UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2004.
[ ] 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 (I.R.S. Employer
of 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
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock, no
par value
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
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 February 28, 2005, the aggregate market value of the voting stock held
by non-affiliates of the Registrant was approximately $$837,252,602 based upon
the closing sales price of the Common Stock as reported on the Nasdaq National
Market on such date. Shares of Common Stock held by officers, directors and
holders of more than ten percent of the outstanding Common Stock have been
excluded from this calculation because such persons may be deemed to be
affiliates. The determination of affiliate status is not necessarily a
conclusive determination for other purposes.
As of February 28, 2005, the Registrant had outstanding 88,962,610 shares of
Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE:
Portions of the Registrant's Proxy Statement for its Annual Meeting of
Shareholders to be held on May 26, 2005 are incorporated by reference in
Part III of this Report.
This Report on Form 10-K includes 76 pages with the Index to Exhibits located
on page 71.
MICREL, INCORPORATED
INDEX TO
ANNUAL REPORT ON FORM 10-K
FOR YEAR ENDED DECEMBER 31, 2004
Page
PART I
Item 1. Business 3
Item 2. Properties 12
Item 3. Legal Proceedings 13
Item 4. Submission of Matters to a Vote of Security Holders 13
PART II
Item 5. Market for the Registrant's Common Equity, Related Shareholder
Matters and Issuer Purchases of Equity Securities 13
Item 6. Selected Financial Data 15
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations 16
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 34
Item 8. Financial Statements and Supplementary Data 34
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 34
Item 9A. Controls and Procedures 34
Item 9B. Other Information 35
PART III
Item 10. Directors and Executive Officers of the Registrant 36
Item 11. Executive Compensation 36
Item 12. Security Ownership of Certain Beneficial Owners and Management
and Related Shareholder Matters 36
Item 13. Certain Relationships and Related Transactions 36
Item 14. Principal Accountant Fees and Services 37
Item 15. Exhibits and Financial Statement Schedules 37
Signatures 70
Exhibit Index 71
Certifications 73
2
PART I
ITEM 1. BUSINESS
General
The Company was incorporated in California in July 1978. References to the
"Company" and "Micrel" refer to Micrel, Incorporated and subsidiaries, which
also does business as Micrel Semiconductor. The Company's principal executive
offices are located at 2180 Fortune Drive, San Jose, California 95131. The
Company's telephone number is (408) 944-0800. We maintain a corporate website
located at www.micrel.com. Our annual reports on Form 10-K, quarterly reports
on Form 10-Q, current reports on Form 8-K, and amendments to those reports are
made available, free of charge, on the website noted above as soon as
reasonably practicable after filing with or furnished to the Securities and
Exchange Commission.
Micrel designs, develops, manufactures and markets a range of high-
performance analog power integrated circuits ("ICs"), mixed-signal and digital
ICs. The Company currently ships over 2,500 standard products and has derived
the majority of its product revenue for the year ended December 31, 2004 from
sales of standard analog and high speed communications ICs. These products
address a wide range of end markets including cellular handsets, portable
computing, enterprise and home networking, wide area and metropolitan area
networks and industrial equipment. For the years ended December 31, 2004,
2003, and 2002, the Company's standard products accounted for 96%, 90%, and
88%, respectively, of the Company's net revenues. The Company also
manufactures custom analog and mixed-signal circuits and provides wafer
foundry services for customers who produce electronic systems for
communications, consumer and military applications.
Micrel develops and manufactures high performance power management analog
products which are characterized by high speed, low noise and maximum
efficiency in the smallest package. Continuing trends to lower voltages and
higher currents in the communications, networking and computing markets have
created demand for high performance analog products to accurately control,
regulate, convert and route voltage and current in electronic systems. The
demand for high performance power management circuits has been further fueled
by the growth of portable communications and computing devices (e.g. cellular
telephones, personal digital assistants ("PDA"), MP3 players and notebook
computers). The Company also has an extensive power management offering for
the networking and communications infrastructure markets including single-
board and enterprise servers, network switches and routers, storage area
networks and wireless base stations. In addition, the Company offers standard
analog products that address other markets, including industrial, defense and
automotive electronics.
In addition to power and thermal management products, Micrel also offers
two families of highly integrated radio frequency ("RF") products. Micrel's
QwikRadio(r) devices enable customers to develop wireless control systems
significantly improving the consumer experience of their products.
Applications for the QwikRadio(r) products include remote keyless entry for
automobiles, garage door openers and remote controls.
The Company's high bandwidth communications circuits are used primarily for
enterprise networks, storage area networks, and metropolitan area networks.
With form factor, size reductions, and ease of use critical for system
designs, Micrel utilizes innovative packaging and proprietary process
technology to address these challenges.
In 2001, Micrel acquired Kendin Communications, Inc. ("Kendin"), a
privately held fabless semiconductor company that designs, develops and
3
markets high performance ICs for the communications and networking markets.
This acquisition enabled Micrel to enter the Ethernet market with a family of
Ethernet switch products targeting the small office, home office ("SOHO") and
enterprise networking markets. This product portfolio consists of transceiver
and switch devices that support various Ethernet protocols supporting
communication transmission speeds from 10 Megabits per second to 100 Megabits
per second.
In addition to standard analog and mixed signal products, Micrel offers
customers various combinations of design, process and foundry services.
Industry Background
Analog Circuit, Mixed-Signal and Digital ICs Markets
ICs may be divided into three general categories - digital, analog (also
known as "linear") and mixed-signal. Digital circuits, such as memories and
microprocessors, process information in the form of on-off electronic signals
and are capable of implementing only two values, "1" or "0." Analog circuits,
such as regulators, converters and amplifiers, process information in the form
of continuously varying voltages and currents that have an infinite number of
values or states. Analog circuits condition, process, and measure or control
real world variables such as current, sound, temperature, pressure or speed.
Mixed-signal ICs combine analog and digital functions on one chip.
Analog circuits are used in virtually every electronic system, and the
largest markets for such circuits are computers, telecommunications and data
communications, industrial equipment, military, consumer and automotive
electronics. Because of their numerous applications, analog circuits have a
wide range of operating specifications and functions. For each application,
different users may have unique requirements for circuits with specific
resolution, linearity, speed, power and signal amplitude capability.
Mixed-signal and digital ICs may be divided into six general categories,
LSI/MSI logic, data processing, signal processing, memory, FPGA and
application specific.
Mixed-signal and digital ICs are used in computer and communication systems
and in industrial products. The primary markets for such circuits are
consumer, communications, personal and enterprise computer systems, networking
and industrial.
As compared with the digital integrated circuit industry, the analog
integrated circuit industry has the following important characteristics:
* Dependence on Individual Design Teams. The design of analog circuits
involves the complex and critical placement of various circuits. Analog
circuit design has traditionally been highly dependent on the skills and
experience of individual design engineers.
* Interdependence of Design and Process. Analog designers, especially at
companies having their own wafer fabrication facility, are able to select
from several wafer fabrication processes in order to achieve higher
performance and greater functionality from their designs.
* Longer Product Cycles and More Stable Pricing. Analog circuits generally
have longer product cycles as compared to digital circuits.
4
Analog, mixed-signal and digital ICs are sold to customers as either
standard products or custom products.
Recent Trends in Analog Power Management, Mixed-Signal and Digital ICs
Most electronic systems utilize analog circuits to perform power management
functions ("power analog circuits") such as the control, regulation,
conversion and routing of voltages and current. The computer and
communications markets have emerged as two of the largest markets for power
analog circuits. In particular, the recent growth and proliferation of
portable, battery-powered devices, such as cellular telephones, PDAs and
notebook computers, continue to increase demand and create new technological
challenges for power analog circuits.
Cellular telephones, which are composed of components and subsystems that
utilize several different voltage levels and require multiple power analog
circuits to precisely regulate and control voltage. Manufacturers continue to
pack more processing power and functionality into smaller form factors placing
severe demands on the battery. To maintain or extend talk times, high
performance power management products are required.
