included in amortization of deferred stock compensation. For the nine months
ended June 30, 2002 total amortization of deferred stock compensation was $9.7
million of which $2.3 million was included in cost of revenues and $7.4 million
was included in amortization of deferred stock compensation. The decreases in
2003 resulted primarily from accelerated recognition of stock compensation
during the fourth quarter of 2002 associated with an employee stock option
exchange program (see Note 10 of Notes to Condensed Consolidated Financial
Statements). As of September 30, 2003 total unamortized stock compensation was
$5.0 million with remaining amortization of $1.0 million in 2003, $2.8 million
in 2004, $926,000 in 2005 and $333,000 in 2006.
Manufacturing Facility Impairment and Restructuring Expense. In September
2002, the Company approved a plan to close its Santa Clara, CA wafer
fabrication facility to reduce costs and improve operating efficiencies.
Associated with the facility closure, the Company accrued $5.5 million in
restructuring expenses. During July 2003, the Company ceased all manufacturing
processes within the Santa Clara facility and completed the relocation of all
employees to its San Jose, CA facilities. During the three and nine months
ended September 30, 2003, the Company paid $834,000 in restructuring costs that
reduced the previous restructuring accrual and recorded an additional $286,000
in net restructuring accrual adjustments which were charged to restructuring
expense in the three and nine months ended September 30, 2003 (see Note 11 of
Notes to Condensed Consolidated Financial Statements).
Also related to the facility closure, in September 2002, the Company recorded a
$23.4 million impairment of long-lived assets to reduce the net book value of
the facility's leasehold improvements and equipment to fair value. The fair
value was based on a third party estimate of the current net sales value.
During the three and nine months ended September 30, 2003, the company sold
previously impaired equipment resulting in a $624,000 gain which has been
recorded as an adjustment to the manufacturing facility impairment expense.
Other Income, Net. Other income, net reflects interest income from investments
in short-term, investment-grade, securities and money market funds offset by
interest expense incurred on term notes, combined with other non-operating
income or expenses. For the three months ended September 30, 2003, other
income, net was $150,000 compared to $284,000 for the comparable period in
2002. The decrease was primarily due to decreased rates of return on cash,
cash equivalents and short-term investments as compared to the prior year. For
the nine months ended September 30, 2003, other income, net was $497,000
compared to $872,000 for the comparable period in 2002. The decrease was
primarily due to decreased rates of return on cash, cash equivalents and short-
term investments as compared to the prior year and the inclusion of $490,000 in
non-recurring other income in the prior year which were partially offset by a
$947,000 expense for the settlement of a patent dispute in the prior year.
Provision (Benefit) for Income Taxes. For the three and nine months ended
September 30, 2003, the provision for income taxes was 23% of pretax income,
respectively, compared to 38% and 42% of pretax loss for the three and nine
months ended September 30, 2002, respectively. The income tax provision
(benefit) for such interim periods reflects the Company's estimated annual
income tax rate. The estimated provision (benefit) for income taxes differs
from taxes computed at the federal statutory rate primarily due to the effect
of state income taxes, state research and development credits, and state
manufacturing credits.
17
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Liquidity and Capital Resources
Since inception, the Company's principal sources of funding have been its cash
from operations, bank borrowings and sales of common stock. Principal sources
of liquidity at September 30, 2003 consisted of cash and cash equivalents of
$126.8 million and bank borrowing arrangements. Borrowing agreements consisted
of $5.0 million under a revolving line of credit. There were no borrowings
under this agreement as of September 30, 2003 (for a discussion of borrowing
arrangements, see Note 4 of Notes to Condensed Consolidated Financial
Statements).
The Company's working capital increased by $10.0 million to $192.2 million as
of September 30, 2003 from $182.2 million as of December 31, 2002. The
increase was primarily attributable to a $9.4 million increase in cash and
cash equivalents.
The Company's cash flows from operating activities were $25.9 million for the
nine months ended September 30, 2003 as compared to $7.1 million for the same
period in the prior year. This cash flow increase resulted primarily from a
$18.5 million increase in income from operations after adjustments for non-
cash activities to $30.7 million for the nine months ended September 30, 2003
as compared to a $12.2 million during the comparable period in 2002.