The rapid adoption of the Internet for information exchange, in business
and consumer markets, has led to a significant increase in the need for
broadband communications technology. In 2004, there was a significant
expansion in the number of broadband subscribers for both DSL, cable modem and
fiber to the home technologies. The increased bandwidth demand of these users
will continue to consume the installed capacity in the metropolitan and wide
area networks. The additional demand of new wireless services utilizing the
transmission of video will further consume this installed capacity. It is
anticipated these trends will continue in 2005.
In the networking market, Ethernet has been widely adopted as a
communication standard. Ethernet ports are now being provided on equipment
ranging from PCs and PC peripherals such as printers, media converters, set-
top boxes, internet protocol ("IP") phones and game consoles. This is driving
rapid growth in the SOHO market to connect multiple PCs and peripherals.
Micrel's Strategy
Micrel seeks to capitalize on the growth opportunities within the high-
performance analog, mixed-signal and digital semiconductor markets. The
Company's core competencies are its analog design and process technology, its
large, in-house wafer fabrication capability and manufacturing expertise. The
Company also seeks to capitalize on growth opportunities within the
communications and networking markets and has successfully acquired companies
serving these market segments. The Company intends to build a leadership
position in its targeted markets by pursuing the following strategies:
* Focus on Standard Products for High Growth Markets. Currently, Micrel ships
over 2,500 standard products, with net revenues from standard products
generating 96% of the Company's net revenues for the year ended December
31, 2004. The Company, however, will pursue additional custom and foundry
business as opportunities arise.
* Target Power Analog, High-Speed Mixed-signal and Digital Markets. Micrel
has leveraged its expertise in power analog circuits by addressing market
opportunities in cellular telephones, battery-powered computers, set-top
boxes and desktop personal computers.
5
* Maintain Technological Leadership. The Company seeks to utilize its design
strengths and its process expertise to enhance what the Company believes
are its competitive advantages in linear and switching regulators, MOSFET
drivers, USB power switches, hot-swap-power controllers, high-speed
interface, and communications devices.
* Develop/Acquire New Complementary Businesses. The Company seeks to identify
complementary business opportunities building on its core strengths in the
analog and mixed signal area.
* Capitalize on In-house Wafer Fabrication Facility. The Company believes
that its in-house six-inch wafer fabrication facility provides a
significant competitive advantage because it facilitates close
collaboration between design and process engineers in the development of
the Company's products.
* Maintain a Strategic Level of Custom and Foundry Products Revenue. Micrel
believes that its custom and foundry products business complements its
standard products business by generating a broader revenue base and
lowering overall per unit manufacturing costs through greater utilization
of its manufacturing facilities.
Products and Markets
Overview
The following table sets forth the net revenues attributable to the
Company's two segments, standard products and custom and foundry products
expressed in dollars and as a percentage of total net revenues.
Net Revenues by Segment
(Dollars in thousands)
Years Ended December 31,
---------------------------------
2004 2003 2002
--------- --------- ---------
Net Revenues:
Standard Products $ 246,580 $ 191,134 $ 180,407
Custom and Foundry Products 10,971 20,592 24,297
--------- --------- ---------
Total net revenues $ 257,551 $ 211,726 $ 204,704
========= ========= =========
As a Percentage of Total Net Revenues:
Standard Products 96% 90% 88%
Custom and Foundry Products 4 10 12
--------- --------- ---------
Total net revenues 100% 100% 100%
========= ========= =========
The Company's products address a wide range of end markets. The following
table presents the Company's revenues by end market as a percentage of total
net revenues.
Years Ended December 31,
---------------------------------
2004 2003 2002
--------- --------- ---------
As a Percentage of Total Net Revenues:
High-Speed Communications 24% 24% 27%
Wireless Handsets 25 21 17
Computer 23 29 34
Industrial 25 24 19
Military & Consumer 3 2 3
--------- --------- ---------
Total net revenues 100% 100% 100%
========= ========= =========
6
For a discussion of the changes in net revenues from period to period, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Standard Products
In recent years, the Company has directed a majority of its development,
sales and marketing efforts towards standard products in an effort to address
the larger markets for these products and to expand its customer base. The
Company offers a broad range of high performance analog, mixed signal, and
digital ICs that address high growth markets including cellular telephones,
portable computers, set-top boxes, desktop personal computers, networking and
communications. The majority of the Company's revenue is derived from power
management standard products that, in addition to the above markets, are also
used in the industrial, defense, and automotive electronics markets.
Portable Battery-Powered Computer Market. The Company makes power analog
circuits for notebook computers, pocket PCs, and PDAs. Products in this
growing market are differentiated on the basis of power efficiency, weight,
small size and battery life.
Cellular Telephone Market. Micrel offers a range of power control and
regulating analog circuits to address the demand for cellular telephones with
longer battery lives. Micrel supplies high performance low dropout ("LDO")
regulators and higher efficiency switching regulators that convert, regulate,
switch and control the DC voltages used in cellular telephones. In addition,
Micrel offers switch mode power supply ("SMPS") regulators that convert AC to
useable DC power in battery chargers and cellular base stations.
Universal Serial Bus Market. USB has become the standard way of connecting
computers with computer peripherals. In addition to implementing data
communications between the connected devices, USB also provides a power source
capable of powering the peripheral.
PCMCIA Card and Socket Markets. Micrel has been a leader in the design and
manufacture of ICs for power control in PCMCIA and CardBus sockets and is
involved in the creation of next generation PC card standards, including
Express Card.
Power Supply Market. Most electronic equipment includes a power supply that
converts and regulates the electrical power source into usable current for the
equipment. Micrel has several families of high voltage switching controllers
for the networking, telecommunications and computing markets. These devices
offer high efficiency to minimize power loss through heat, and high switching
frequencies to provide a minimal solution size. In addition to SMPS
controllers and single chip SMPS regulators, Micrel offers a full line of
MOSFET drivers, smart switches, voltage supervisors and LDOs.
General Purpose Analog. Micrel sells a variety of general purpose analog
products including high-speed operational amplifiers, low-power operational
amplifiers, comparators and intelligent protected power switches. Most of
these general purpose devices focus on low-voltage and low-current
applications.
Thermal Management. Micrel's thermal management products address the need
to accurately measure temperature in several system locations and control
cooling fans. Applications for these products include notebook computers,
servers, enterprise storage, printers, copiers and set-top boxes.
Hot Swap Power Controllers. Micrel's hot swap power controllers support the
requirement for 24/7 operation in high-performance enterprise servers,
7
enterprise storage, and telecommunication infrastructure equipment. These
products allow customers to upgrade or replace system boards without having to
power down the system. This portfolio offers the industry's most integrated ,
dual-slot hot swap solutions for CompactPCI(tm), PCI-X, and PCI Express
applications. The Company also offers other low-voltage and high-voltage (+/-
48V) controllers for the telecommunications and networking equipment markets.
Radio Frequency Data Communications. Micrel's QwikRadio(r) family of RF
receivers and transmitters are designed for use in any system requiring a
cost-effective, low-data-rate wireless link. Typical examples include garage
door openers, lighting and fan controls, automotive keyless entry and remote
controls. Micrel's RadioWire(r) transceivers provide a higher level of
performance for more demanding applications such as remote metering, security
systems and factory automation.
Networking and High-Speed Communications Circuits Market. The Company's
High Bandwidth division develops and produces communications products targeted
at fiber optic modules as well as clock recovery, clock distribution and level
translation circuits.
Micrel's Ethernet division offers a broad range of physical layer ("PHY"),
media access controllers ("MAC") and switch products for the 10/100 Megabit
Ethernet standard. The primary applications for the switch products are SOHO
computer networks, Voice Over Internet Protocol ("VOIP") phones and media
converters, used to convert signals transmitted optically over fiber to
standard cable (copper) and vice versa.
The Company's future success will depend in part upon the timely
completion, introduction, and market acceptance of new standard products. The
standard products business is characterized by generally shorter product
lifecycles, greater pricing pressure, larger competitors and more rapid
technological change as compared to the Company's custom and foundry products
business.