The $25.9 million in cash flows from operating activities generated by the
Company in the nine months ended September 30, 2003 were primarily
attributable to $30.7 million in income from operations (net income of
$874,000 plus adjustments for non-cash activities of $29.8 million) combined
with a $2.5 million decrease in inventory, which were partially offset by a
$4.3 million decrease in income taxes payable and a $2.6 million increase in
accounts receivable.
For the nine months ended September 30, 2002, the Company's cash flows from
operating activities were $7.1 million and were primarily attributable to
$12.2 million in income from operations (net loss of $28.2 million plus
adjustments for non-cash activities of $40.5 million) which were partially
offset by a $5.2 million use in cash from changes in operating assets and
liabilities.
The Company's investing activities during the nine months ended September 30,
2003 used cash of $15.8 million as compared to $26.0 million during the
comparable period in the prior year. The $10.2 million decrease in cash used
compared to the same period in the prior year resulted primarily from a $11.3
million decrease in net purchases of property, plant and equipment combined
with a $3.1 million decrease in net sales of short-term investments, which
were partially offset by $2.1 million for the purchase in intangible assets
included in the prior year.
Cash used by investing activities during the nine months ended September 30,
2003 resulted from the purchase of $15.8 million in net purchases of property,
plant and equipment.
For the nine months ended September 30, 2002, the Company's investing
activities used cash of $26.0 million which resulted from $27.0 million in net
purchases of property, plant and equipment and $2.1 million for the purchase of
intangible assets, which was partially offset by $3.1 million in net sales of
short-term investments.
The Company's financing activities during the nine months ended September 30,
2003 used $705,000 of cash as compared to $12.4 million of cash used during
the comparable period in the prior year. This $11.7 million decrease in cash
used compared to the same period in the prior year resulted primarily from a
$22.9 million decrease in the repurchase of common stock, which was partially
offset by a $10.7 million decrease in long-term debt borrowings combined with
a $2.7 million decreased in proceeds from the issuance of common stock.
Cash used by financing activities of $705,000 during the nine months ended
September 30, 2003 was the result of $3.5 million in repurchases of common
stock combined with $735,000 in repayments of long-term debt, which were
partially offset by $3.5 million in proceeds from the issuance of common stock
through employee stock transactions.
18
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
For the nine months ended September 30, 2002, the Company's financing
activities used cash of $12.4 million as a result of $26.4 million in
repurchases of common stock and $3.0 million in repayments of long-term debt
which was partially offset by proceeds from long-term debt borrowings of $10.7
million and proceeds from the issuance of common stock through employee stock
transactions of $6.3 million.
The Company currently intends to purchase approximately $20 million to $25
million in capital equipment and improvements during 2003. The majority of
the anticipated 2003 capital spending is related to equipment and building
improvements associated with the consolidation of wafer fabrication operations
in its San Jose facility and new production mask sets. The Company also
expects to purchase additional research and development related software and
equipment, and manufacturing equipment for product testing of new products.
The Company is currently authorized by its Board of Directors to repurchase an
additional $12.4 million of its common stock through March 31, 2004. The
Company expects that its cash requirements for the next 12 months will be met
by its cash from operations, existing cash balances and short-term
investments, and its credit facility.
Recently Issued Accounting Standards
In January 2003, the Financial Accounting Standards Board ("FASB" or the
"Board") issued Interpretation No. 46 ("FIN 46") "Consolidation of Variable
Interest Entities." FIN 46 requires certain variable interest entities to be
consolidated by the primary beneficiary of the entity if the equity investors
in the entity do not have the characteristics of a controlling financial
interest or do not have sufficient equity at risk for the entity to finance
its activities without additional subordinated financial support from other
parties. FIN 46 is effective immediately for all new variable interest
entities created or acquired after January 31, 2003. For variable interest
entities created or acquired before February 1, 2003, the provisions of FIN 46
must be applied for the first interim or annual period beginning after
December 15, 2003. The Company does not currently anticipate this statement to
have any effect on its financial statements.
In November 2002, the Emerging Issues Task Force reached a consensus on Issue
No. 00-21 ("EITF 00-21"), "Revenue Arrangements with Multiple Deliverables."
EITF 00-21 provides guidance on how to account for arrangements that involve
the delivery or performance of multiple products, services and/or rights to
use assets. The provisions of EITF 00-21 will apply to revenue arrangements
entered into in fiscal periods beginning after June 15, 2003. The adoption of
this standard had no material impact on the Company's financial statements.
In May 2003, the FASB issued Statement of Accounting Standards No. 150 ("SFAS
150"), "Accounting for Certain Financial Instruments with Characteristics of
both Liabilities and Equity." SFAS No. 150 changes the accounting guidance for
certain financial instruments that, under previously guidance, could be
classified as equity or "mezzanine" equity by now requiring those instruments
to be classified as liabilities (or assets in some circumstances) in the
statement of financial position. Further, SFAS No. 150 requires disclosure
regarding the terms of those instruments and settlement alternatives. SFAS
No. 150 is generally effective for all financial instruments entered into or
modified after May 31, 2003, and is otherwise effective at the beginning of
the first interim period beginning after June 15, 2003. While the effective
date of certain elements of SFAS No. 150 have been deferred, the adoption of
SFAS No. 150 when finalized is not expected to have a material impact on the
Company's financial position, results of operations or cash flows.
Contractual Obligations and Commitments
The Company's contractual obligations disclosure in its Annual Report on Form
10-K for the year ended December 31, 2002 has not materially changed since
that report was filed. During the nine months ended September 30, 2003
payments of $1.9 million were made under previously existing operating leases,
payments of $735,000 were made under previously existing long-term debt
agreements and payments of $2.0 million were made under previously existing
other long-term liabilities.
19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Factors That May Affect Operating Results
The statements contained in this Report on Form 10-Q that are not purely
historical are forward-looking statements within the meaning of Section 27A of
the Securities Act of 1933 and Section 21E of the Securities Exchange Act of
1934, including statements regarding the Company's expectations, hopes,
intentions or strategies regarding the future. Forward-looking statements
include statements regarding: future products or product development; future
research and development spending and the Company's product development
strategy; the success of future cost reduction programs; the levels of domestic
and international sales; future expansion or utilization of manufacturing
capacity; future expenditures; and current or future acquisitions. All
forward-looking statements included in this document are based on information
available to the Company on the date hereof, and the Company assumes no
obligation to update any such forward-looking statements. It is important to
note that the Company's actual results could differ materially from those in
such forward-looking statements. Some of the factors that could cause actual
results to differ materially are set forth below. Additional factors that may
affect operating results are contained within the Company's Form 10-K for the
year ended December 31, 2002.
The Company's operating results may fluctuate because of a number of factors,
many of which are beyond its control.
If the Company's operating results are below the expectations of public
market analysts or investors, then the market price of its Common Stock could
decline. Some of the factors that affect or may affect the Company's quarterly
and annual results, but which are difficult for the Company to control or
predict are:
- - the volume and timing of orders received
- - changes in the mix of products sold
- - market acceptance of the Company's products and its customers' products
- - competitive pricing pressures
- - cyclical semiconductor industry conditions
- - dependence on third-party suppliers
- - the ability to introduce new products on a timely basis
- - the timing of new product announcements and introductions by the Company or
its competitors
- - the timing and extent of research and development expenses
- - fluctuations in manufacturing yields
- - the ability to hire and retain key technical and management personnel
- - access to advanced process technologies
- - the timing and extent of new process development costs
Customer demand for the Company's products is volatile and difficult to
predict.