Custom and Foundry Products
Micrel offers various combinations of design, process and foundry services
in order to provide customers with the following alternatives:
Full Service Custom. Based on a customer's specification, Micrel designs
and then manufactures ICs.
Custom and Semicustom. Based on a customer's high level or partial circuit
design, Micrel uses varying combinations of its design and process
technologies to complete the design and then manufactures ICs for the
customer.
R&D Foundry. Micrel modifies a process or develops a new process for a
customer. Using that process and mask sets provided by the customer, Micrel
manufactures fabricated wafers for the customer.
Foundry. Micrel duplicates a customer's process to manufacture fabricated
wafers designed by the customer.
Micrel's full service custom, custom and semicustom products primarily
address high bandwidth communications, consumer, automotive and military
applications and use both analog and digital technologies. Military
applications include communications and transport aircraft.
8
Sales, Distribution and Marketing
The Company sells its products through a worldwide network of independent
sales representative, independent distributor and stocking representative
firms and through a direct sales staff.
The Company sells its products in Europe through a direct sales staff in
England and France as well as independent sales representative firms,
independent distributors and independent stocking representative firms. Asian
sales are handled through Micrel sales offices in Korea, Japan, Taiwan, China
and Singapore and independent stocking representative firms. The 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.
Sales to customers in North America, Asia and Europe accounted for 24%, 66%
and 10% respectively, of the Company's net revenues for the year ended
December 31, 2004 compared to 30%, 60% and 10%, respectively, of the Company's
net revenues for the year ended December 31, 2003 and 31%, 60% and 9%,
respectively, of the Company's net revenues for 2002. The Company's standard
products are sold throughout the world, while its custom and foundry products
are primarily sold to North American customers. The Company's net revenues by
country, including the United States, are included in Note 12 of Notes to
Consolidated Financial Statements.
The Company's international sales are primarily 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.
Customers
For the year ended December 31, 2004 three customers, an Asian based
original equipment manufacturer, a worldwide distributor and an Asian based
stocking representative, accounted for 13%, 12% and 12%, respectively, of the
Company's net revenues. For the year ended December 31, 2003 two customers, a
worldwide distributor and an Asian based stocking representative, each
accounted for 13% of the Company's net revenues. For the year ended
December 31, 2002 an Asian based stocking representative accounted for 13% of
the Company's net revenues.
Design and Process Technology
Micrel's analog proprietary design technology depends on the skills of its
analog design team. The Company has experienced analog design engineers who
utilize an extensive macro library of analog and mixed-signal circuits and
computer simulation models.
Micrel can produce ICs using a variety of manufacturing processes, some of
which are proprietary and provide enhanced product features. Designers at
companies that do not have in-house fabs or have a limited selection of
available processes often have to compromise design methodology in order to
match process parameters.
9
The Company utilizes the following process technologies:
* Bipolar
* High Speed Bipolar
* SuperBeta PNP(tm)
* CMOS
* BiCMOS - Bipolar/CMOS ("BiCMOS")
* BCD - Bipolar/CMOS/DMOS ("BCD")
* ASSET - All Spacer Separated Element Transistor ("ASSET").
* Silicon Germanium - Silicon Germanium ("SiGe")
The Company continues to develop process technologies to improve both the
performance and cost of its new products. Micrel is also developing new
process technologies to support its own product development and the needs of
its foundry customers.
The Company utilizes third-party wafer fabrication foundries for advanced
CMOS fabrication processes and other advanced processes that are not available
in-house. For the year ended December 31, 2004, 13% of Micrel's wafer
requirements were fabricated at third-party foundry suppliers, which includes
all of Micrel's Ethernet networking products.
Research and Development
The ability of the Company to compete will substantially depend on its
ability to define, design, develop and introduce on a timely basis new
products offering design or technology innovations. Research and development
in the analog and mixed-signal integrated circuit industry is characterized
primarily by circuit design and product engineering that enables new
functionality or improved performance. The Company's research and development
efforts are also directed at its process technologies and focus on cost
reductions to existing manufacturing processes and the development of new
process capabilities to manufacture new products and add new features to
existing products. With respect to more established products, the Company's
research and development efforts also include product redesign, shrinkage of
device size and the reduction of mask steps in order to improve die yields per
wafer and reduce per device costs.
The Company's analog design engineers principally focus on developing next
generation standard products. The Company's new product development strategy
emphasizes a broad line of standard products that are based on customer input
and requests.
The Company's mixed-signal design engineers principally focus in two areas.
The first is high-speed, low-noise media driving and clock/data recovery
devices used in communication and advanced computer systems.
In 2004, 2003, and 2002 the Company spent $41.8 million $47.0 million, and
$53.3 million, respectively, on research and development. The Company expects
that it will continue to spend substantial funds on research and development
activities.
10
Patents and Intellectual Property Protection
The Company seeks patent protection for those inventions and technologies
for which such protection is suitable and is likely to provide a competitive
advantage to the Company. The Company currently holds 124 United States
patents on semiconductor devices and methods, with various expiration dates
through 2023. The Company has applications for 92 United States patents
pending. The Company holds 40 issued foreign patents and has applications for
15 foreign patents pending.
Supply of Materials and Purchased Components
Micrel currently purchases certain components from a limited group of
vendors. The packaging of the Company's products is performed by, and certain
of the raw materials included in such products are obtained from, a limited
group of suppliers. The wafer supply for the Company's Ethernet products is
primarily dependent upon a single large third-party wafer foundry supplier.
The Company has rarely experienced delays in obtaining raw materials which
have adversely affected production.
Manufacturing
The Company produces the majority of its wafers at the Company's wafer
fabrication facility located in San Jose, California while a small percentage
of wafer fabrication is subcontracted to outside foundries, including 100% of
Micrel's Ethernet product wafer requirements. The San Jose facility includes a
57,000 square foot office and manufacturing facility containing a 28,000
square foot clean room facility, which provides production processes. The San
Jose facility is classified as a Class 10 facility, which means that the
facility achieves a clean room level of fewer than 10 foreign particles larger
than 0.5 microns in size in each cubic foot of space. The facility uses six-
inch wafer technology. The Company also owns approximately 63,000 square feet
of additional adjacent space in San Jose that is used as a testing facility.
Generally, each die on the Company's wafers is electrically tested for
performance, and most of the wafers are subsequently sent to independent
assembly and final test contract facilities in Malaysia and certain other
Asian countries. At such facilities, the wafers are separated into individual
circuits and packaged. The Company's reliance on independent assemblers may
subject the Company to longer manufacturing cycle times. The Company from time
to time has experienced competition with respect to these contractors from
other manufacturers seeking assembly of circuits by independent contractors.
Competition
The semiconductor industry is highly competitive and subject to rapid
technological change. Significant competitive factors in the market for
standard products include product features, performance, price, the timing of
product introductions, the emergence of new technological standards, quality
and customer support. The Company believes that it competes favorably in all
of these areas.
Because the standard products market for analog ICs is diverse and highly
fragmented, the Company encounters different competitors in its various market
areas. The Company's principal analog circuit competitors include Linear
Technology Corporation, Maxim Integrated Products, Inc., and National
Semiconductor Corp. in one or more of its product areas. Other competitors
include Texas Instruments, Freescale Semiconductor (formerly Motorola),
Intersil, Fairchild Semiconductor, Semtech and ON Semiconductor. Each of these
11
companies has substantially greater technical, financial and marketing
resources and greater name recognition than the Company. The Company's
principal competitors for products targeted at the high bandwidth
communications market are ON Semiconductor, Analog Devices, Maxim Integrated
Products, Inc., Vitesse Semiconductor Corp., Integrated Circuit Systems, and
Mindspeed. The primary competitors for Micrel's Ethernet products are Broadcom
Corp., Marvell Technology Group Ltd. and a number of Taiwanese companies.
With respect to the custom and foundry products business, significant
competitive factors include product quality and reliability, established
relationships between customers and suppliers, timely delivery of products and
price. The Company believes that it competes favorably in all these areas.