The Company's customers continuously adjust their inventories in response to
changes in end market demand for their products and the availability of
semiconductor components. This results in frequent changes in demand for the
Company's products. The volatility of customer demand limits the Company's
ability to predict future levels of sales and profitability. The supply of
semiconductors can quickly and unexpectedly match or exceed demand because end
customer demand can change very quickly. Also, semiconductor suppliers can
rapidly increase production output. This can lead to a sudden oversupply
situation and a subsequent reduction in order rates and revenues as customers
adjust their inventories to true demand rates. A rapid and sudden decline in
customer demand for the Company's products can result in excess quantities of
certain of the Company's products relative to demand. Should this occur the
Company's operating results may be adversely affected as a result of charges to
reduce the carrying value of the Company's inventory to the estimated demand
level or market price.
The weakness in the global economy in 2001, 2002, and 2003 has caused the
end markets that the Company's customers serve to grow less rapidly, or in some
cases, contract. The resulting uncertainty of demand has caused most of the
Company's customers to err on the side of caution until they see signs of order
strength for their end products. Many customers are continuing to deplete
inventories in response to short supplier lead times. Semiconductors are
perceived to be readily available and supplier lead times remain near historic
20
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
lows. In this environment, customers are not making large purchase
commitments, only ordering small quantities to fill known short-term
requirements, greatly reducing the Company's visibility into customer demand.
As a result, the Company's revenues are highly dependent upon turns fill orders
(orders booked and shipped in the same quarter). The reduced level of order
backlog coupled with the short-term nature of customer demand makes it
extremely difficult to predict near term revenues and profits.
The short lead time environment has allowed many end consumers of the Company's
products to rely on stocking representatives and distributors to carry
inventory to meet short term requirements and minimize their investment in on-
hand inventory. As a result the Company may carry a higher level of inventory
at some of its stocking representatives and distributors to service the
volatile short-term demand of the end customer. Should the relationship with a
distributor or stocking representative be terminated, future level of product
returns could be higher than the returns allowance established, which could
negatively affect the Company's revenues and results of operations.
The semiconductor industry is highly competitive.
The semiconductor industry is highly competitive and subject to rapid
technological change, price-erosion and increased international competition.
Significant competitive factors include:
- - product features
- - performance
- - price
- - timing of product introductions
- - emergence of new computer and communications standards
- - quality and customer support
In times when economic growth and customer demand is less certain, such as
the semiconductor industry is now experiencing, price competition becomes more
prevalent. Both the semiconductor industry and the Company have experienced
significant price erosion since the beginning of 2001. If this price erosion
continues, it will have the effect of reducing revenue levels and gross margins
in future periods.
Because the standard products market for integrated circuits is diverse and
highly fragmented, the Company encounters different competitors in various
market areas. Most of these competitors have substantially greater technical,
financial and marketing resources and greater name recognition than the
Company. Increased competition could adversely affect the Company's financial
condition or results of operations. There can be no assurance that the Company
will be able to compete successfully in either the standard products or custom
and foundry products business in the future or that competitive pressures will
not adversely affect the Company's financial condition, results of operations,
or cash flows.
The Company's product offering, while diversified, is highly dependent on
certain select end markets.
The Company currently sells a significant portion of its products in the
high-speed communications, computer, networking and wireless handset markets.
These markets are characterized by short product life cycles, rapidly changing
customer demand, evolving and competing industry standards and seasonal demand
trends. Additionally, there can be no assurance that these markets will
continue to grow. If the markets for high speed communications, computers,
networking or wireless handsets that the Company serves fail to grow, or grow
more slowly than it currently anticipates, or if there is increased competition
in these markets, the Company's business, results of operations and financial
condition could be adversely affected.
An important part of the Company's strategy is to continue to focus on the
market for high-speed communications integrated circuits. If the severe
downturn in the telecommunications infrastructure industry continues, resulting
in lack of demand for the Company's high bandwidth products, the Company's
future revenue growth and profitability could be adversely affected.
21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
The Company's Ethernet products have become an important portion of the
Company's revenues. If the Company fails to develop new products to serve this
market in a timely manner, or if the market acceptance of the Company's new
Ethernet products is poor, if a competitor's products unfavorably affect
pricing or demand for the Company's products, the Company's revenues and
results of operations could be adversely affected.
The Company currently derives the majority of its product revenues from
sales of standard analog and mixed-signal integrated circuits and expects these
products to continue to account for the majority of its revenues for the
foreseeable future. As a result, factors adversely affecting the pricing of or
demand for standard analog integrated and mixed-signal circuits, such as
competition, product performance or technological change, could have a material
adverse effect on the Company's business and consolidated results of operations
and financial condition.
The markets that the Company serves frequently undergo transitions in which
products rapidly incorporate new features and performance standards on an
industry-wide basis. If the Company's products are unable to support the new
features or performance levels required by OEMs in these markets, it would
likely lose business from existing or potential customers and would not have
the opportunity to compete for new design wins until the next product
transition. If the Company fails to develop products with required features or
performance standards, or experiences even a short delay in bringing a new
product to market, or if its customers fail to achieve market acceptance of
their products, its revenues could be significantly reduced for a substantial
period of time.
The cost reduction actions the Company has initiated may not materialize as
expected, or be sustainable as business improves.
The Company has implemented or initiated a variety of cost reduction
actions. The expected future cost savings from these programs may not
materialize as anticipated resulting in a smaller benefit to the Company's
financial results of operations. Furthermore, when customer demand improves
and revenues increase, it is unclear whether Micrel will continue to benefit
from all of the cost reduction actions that have been implemented.
Dependence on third-party manufacturing and supply relationships increases the
risk that the Company will not have an adequate supply of products to meet
demand or that its cost of materials will be higher than expected.
The Company faces many risks associated with its dependence upon third
parties that manufacture, assemble or package certain of its products. These
risks include:
- - reduced control over delivery schedules and quality
- - risks of inadequate manufacturing yields and excessive costs
- - the potential lack of adequate capacity during periods of excess demand
- - difficulties selecting and integrating new subcontractors
- - limited warranties on wafers or products supplied to the Company
- - potential increases in prices
- - potential misappropriation of the Company's intellectual property
Any of these risks may lead to increased costs or delay delivery of the
Company's products, which would harm its profitability and customer
relationships.
Additionally, the Company's wafer and product requirements typically
represent a relatively small portion of the total production of the third-party
foundries and outside assembly, testing and packaging contractors. As a
result, Micrel is subject to the risk that a foundry will provide delivery or
capacity priority to other larger customers at the expense of Micrel, resulting
in an inadequate supply to meet customer demand or higher costs to obtain the
necessary product supply. Also, there is a risk that a third party
manufacturer will cease production on an older or lower volume process that it
uses to produce the Company's products. The Company cannot be certain that its
outside manufacturers will continue to devote resources to the production of
its products or continue to advance the process design technologies on which
the manufacturing of its products are based. Each of these events could
increase the Company's costs and harm its ability to deliver its products on
time.
22
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Market conditions may lead the Company to initiate additional cost reduction
plans, which may negatively affect near term operating results.
As a result of weak customer demand, competitive pricing pressures, excess
capacity, weak economic conditions or other factors, the Company may decide to
initiate additional actions to reduce the Company's cost structure and improve
the Company's future operating results. The cost reduction actions may require
incremental costs to implement, which could negatively affect the Company's
operating results in periods when the incremental costs or liabilities are
incurred.
The Company encounters risks associated with its international operations,
including geopolitical risks.
Reduced levels of economic activity, or disruptions of international
transportation, could adversely affect the Company's sales on either a global
basis or in specific geographic regions. Three of the Company's top ten direct
customers are located in South Korea. In the event that current political
tensions surrounding North Korea evolve into military or social conflict, the
Company's revenues, results of operations, cash flow and financial condition
could be adversely affected.
The Company has generated a substantial portion of its net revenues from
export sales. The Company believes that a substantial portion of its future
net revenues will depend on export sales to customers in international markets,
including Asia. International markets are subject to a variety of risks,
including changes in policy by foreign governments, social conditions such as
civil unrest, economic conditions including high levels of inflation,
fluctuation in the value of foreign currencies and currency exchange rates and
trade restrictions or prohibitions. In addition, the Company sells to domestic
customers that do business worldwide and cannot predict how the businesses of
these customers may be affected by economic or political conditions in Asia or
elsewhere in the world. Such factors could adversely affect the Company's
future revenues, financial condition, results of operations or cash flows.