Backlog
At December 31, 2004, the Company's backlog was approximately $27 million,
all of which was scheduled to be shipped during the first six months of 2005.
At December 31, 2003, the Company's backlog was approximately $40 million.
Orders in backlog are subject to cancellation or rescheduling by the customer,
generally with a cancellation charge in the case of custom and foundry
products. The Company's backlog consists of distributor and customer released
orders requesting shipment within the next six months. Shipments to United
States, Canadian and certain other international distributors who receive
significant return rights and price adjustments from the Company are not
recognized as revenue by the Company until the product is sold from the
distributor stock and through to the end-users. Because of possible changes in
product delivery schedules and cancellation of product orders and because an
increasing percentage of the Company's sales are shipped in the same quarter
that the orders are received, the Company's backlog at any particular date is
not necessarily indicative of actual sales for any succeeding period.
Environmental Matters
Federal, state and local regulations impose various environmental controls
on the storage, handling, discharge and disposal of chemicals and gases used
in the Company's manufacturing process. The Company believes that its
activities conform to present environmental regulations.
Employees
As of December 31, 2004, the Company had 877 full-time employees. The
Company's employees are not represented by any collective bargaining
agreements, and the Company has never experienced a work stoppage. The Company
believes that its employee relations are good.
ITEM 2. PROPERTIES
The majority of the Company's manufacturing operations are located in San
Jose, California in a 57,000 square foot facility and an adjacent 63,000
square foot facility which are owned by the Company. The Company fabricates
the majority of its wafers at this location in a 28,000 square foot clean room
facility, which provides all production processes. In addition to wafer
fabrication, the Company also uses this location as a testing facility. The
Company's main executive, administrative, and technical offices are located in
another 57,000 square foot facility in San Jose, California under a lease
agreement that expires in April 2011.
12
Associated with the acquisition of ETC, the company owns a 12,175 square
foot design facility in Huxley, Iowa.
The Company also leases small sales and technical facilities located in
Medford, NJ; Coppell, TX; Seattle, WA; Irvine, CA; Raleigh, NC; Seoul, Korea;
Taipei, Taiwan; Shenzhen, P.R. China; Hong Kong; Tokyo, Japan; Newbury, U.K.;
Livingston, Scotland; Oder, Germany; Oslo, Norway and Courtaboeuf Cedex,
France.
The Company believes that its existing and planned facilities are adequate
for its current manufacturing needs. The Company believes that if it should
need additional space, such space would be available at commercially
reasonable terms.
ITEM 3. LEGAL PROCEEDINGS
The information included in Note 11 of Notes to Consolidated Financial
Statements under the caption "Litigation" in Item 15 of Part III is
incorporated herein by reference.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
In the fourth quarter of 2004, no matters were submitted to a vote of
security holders.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER
MATTERS
The Company did not sell any unregistered securities during the period
covered by this Annual Report on Form 10-K.
The Company's Common Stock is listed on the Nasdaq National Market under the
Symbol "MCRL." The range of daily closing sales prices per share for the
Company's Common Stock from January 1, 2003 to December 31, 2004 was:
Year Ended December 31, 2004: High Low
------- -------
Fourth quarter $ 11.89 $ 9.65
Third quarter $ 10.85 $ 8.40
Second quarter $ 14.77 $ 11.99
First quarter $ 19.20 $ 12.51
Year Ended December 31, 2003: High Low
------- -------
Fourth quarter $ 18.02 $ 12.75
Third quarter $ 14.44 $ 9.54
Second quarter $ 12.55 $ 8.06
First quarter $ 11.12 $ 8.02
The reported last sale price of the Company's Common Stock on the Nasdaq
National Market on December 31, 2004 was $11.02. The approximate number of
holders of record of the shares of the Company's Common Stock was 570 as of
February 28, 2005. This number does not include shareholders whose shares are
held in trust by other entities. The actual number of shareholders is greater
than this number of holders of record. The Company estimates that the number of
13
beneficial shareholders of the shares of the Company's Common Stock as of
February 28, 2005 was approximately 7,000.
The Company has authorized Common Stock, no par value and Preferred Stock,
no par value. The Company has not issued any Preferred Stock.
The information required by this item regarding securities authorized for
issuance under equity compensation plans is incorporated by reference to the
information set forth in Item 12 of the Annual Report on Form 10-K.
Dividend Policy
The Company has not paid any cash dividends on its capital stock. The
Company currently intends to retain its earnings to fund the development and
growth of its business and, therefore, does not anticipate paying any cash
dividends in the foreseeable future. In addition, the Company's existing
credit facilities prohibit the payment of cash or stock dividends on the
Company's capital stock without the lender's prior written consent. See
Item 7 - "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Liquidity and Capital Resources" and Note 6 of Notes
to Consolidated Financial Statements contained in Item 8.
Issuer Purchases of Equity Securities
Maximum Dollar
Total Number of Value of Shares
Total Shares Purchased that May Yet be
Number Average as Part of Repurchased Under
of Shares Price Paid Publicly Announced the Plans or
Period Purchased Per Share Plans or Programs Programs ($000)
- ----------------- --------- ---------- ------------------ -----------------
January 2004 42,550 $ 16.70 42,550 $ 8,670
February 2004 75,350 $ 15.91 75,350 $ 7,471
March 2004 167,150 $ 13.75 167,150 $ 20,792
April 2004 138,850 $ 13.11 138,850 $ 18,972
May 2004 96,600 $ 12.83 96,600 $ 17,733
June 2004 482,600 $ 13.03 482,600 $ 11,447
July 2004 501,600 $ 10.31 501,600 $ 6,274
August 2004 581,100 $ 9.44 581,100 $ 50,790
September 2004 476,100 $ 10.11 476,100 $ 45,976
October 2004 444,900 $ 10.15 444,900 $ 41,462
November 2004 249,800 $ 10.25 249,800 $ 38,653
December 2004 281,400 $ 10.81 281,400 $ 35,612
--------- ------- ---------
Total 3,538,000 $ 11.13 3,538,000
========= ======= =========
In February 2002, the Company's Board of Directors approved a plan to
repurchase shares of the Company's common stock in the open market. 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) plan. In August,
2004 the Board of Directors amended the repurchase program and authorized the
repurchase of common stock up to a maximum value of $75 million during the
period from January 1, 2004 through June 30, 2005. In March of 2005 the Board
of Directors approved a $75 million share repurchase program for calendar year
2005. The action supercedes the Company's previously approved authorization
to repurchase Micrel common stock announced on August 30, 2004.
14
ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated financial data below should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results
of Operations" and our consolidated financial statements and related notes
thereto.