The Company is reliant on certain key suppliers for wafer fabrication,
circuit assembly and testing services. Most of these suppliers are based
outside of the U.S. The Company's supply could be interrupted as a result of
any of the previously mentioned risk factors relating to international markets.
The Company's international sales are denominated in U.S. currency.
Consequently, changes in exchange rates that strengthen the U.S. dollar could
increase the price of the Company's products in the local currencies of the
foreign markets it serves. This would result in making the Company's products
relatively more expensive than its competitors' products that are denominated
in local currencies, leading to a reduction in sales or profitability in those
foreign markets. The Company has not taken any protective measures against
exchange rate fluctuations, such as purchasing hedging instruments.
The Company's gross margin is dependent upon a number of factors, including the
level of capacity utilization.
Semiconductor manufacturing is a capital-intensive business resulting in
high fixed costs. If the Company is unable to utilize its installed wafer
fabrication or test capacity at a high level, the costs associated with these
facilities and equipment would not be fully absorbed, resulting in higher
average unit costs and lower sales margins. The level of new customer order
rates over the past two years has resulted in lower capacity utilization of the
Company's factories as it has attempted to match production with anticipated
customer demand. The Company's gross margins have declined as a result of this
reduced utilization of production capacity. Gross margins may deteriorate
further should production activity be curtailed in response to lower customer
demand in the future.
23
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
The Company is subject to the risk of litigation and regulatory action in
connection with the restatement of its financial statements, and the potential
liability from any such litigation or regulatory action could harm its
business.
On January 28, 2002, the Company announced that it would restate its
consolidated financial statements for the fiscal years ended December 31, 1998,
1999, and 2000, and the fiscal quarters ended March 31, 2001, June 30, 2001,
and September 30, 2001. As a result of this restatement, the Company could
become subject to litigation or regulatory proceedings, or both. As of the
date hereof, the Company is not aware of any litigation having been commenced
against it related to this restatement. However, such litigation could be
commenced against the Company in the future and, if so, the Company cannot
predict the outcome of any such action at this time. However, if an
unfavorable result occurred in any such action, the Company's business and
financial condition could be harmed. In addition, regulatory agencies, such as
the Securities and Exchange Commission, could commence a formal investigation
of the Company's restatement. At this time management cannot predict whether
or not any regulatory investigation related to the restatement will be
commenced or, if it is, the outcome of any such investigation. However, if any
such investigation were to result in a regulatory proceeding or action against
the Company, its business and financial condition could be harmed. The
restatement also involves certain tax issues that need to be resolved with the
appropriate taxing authorities. The Company has recorded a liability in its
financial statements with respect to these tax issues. The Company cannot
predict the results of its discussions with the appropriate tax authorities
regarding the tax implications of its restatement and accordingly, the amount
of actual financial impact may differ from the amount recorded in the Company's
financial statements.
The Company may not be able to protect its intellectual property adequately, or
could be harmed by litigation involving its patents and proprietary rights.
The Company's future success depends in part upon its intellectual property,
including patents, trade secrets, know-how and continuing technology
innovation. There can be no assurance that the steps taken by the Company to
protect its intellectual property will be adequate to prevent misappropriation
or that others will not develop competitive technologies or products. There
can be no assurance that any patent owned by the Company will not be
invalidated, circumvented or challenged, that the rights granted thereunder
will provide competitive advantages or that any of its pending or future patent
applications will be issued with the scope of the claims sought, if at all.
Furthermore, there can be no assurance that others will not develop
technologies that are similar or superior to the Company's technology,
duplicate technology or design around the patents owned by the Company.
Additionally, the semiconductor industry is characterized by recurrent
litigation regarding patent and other intellectual property rights. There can
be no assurance that existing claims or any other assertions or claims for
indemnity resulting from infringement claims will not adversely affect the
Company's business, financial condition, results of operations, or cash flows.
The Company's operating results substantially depend on manufacturing output
and yields, which may not meet expectations.
The Company manufactures most of its semiconductors at its San Jose,
California fabrication facilities. Manufacturing semiconductors requires
manufacturing tools that are unique to each product being produced. If one of
these unique manufacturing tools was damaged or destroyed, the Company's
ability to manufacture the related product would be impaired and its business
would suffer until the tool was repaired or replaced. Additionally, the
fabrication of integrated circuits is a highly complex and precise process.
Small impurities, contaminants in the manufacturing environment, difficulties
in the fabrication process, defects in the masks used to print circuits on a
wafer, manufacturing equipment failures, wafer breakage or other factors can
cause a substantial percentage of wafers to be rejected or numerous die on each
wafer to be nonfunctional.
24
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
The Company's future success depends in part on the continued service of its
key design engineering, sales, marketing and executive personnel and its
ability to identify, hire and retain additional personnel.
There is intense competition for qualified personnel in the semiconductor
industry, in particular design engineers, and the Company may not be able to
continue to attract and train engineers or other qualified personnel necessary
for the development of its business or to replace engineers or other qualified
personnel who may leave its employ in the future. Loss of the services of, or
failure to recruit, key design engineers or other technical and management
personnel could be significantly detrimental to the Company's product and
process development programs.
The Company faces risks associated with acquisitions it has completed and will
face risks associated with any future acquisitions.
The Company has made acquisitions in the past and may make acquisitions in
the future. The risks involved with acquisitions include:
- - diversion of management's attention
- - failure to retain key personnel
- - amortization of acquired intangible assets
- - customer dissatisfaction or performance problems with the acquired company
- - the cost associated with acquisitions and the integration of acquired
operations
- - assumption of unknown liabilities
Any of these risks could materially harm the Company's business, financial
condition and results of operations. Additionally, any acquisition involves a
significant amount of integration of two companies that have previously
operated independently. No assurance can be given that difficulties will not
be encountered in integrating certain products, technologies or operations of
the acquired companies or that the benefits expected from such integration will
be realized. There can be no assurance that any of the acquired companies will
retain its key personnel, that the engineering teams of Micrel and the acquired
companies will successfully cooperate and realize any technological benefits or
that Micrel or the acquired companies will realize any of the other anticipated
benefits of the acquisitions. In addition, the consummation of an acquisition
could result in the cancellation, termination or non-renewal of arrangements
with the acquired company by suppliers, distributors or customers, or the
termination of negotiations or delays in ordering by prospective customers as a
result of uncertainties that may be perceived as a result of the acquisition.
Any significant amount of cancellations, terminations, delays or non-renewals
of arrangements with the acquired company or loss of key employees or
termination of negotiations or delays in ordering could have a material adverse
effect on the business, operating results or financial condition of the
acquired company and Micrel after the acquisition.
In addition, some of the past acquisitions have been accounted for using the
pooling-of-interests method of accounting which means the acquisitions are
subject to rules established by the Financial Accounting Standards Board and
the Securities and Exchange Commission. These rules are complex and the
interpretation of them is subject to change. Additionally, the availability of
pooling of interests accounting treatment for a business combination depends in
part upon circumstances and events occurring after the acquisition. The
failure of a past business combination that has been accounted for under the
pooling of interests accounting method to qualify for this accounting treatment
would materially harm the Company's reported and future earnings and likely,
the price of its Common Stock.
The Company's ability to manufacture sufficient wafers to meet demand could be
severely hampered by natural disasters.
The Company's existing wafer fabrication facility is located in Northern
California and this facility may be subject to natural disasters such as
earthquakes. A significant natural disaster, such as an earthquake or prolonged
drought, could have a material adverse impact on the Company's business,
financial condition and operating results.
25
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
The Company's business could be adversely affected by electrical power or
natural gas supply interruptions.
The majority of the Company's administrative, technical and manufacturing
facilities are located in Northern California and these facilities may be
subject to electrical power or natural gas supply interruptions. In recent
months, electrical power suppliers have experienced shortages in electrical
power, which has resulted in brief electrical power interruptions. The weak
financial condition of California's Public Utilities may aggravate the
situation and shortages may develop for natural gas. Semiconductor
manufacturing depends upon a controlled environment that requires high usage of
electrical power and natural gas. Frequent or extended electrical power
interruptions could have a negative impact on production output, manufacturing
yields, and manufacturing efficiencies and could have a material adverse impact
on the Company's business, financial condition and operating results.