Years Ended December 31,
------------------------------------------------
2004(1) 2003 2002(2) 2001(3) 2000
-------- -------- -------- -------- --------
Income Statement Data:
(in thousands, except per
share amounts)
Net revenues $257,551 $211,726 $204,704 $217,808 $346,335
Cost of revenues* 134,854 128,007 139,554 126,242 149,083
-------- -------- -------- -------- --------
Gross profit 122,697 83,719 65,150 91,566 197,252
-------- -------- -------- -------- --------
Operating expenses:
Research and development 41,750 46,953 53,308 51,306 42,201
Selling, general and
administrative 37,327 28,987 32,160 32,862 45,319
Amortization of deferred
stock compensation* 1,986 3,034 22,535 9,572 6,060
Manufacturing facility
impairment -- (624) 23,357 -- --
Restructuring expense 584 286 5,536 -- --
Acquisition expenses* -- -- -- 8,894 --
Purchased in-process
technology 303 -- -- -- --
-------- -------- -------- -------- --------
Total operating expenses 81,950 78,636 136,896 102,634 93,580
-------- -------- -------- -------- --------
Income (loss) from operations 40,747 5,083 (71,746) (11,068) 103,672
Other income, net 1,712 619 1,056 6,086 4,739
-------- -------- -------- -------- --------
Income (loss) before
income taxes 42,459 5,702 (70,690) (4,982) 108,411
Provision (benefit) for
income taxes 11,206 855 (29,690) (5,534) 35,104
-------- -------- -------- -------- --------
Net income (loss) $ 31,253 $ 4,847 $(41,000) $ 552 $ 73,307
======== ======== ======== ======== ========
Net income (loss) per share:
Basic $ 0.34 $ 0.05 $ (0.44) $ 0.01 $ 0.82
======== ======== ======== ======== ========
Diluted $ 0.34 $ 0.05 $ (0.44) $ 0.01 $ 0.75
======== ======== ======== ======== ========
Shares used in computing
per share amounts:
Basic 91,498 92,215 92,600 91,888 89,242
======== ======== ======== ======== ========
Diluted 93,083 93,786 92,600 98,092 98,186
======== ======== ======== ======== ========
*Amortization of deferred stock
compensation related to:
Cost of revenues $ 535 $ 1,104 $ 7,354 $ 3,141 $ 2,202
======== ======== ======== ======== ========
Operating expenses:
Research and development $ 723 $ 1,604 $ 11,430 $ 5,047 $ 3,347
Selling, general and
administrative 1,263 1,430 11,105 4,525 2,713
Amortization of deferred
stock compensation 1,986 3,034 22,535 9,572 6,060
Acquisition expenses -- -- -- 2,007 --
-------- -------- -------- -------- --------
Total operating expenses $ 1,986 $ 3,034 $ 22,535 $ 11,579 $ 6,060
======== ======== ======== ======== ========
December 31,
------------------------------------------------
2004 2003 2002 2001 2000
-------- -------- -------- -------- --------
(in thousands)
Balance Sheet Data:
(in thousands)
Working capital $196,606 $195,026 $182,155 $196,940 $172,768
Total assets 334,267 337,439 330,675 354,813 359,748
Long-term debt and other
obligations 2,168 8,179 19,237 5,200 9,211
Total shareholders' equity 284,887 283,609 273,619 313,330 281,835
_____________
(1) Net income for the year ended December 31, 2004, includes $6.3 million in
net reversals of accrued income and payroll tax liabilities as a result of the
completion of a federal tax audit (see Note 8 of Notes to Consolidated
Financial Statements)
(2) Operating results for the year ended December 31, 2002, includes $17.1
million in accelerated amortization of deferred stock compensation associated
with options cancelled pursuant to the employee option exchange program (see
Note 7 of Notes to Consolidated Financial Statements). In addition, related
to the closure of the Company's Santa Clara, California wafer fabrication
facility, the Company recorded $5.5 million in restructure expense and $23.4
million in Manufacturing facility impairment expense (see Note 13 of Notes to
Consolidated Financial Statements)
(3) Operating results for the year ended December 31, 2001, includes $8.9
million in acquisition expenses related to the acquisition of Kendin
Communications.
15
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Overview
The statements contained in this Report on Form 10-K 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,as amended, including statements regarding the Company's expectations,
hopes, intentions or strategies regarding the future. Forward-looking
statements include, but are not limited to: statements regarding future
products or product development; statements regarding future research and
development spending and the Company's product development strategy;
statements regarding the levels of international sales; statements regarding
future expansion or utilization of manufacturing capacity; statements
regarding future expenditures; and statements regarding current or future
acquisitions. In some cases, forward-looking statements can be identified by
the use of forward-looking terminology such as "believe," "estimate," "may,"
"can," "will," "intend," "objective," "plan," "expect" or "anticipate" or the
negative of these terms or other comparable terminology. 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. These statements are subject to risks and
uncertainties that could cause actual results and events to differ materially
from those expressed or implied by such forward-looking statements. Some of
the factors that could cause actual results to differ materially are set forth
in Item 1 ("Business"), Item 3 ("Legal Proceedings") and Item 7 ("Management's
Discussion and Analysis of Financial Condition and Results of Operations".
Micrel designs, develops, manufactures and markets a range of high-
performance analog power ICs, mixed-signal and digital ICs. 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.
Following the most severe downturn in the history of the semiconductor
industry in 2001, customer demand for the Company's products remained weak in
2002 as customers reacted to slow economic growth and high inventory levels of
semiconductor components throughout the supply chain. Lead times for
semiconductor components were short resulting in poor visibility into future
customer demand. The Company's gross profit and net income declined in 2002
due to lower unit volume, declining selling prices for the Company's products
and an increased level of unabsorbed fixed costs due to lower utilization
levels of the Company's wafer fabrication lines. In response to this
environment of uncertain demand the Company focused on reducing costs.
The Company's objective was to align its cost structure with the reduced
revenue levels while retaining sufficient manufacturing capacity, and
sustaining a level of research and development investment that should
facilitate future growth. In addition to reducing discretionary spending and
payroll costs, the Company sought to significantly reduce its manufacturing
costs. One of the Company's most significant cost reduction actions was the
consolidation of its Santa Clara, California wafer fabrication operation into
its San Jose, California wafer fabrication facility. This action commenced in
2002 and was completed in 2003 (see Note 13 of Notes to Consolidated Financial
Statements). By the end of 2003, the Company's manufacturing cost reduction
efforts had offset a substantial portion of the erosion in gross profit
resulting from the decline in average selling prices. The Company continued
to invest in research and development at a rate in excess of 20% of revenues
16
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
while selling, general and administrative spending was reduced to a level in
2003 which approached 1999 spending.
In 2003 the Company returned to profitability after recording a loss on an
annual basis for the first time in its history in 2002. The first half of
2003 was characterized by the continuation of limited visibility into, and
uncertainty of, customer demand. The uncertainty of demand was compounded in
the first half of 2003 by events such as the war in Iraq and the outbreak of
severe acute respiratory syndrome in Asia ("SARS"). The Company's quarterly
revenues remained relatively flat, averaging $50 million per quarter for the
first half of 2003. The Company recorded a small net loss for this period.
In the second half of 2003, customer demand increased as the United States'
and Asian economies began to grow more rapidly. The Company's new order
rates, or bookings, grew faster than revenue in the third and fourth quarter
of 2003, resulting in sequential growth in both revenues and order backlog.
The growth in new orders and revenues in the second half of 2003 was driven by
demand for the Company's standard products from customers serving the
communications, computing, industrial and wireless handset end markets. Gross
margins and net income increased in the second half of 2003. The Company
continued to generate positive cash flows from operations on a quarterly basis
throughout 2003.
The Company's financial results continued to improve in 2004. Revenues
grew to the highest level since 2000, increasing 22 percent over 2003. The
strength in customer order rates that began in the second half of 2003
continued through most of the first half of 2004. The increase in customer
demand caused lead times for semiconductor components, including Micrel's, to
expand during the first and second quarters of 2004 as customers and
distributors became concerned about availability of supply. The Company's
revenues continued to grow in the first half of the year and gross margin,
operating margin and net income increased on a sequential basis in both the
first and second quarters. By the end of the second quarter, customers began
to perceive that the supply of semiconductor components was generally
sufficient and lead times for certain components began to shrink.
In the third and fourth quarter of 2004, demand was below normal seasonal
levels as customers reacted quickly to uncertain demand for their products,
decreasing semiconductor lead times and uncertain economic conditions by
reducing their order rates. Because of the lessons learned from the painful
excess inventory situation that occurred in 2001, the Company's customers
appear to be more sensitive to change in end demand for their products and
supplier lead times. Customers in certain end markets such as networking,
enterprise computing and high speed communications experienced lower demand
for their end products than they had anticipated. This factor, combined with
rapidly shrinking lead times from most semiconductor suppliers, led to lower
order rates for the Company's products in the second half of 2004 as customers
attempted to control their inventory levels. Semiconductor distributors also
reacted to decreasing lead times by reducing order rates. Inventories at the
Company's distributors, after increasing during the first half of 2004,
declined throughout the second half of the year and ending 2004 levels were
slightly higher than 2003 ending inventories. Inventory levels at the
Company's stocking representatives, after growing significantly during the
first nine months of 2004, remained flat during the fourth quarter of 2004 and
ended 2004 with levels significantly higher than 2003 ending inventories. The
proportion of the Company's total sales to China, Taiwan and Southeast Asia,
which are primarily served by stocking representatives, continued to grow in
2004 due to the continued shift in electronics manufacturing to China and
Southeast Asia from North America and Europe. The Company's level of on hand
inventory remained above prior year levels to provide a high level of customer
service in response to shorter customer lead times. As a result of lower
order rates, the Company's backlog and revenues declined in both the third and
fourth quarter of 2004. At the end of 2004, lead times for the Company's
products remained low, at approximately two to three weeks, and visibility
into customer demand was poor.