The Company could incur substantial fines or litigation costs associated with
its storage, use and disposal of hazardous materials.
The Company is subject to a variety of federal, state and local governmental
regulations related to the use, storage, discharge and disposal of toxic,
volatile or otherwise hazardous chemicals used in it's manufacturing process.
Any failure to comply with present or future regulations could result in the
imposition of fines, the suspension of production, alteration of the Company's
manufacturing processes or a cessation of operations. In addition, these
regulations could restrict the Company's ability to expand it's facilities at
their present locations or construct or operate a new wafer fabrication
facility or could require us to acquire costly equipment or incur other
significant expenses to comply with environmental regulations or clean up prior
discharges. The Company's failure to appropriately control the use of, disposal
or storage of, or adequately restrict the discharge of, hazardous substances
could subject it to future liabilities and could have a material adverse effect
on its business.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's market risk disclosures set forth in the Company's 2002 Form 10-
K for the year ended December 31, 2002 have not changed significantly during
the nine months ended September 30, 2003.
ITEM 4: CONTROLS AND PROCEDURES
The Company maintains disclosure controls and procedures that are designed to
ensure that information required to be disclosed in the Company's reports
under the Securities Exchange Act of 1934 is recorded, processed, summarized
and reported within the time periods specified in the rules and forms of the
Securities and Exchange Commission, and that such information is accumulated
and communicated to the Company's management, including its chief executive
officer and chief financial officer, as appropriate, to allow timely decisions
regarding required disclosure. In designing and evaluating the disclosure
controls and procedures, management recognizes that any controls and
procedures, no matter how well designed and operated, can provide only
reasonable assurance of achieving the desired control objectives, and
management necessarily is required to apply its judgment in evaluating the
cost-benefit relationship of possible controls and procedures.
As required by Securities and Exchange Commission Rule 13a-15(b), the Company
carried out an evaluation, under the supervision and with the participation of
the Company's management, including the Company's chief executive officer and
chief financial officer, of the effectiveness of the design and operation of
the Company's disclosure controls and procedures as of the end of the quarter
covered by this report. Based on the foregoing, the Company's chief executive
officer and chief financial officer concluded that the Company's disclosure
controls and procedures appear to be effective at the reasonable assurance
level.
There has been no change in the Company's internal controls over financial
reporting during the Company's most recent fiscal quarter that has materially
affected, or is reasonably likely to materially affect, the Company's internal
controls over financial reporting.
26
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The information included in Note 8 of Notes to Condensed Consolidated
Financial Statements under the caption "Litigation and Other Contingencies" in
Item 1 of Part I is incorporated herein by reference.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(a) None.
(b) Dividend Payment Restrictions
The Company has entered into borrowing agreements that contain restrictions on
the declaration and payment of dividends without the lender's consent. In
addition, the Company currently intends to retain future earnings to fund
operations, and does not anticipate paying dividends on its common stock in the
foreseeable future.
(c) None.
(d) Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits.
Exhibit No. Description
----------- -----------
31 Certifications of the Company's Chief Executive Officer
and Chief Financial Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
32 Certifications of the Company's Chief Executive Officer
and Chief Financial Officer pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002
(b) Reports on Form 8-K. During the three months ended September 30,
2003, the Company furnished a Current Report on Form 8-K, on July 2,
2003, announcing its revised outlook for the quarter ending June 30,
2003. In addition, on July 23, 2003, the Company furnished a Current
Report on Form 8-K announcing its results of operations for the
quarter ended June 30, 2003.
27
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MICREL, INCORPORATED
--------------------
(Registrant)
Date: November 13, 2003 By /s/ Richard D. Crowley, Jr.
-----------------------------
Richard D. Crowley, Jr.
Vice President, Finance and
Chief Financial Officer
(Authorized Officer and
Principal Financial Officer)
28