17
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Despite reduced revenues in the second half of 2004 the Company's gross
margin declined only slightly and operating margins remained above 10% in both
the third and fourth quarter. For the year, gross margin improved by over 8%
to 48%, operating margin increased to 16% in 2004 from 2% in 2003, and the
Company's net income per diluted share increased substantially to $0.34 in
2004 from $0.05 in 2003. Included in net income for 2004 were $6.3 million in
reversals of income and payroll tax liabilities associated with the conclusion
of a tax audit (see Note 8 of Notes to Consolidated Financial Statements). The
Company generated the second highest level of operating cash flow in the
Company's history in 2004 and repaid almost all of its outstanding debt during
the year. Operating cash flow less cash used for the purchase of property,
plant and equipment (commonly referred to as "free cash flow") was the highest
in the Company's history.
In 2004, Micrel completed the acquisition of BlueChip Communications AS
("BlueChip") of Oslo, Norway. BlueChip is a fabless semiconductor company
that designs, develops and markets high performance RF ICs and modules for the
actuation and connectivity markets. The acquisition was accounted for as a
purchase under SFAS 141 "Business Combinations" and, accordingly, the results
of operations of BlueChip from the date of acquisition forward have been
included in the Company's consolidated financial statements. (see Note 2 of
Notes to Consolidated Financial Statements).
The Company derives a substantial portion of its net revenues from standard
products. For 2004, 2003 and 2002 the Company's standard products sales
accounted for 96%, 90%, and 88%, respectively, of the Company's net revenues.
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 and Estimates
The financial statements included in this Form 10-K 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 of America. 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
18
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
and judgments. Management bases its estimates and judgments 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. The Company considers certain accounting
policies related to revenue recognition, inventory valuation, income taxes,
and litigation to be critical to the fair presentation of its financial
statements.
Revenue Recognition and Receivables. 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 or determinable and collection of the resulting receivable is
reasonably assured.
Micrel allows certain distributors, primarily located in North America and
Europe, and in certain countries in Asia, significant return rights, price
protection and pricing adjustments subsequent to the initial product shipment.
As these returns and price concessions have historically been significant,
and future returns and price concessions are difficult to reliably estimate,
the Company 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. Although revenue recognition and related cost of
sales are deferred, the Company records an accounts receivable and relieves
inventory at the time of initial product shipment. As standard terms are FOB
shipping point, payment terms are enforced from shipment date and legal title
and risk of inventory loss passes to the distributor upon shipment. In
addition, the Company may offer to its distributors, where revenue is deferred
upon shipment and recognized on a sell-through basis, price adjustments to
allow the distributor to price the Company's products competitively for
specific resale opportunities. The Company estimates and records an allowance
for distributor price adjustments for which the specific resale transaction
has been completed, but the price adjustment claim has not yet been received
and recorded by the Company.
Sales to OEM customers and Asian based stocking representatives are
recognized upon shipment. The Company does not grant return rights, price
protection or pricing adjustments to OEM customers. The Company offers
limited contractual stock rotation rights to stocking representatives. In
addition, the Company is not contractually obligated to offer, but may
infrequently grant, price adjustments or price protection to certain stocking
representatives on an exception basis. At the time of shipment to OEMs and
stocking representatives, an allowance for returns and price adjustments is
established based upon historical return rates. Actual future returns and
price adjustments could be different than the allowance established.
The Company also maintains an allowance for doubtful accounts for estimated
uncollectible accounts receivable. 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.
19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Inventory Valuation. Inventories are stated at the lower of cost (first-in,
first-out method) or market. The Company records 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 SEC Staff
Accounting Bulletin 100 "Restructuring and Impairment Charges."
Income Taxes. Deferred tax assets and liabilities result 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 must assess the likelihood that future taxable income levels
will be sufficient to ultimately realize the tax benefits of these deferred
tax assets. As of December 31, 2004, 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. Should the Company
determine that future realization of these tax benefits is not likely, a
valuation allowance would be established, which would increase the Company's
tax provision in the period of such determination.
In addition, the calculation of the Company's tax liabilities involves
dealing with uncertainties in the application of complex tax regulations. The
Company records liabilities for anticipated tax audit issues based on its
estimate of whether, and the extent to which, additional taxes may be due.
Actual tax liabilities may be different than the recorded estimates and could
result in an additional charge or benefit to the tax provision in the period
when the ultimate tax assessment is determined.
During the second quarter of 2004, the Company reversed $3.8 million of
accrued income tax liabilities as a result of the completion of a federal
income tax audit. In addition, related to the federal tax audit completion,
the Company also reversed $3.9 million in accrued payroll tax liabilities.
This reduction in accrued payroll tax liabilities has been recorded as a $1.1
million reduction in cost of revenues, a $1.7 million reduction in research
and development expense and a $1.1 million reduction in selling, general and
administrative expense in the second quarter of 2004 (see Note 8 of Notes to
Consolidated Financial Statements).
Litigation. The semiconductor industry is characterized by frequent
litigation regarding patent and other intellectual property rights. The
Company is currently involved in such intellectual property litigation (see
Note 11 of Notes to Consolidated Financial Statements) and has not accrued a
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 reasonable estimated, the adjustment would be charged to income
in the period such determination was made.
20
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Results of Operations
The following table sets forth certain operating data as a percentage of
total net revenues for the periods indicated.
Years Ended December 31,
----------------------------
2004 2003 2002
-------- -------- --------
Net revenues 100.0% 100.0% 100.0%
Cost of revenues 52.4 60.5 68.2
-------- -------- --------
Gross profit 47.6 39.5 31.8
-------- -------- --------
Operating expenses:
Research and development 16.2 22.2 26.0
Selling, general and administrative 14.5 13.7 15.7
Amortization of deferred stock compensation 0.8 1.4 11.0
Manufacturing facility impairment -- (0.3) 11.4
Restructuring expense 0.2 0.1 2.7
Acquisition expenses 0.1 -- --
-------- -------- --------
Total operating expenses 31.8 37.1 66.8
-------- -------- --------
Income (loss) from operations 15.8 2.4 (35.0)
Other income, net 0.7 0.3 0.5
-------- -------- --------
Income (loss) before income taxes 16.5 2.7 (34.5)
Provision (benefit) for income taxes 4.4 0.4 (14.5)
-------- -------- --------
Net income 12.1% 2.3% (20.0)%
======== ======== ========
Net Revenues. Net revenues increased 22% to $257.6 million for the year
ended December 31, 2004 from $211.7 million in 2003 primarily due to increased
standard product revenues, which were partially offset by decreased custom and
foundry revenues.
Standard product revenues increased 29% to $246.6 million, which
represented 96% of net revenues for the year ended December 31, 2004, compared
to $191.1 million and 90% of net revenues for 2003. These increases resulted
primarily from increased unit shipments of standard products to the
telecommunications, computer, industrial, high speed communications and
networking end markets.
Custom and foundry revenues decreased 47% to $11.0 million, which
represented 4% of net revenues for the year ended December 31, 2004, compared
to $20.6 million and 10% of net revenues for 2003. Such decreases were due
primarily to decreased unit shipments of foundry products principally due to
the cessation of manufacturing for a single customer, Lexmark, at the end of
2003.
Customer demand for semiconductors can change quickly and unexpectedly.
From the middle of 2001 through 2003, customers perceived that semiconductor
components were readily available and 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 quarter. Within the semiconductor industry these orders that are
booked and shipped within the quarter are called "turns fill" orders. When
the turns fill level exceeds approximately 35% of quarterly revenue, it makes
21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
it very difficult to predict near term revenues and income. Because of the
long cycle time to build its products, the Company's lack of visibility into
demand when turns fill is high makes it difficult to predict what product to
build to match future demand. The Company averaged approximately 55% turns
fill per quarter during 2003.
As lead times and backlog increased during the first half of 2004 the turns
fill requirement declined to 35% by the second quarter. After experiencing an
increase in order rates and backlog in the first six months of 2004, order
rates in the second half declined as customers quickly reduced new orders in
an attempt to control their inventories in response to uncertain demand for
their end products and declining supplier lead times. The Company's lead
times decreased during the fourth quarter to less than four weeks at the end
of December, compared with average lead times of seven to eight weeks during
the first half of 2004. This resulted in an increased turns fill requirement
in the fourth quarter to approximately 45%. Although overall semiconductor
industry channel inventories appear to be equal to or below long term
historical trends, customers perceive semiconductor components are readily
available. Customers are cautious in committing new orders, relying instead
on short lead times and the willingness of semiconductor manufacturers to hold
inventory and react quickly to supply their short term needs. The slowing of
global economic growth rates, the aversion to holding inventory and the hope
of negotiating lower prices has caused many customers to reduce order backlog
on their suppliers. The Company's backlog at December 31, 2004 declined on a
sequential basis and was 32% below the backlog level of December 31, 2003.
The lower backlog level, increased reliance on turns fill orders, unseasonable
weakness in order rates and the uncertain growth rate of the world economy
make it difficult to predict near term demand. Although the Company has
reduced production levels in response to lower order rates, the uncertainty in
demand arising from these factors, 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.
For the year ended December 31, 2003, net revenues increased 3% to $211.7
from $204.7 million in 2002 primarily due to increased standard product
revenues, which were partially offset by decreased custom and foundry
revenues. Standard product revenues increased 6% to $191.1 million, which
represented 90% of net revenues for the year ended December 31, 2003, compared
to $180.4 million and 88% of net revenues for 2002. 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. Custom
and foundry revenues decreased 15% to $20.6 million, which represented 10% of
net revenues for the year ended December 31, 2003, compared to $24.3 million
and 12% of net revenues for 2002. Such decreases were due primarily to
decreased unit shipments of foundry products.
International sales represented 76%, 70%, and 69% of net revenues for the
years ended December 31, 2004, 2003 and 2002, respectively. On a dollar basis,
international sales increased 33% to $196.9 million for the year ended
December 31, 2004 from $147.8 million for the comparable period in 2003. These
increases resulted primarily from increased shipments of telecommunications,
networking communications and high speed communications products, primarily in
Asia and to a lesser extent Europe.
The trend for the Company's customers to move their electronics
manufacturing to Asian countries has brought increased pricing pressure for
Micrel and other semiconductor manufacturers. Asian based manufacturers are
typically more concerned about cost and less concerned about the capability of
the integrated circuits they purchase. This can make it more difficult for
United States based companies to differentiate themselves except by price. The
increased concentration of electronics procurement and manufacturing in the
22
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Asia Pacific region has led, and may continue to lead, to continued price
pressure for the Company's products in the future.
Gross Profit. Gross profit is affected by a variety of factors including
the volume of product sales, product mix, manufacturing capacity utilization,
product yields and average selling prices. The Company's gross margin
increased to 48% for the year ended December 31, 2004 from 40% for the year
ended December 31, 2003. The increase in gross margin resulted primarily from
a greater sales mix of higher margin products, decreased wafer fabrication
costs, and decreased external assembly and test costs. During the year ended
December 31, 2004, the company reduced sales of low margin foundry products
and increased sales of higher margin analog and high speed communications
standard products as compared to the same periods in 2003. In addition, during
2004, the Company benefited from decreased wafer fabrication costs resulting
from the Company's wafer fabrication consolidation project (see Note 13 of
Notes to Consolidated Financial Statements) and lower costs for external
assembly and test manufacturing services. The Company's gross profit margin
has also benefited from spreading fixed costs over a higher sales volume. In
addition, gross profit for the year ended December 31, 2004 includes the
reversal of $1.1 million of accrued payroll tax liabilities, recorded in the
second quarter of 2004, associated with the conclusion of a tax audit (see
Note 8 of Notes to Consolidated Financial Statements). Depreciation and
amortization (excluding amortization of deferred stock compensation) as a
percent of sales declined to 10% for the year ended December 31, 2004 from 14%
for the same period in 2003.
In response to the decline in order rates during the second half of the
year and the uncertainty of end demand, the Company reduced its level of
production in the fourth quarter of 2004 and will reduce production activity
further in the first quarter of 2005. The Company is acting to reduce the
effect on gross margin from lower factory utilization by reducing the number
of days worked in the quarter and controlling expenses. Should global
economic growth remain strong and demand for the Company's products rebound,
the Company has the ability to rapidly increase manufacturing output.
For the year ended December 31, 2003, the Company's gross margin increased
to 40% from 32% for the year ended December 31, 2002. The increase in gross
margin primarily reflected decreased wafer fabrication costs resulting from the
Company's wafer fabrication consolidation plan, lower costs for external
assembly and test manufacturing services and lower amortization of deferred
stock compensation costs, which were partially offset by a reduction in average
selling prices as compared to the same periods in 2002.
Research and Development Expenses. Research and development expenses as a
percentage of net revenues represented 16% and 22% for the years ended
December 31, 2004 and 2003, respectively. On a dollar basis, research and
development expenses decreased $5.2 million or 11% to $41.8 million for the
year ended December 31, 2004 from $47.0 million in 2003. This decrease was
primarily due to decreased prototype fabrication costs and the reversal of
$1.7 million of accrued payroll tax liabilities in the second quarter of 2004,
associated with the conclusion of a tax audit (see Note 8 of Notes to
Consolidated Financial Statements). The Company believes that the development
and introduction of new products is critical to its future success and expects
to continue significant investment in research and development activities in
the future.
23
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
For the years ended December 31, 2003 and 2002, research and development
represented 22% and 26% of net revenues, respectively. On a dollar basis,
research and development expenses decreased $6.4 million or 12% to $47.0
million for the year ended December 31, 2003 from $53.3 million in 2002. The
decrease was primarily due to decreased prototype fabrication costs combined
with reduced staffing costs and reduced mask costs.
Selling, General and Administrative Expenses. As a percentage of net
revenues, selling, general and administrative expenses represented 15% and 14%
for the years ended December 31, 2004 and 2003, respectively. On a dollar
basis, selling, general and administrative expenses increased $8.3 million or
29% to $37.3 million for the year ended December 31, 2004 from $29.0 million
for the comparable period in 2003. The increase was principally attributable
to increased commissions related to higher revenues, increased staffing costs
and profit sharing accruals, increased accounting and auditing fees associated
with implementation of the requirements of Section 404 of the Sarbanes-Oxley
Act and increased outside legal costs which were partially offset by the
reversal of $1.1 million of accrued payroll tax liabilities in the second
quarter of 2004, associated with the conclusion of a tax audit (see Note 8 of
Notes to Consolidated Financial Statements).
For the years ended December 31, 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 $3.2
million or 10% to $29.0 million for the year ended December 31, 2003 from
$32.2 million for the comparable period in 2002. The decrease was principally
attributable to decreased outside legal costs combined with decreased
advertising expenses.
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 ("APB") No. 25, "Accounting for Stock
Issued to Employees". During the years 1996 through December 2001, certain of
the Company's option pricing practices resulted in stock compensation expense
under APB 25 (see "Stock Based Awards" included in Note 1 of Notes to
Consolidated Financial Statements). In addition, the Company assumed certain
stock options granted to employees of Kendin Communications in connection with
the acquisition of Kendin Communications in 2001 which were compensatory under
APB 25. As of December 31, 2004 total unamortized stock compensation was $1.1
million with a future amortization schedule of $822,000 in 2005 and $296,000
in 2006.
For the year ended December 31, 2004, total amortization of deferred stock
compensation was $2.5 million compared to $4.1 million in 2003. This decrease
resulted from decreased deferred compensation balances. For the year ended
December 31, 2003, total amortization of deferred stock compensation was $4.1
million compared to $29.9 million in 2002. This decrease resulted primarily
from $17.1 million in accelerated amortization in 2002 which resulted from
options cancelled pursuant to an employee option exchange program (see Note 7
of Notes to Consolidated Financial Statements).
In December 2004, the Financial Accounting Standards Board ("FASB" or the
"Board") issued Statement of Accounting Standards ("SFAS") No. 123R, "Share-
Based Payment". SFAS No. 123R is a revision of SFAS No. 123, and supersedes
APB 25 (see more discussion of SFAS No. 123R under the caption "New Accounting
Standards" included in Note 1 of Notes to Consolidated Financial Statements).
Purchased in-process technology. In 2004, Micrel acquired 100% of the
outstanding common stock and options to purchase common stock of BlueChip, in
a cash-for-stock transaction. Micrel paid approximately $2 million in cash and
incurred approximately $300,000 in direct acquisition costs for the
24
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
outstanding BlueChip securities and options. The fair value of the acquired
assets exceeded the purchase price by $1.3 million. The Company deferred $1.0
million of this excess amount as potential contingent consideration of $1.0
million was payable, under the terms of the agreement, if certain revenue and
gross profit targets were met by the BlueChip operations during calendar year
2004. As of December 31, 2004, it was determined that the additional
contingent consideration of $1.0 million, which was initially recorded in the
first quarter of 2004, would not be payable as certain revenue and gross
profit targets were not achieved by the BlueChip operation. As a result, the
additional contingent consideration was reversed in the fourth quarter of 2004
and the purchase cost allocation was adjusted accordingly (See Note 2 of Notes
to Consolidated Financial Statements).
The purchase cost allocation, as adjusted for the final determination of
the contingent consideration, resulted in $1.7 million of the purchase cost
allocated to intangible assets. Of that amount, $303,000 was expensed during
the year ended December 31, 2004 to purchased in-process technology, which had
not reached technological feasibility and had no alternative future. The
remaining intangible assets of $1.4 million, consisting of $1.1 million in
existing technology and $282,000 in customer relationships, are included in
intangible assets in the accompanying condensed consolidated balance sheets
and are being amortized on a straight line basis over their useful lives of
three to five years.
Manufacturing Facility Impairment and Restructuring Expense. In September
2002, the Company approved a plan to close its Santa Clara, California wafer
fabrication facility to reduce costs and improve operating efficiencies. The
Company accrued $5.5 million in restructuring expenses associated with the
facility closure 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 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 2003, the Company paid $1.3 million 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 2003.
During 2004, the Company paid $1.7 million in restructuring costs that
reduced the previous restructuring accrual. The Company also increased its
accrued restructuring expenses for contractual building lease costs by
$584,000 to eliminate remaining estimated future sub-lease income as efforts
to sub-lease the facility have been unsuccessful to-date and the estimated
probability of future sub-lease has been reduced to less than probable.
As of December 31, 2004, the remaining restructuring accrual was $3.4
million (see Note 13 of Notes to Consolidated Financial Statements). Actual
future costs may be different than these estimates and would require an
adjustment to restructuring expense in the period such determination is made.
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 2003, the Company sold previously impaired equipment resulting in a
$624,000 gain which has been recorded as a credit to the manufacturing facility
impairment expense. As of December 31, 2003, there was no remaining book value
for equipment previously impaired during the 2002 restructuring actions.
25
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Other Income, Net. Other income, net reflects interest income from
investments in short-term and long-term investment grade securities and money
market funds and other non-operating income, offset by interest expense
incurred on term notes. Other income, net increased by $1.1 million to $1.7
million in 2004 from $619,000 in 2003. The increase was primarily due to
increased interest income rate of returns on increased cash and investment
balances and decreased interest expense resulting from a decrease in average
debt as compared to the prior year.
For the year ended December 31, 2003, other income, net decreased by
$437,000 to $619,000 from $1.1 million 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. In addition, the 2002 results
included a $947,000 expense for the settlement of a patent dispute and a
credit of $490,000 in other income.
Provision (benefit) for Income Taxes. For the year ended December 31, 2004,
the provision for income taxes was $11.2 million or 26% of income before
taxes. The income tax provision for 2004 is based on the Company's estimated
annual statutory tax rate of 35% of pretax income, reduced by a $3.8 million
reversal of accrued income tax liabilities in the second quarter of 2004, as a
result of the completion of a federal income tax audit (see Note 8 of Notes to
Consolidated Financial Statements). The 2004 provision for income taxes
differs from taxes computed at the federal statutory rate primarily due to the
effect of federal export tax credits, state income taxes and state research
and development credits. For the year ended December 31, 2003, the provision
for taxes was 15% of income before taxes. For the year ended December 31,
2002, the benefit for taxes was 42% of loss before taxes. The 2003 and 2002
income tax provision or benefit differ from taxes computed at the federal
statutory rate due to the effect of state taxes, state research and
development credits and state manufacturing credits.
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 December 31, 2004, consisted of cash and short-term
investments of $148 million and a $5 million revolving line of credit from a
commercial bank (see Note 6 of Notes to Consolidated Financial Statements).
In September 2002, the Company borrowed $10.7 million through a commercial
mortgage financing agreement which was associated with the purchase of its
previously leased manufacturing facilities in San Jose, CA. Borrowings under
this agreement bear interest, at the Company's election, at the daily floating
prime rate, or adjustable monthly LIBOR plus 1.5%. The principal balance of
the loan is to 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, with no early payment penalty. In December
2003, the company repaid $7.0 million of the loan. In October 2004, the
Company repaid the remaining loan balance of $3.3 million resulting in no
balance outstanding at December 31, 2004.
Associated with the acquisition of BlueChip, the Company has $247,000
outstanding in term notes payable to the Norwegian Industrial and Regional
Development Fund.
The Company generated $66.4 million in cash flows from operating activities
for the year ended December 31, 2004 compared to $50.7 million for the year
ended December 31, 2003. The $15.7 million increase in cash flows provided by
operating activities in 2004 compared with 2003 was primarily due to a $30.0
26
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
million increase to net income adjusted for non-cash activities ($31.3 million
net income plus $39.4 million in non-cash activities in 2004 compared to a
$4.8 million net income plus $35.9 million in non-cash activities in 2003)
which was partially offset by a $12.9 million cash flow decrease due to
increased inventory levels in 2004 as compared to 2003 (2004 inventory
increase used $4.5 million in cash flow as compared to cash provided in 2003
by a decrease in inventory of $8.4 million.)
For the year ended December 31, 2004, cash flows provided by operating
activities of $66.4 million were primarily attributable to net income after
adding back non-cash activities of $70.7 million combined with a $1.7 million
decrease in accounts receivable, a $3.0 million increase in accounts payable
and a $1.3 million increase in deferred income on shipments to distributors,
which were partially offset by a $4.4 million increase in inventory, a $2.9
million decrease in other accrued liabilities and a $2.5 million decrease in
income taxes payable.
For the year ended December 31, 2003, cash flows provided by operating
activities of $50.7 million were primarily attributable to net income after
adding back non-cash activities of $40.7 million combined with a $8.4 million
decrease in inventory, a $2.4 million increase in deferred income, a $4.2
million increase in income taxes payable, which were partially offset by a
$3.5 million increase in accounts receivable and $2.0 million decrease in all
other accrued liabilities.
The Company's investing activities during the year ended December 31, 2004,
used cash of $68.5 million compared to $21.1 million used in 2003. This
increase in cash used for investing activities was primarily due to a $48.5
million increase in net investment purchases and $2.0 million used for the
purchase of BlueChip during 2004, which was partially offset by decreased
capital expenditures in 2004. Cash used for investing activities during the
year ended December 31, 2004 of $68.5 million resulted from net $48.5 million
in net investment purchases, $ 16.9 million in purchases of property, plant
and equipment, $2.0 million used for the purchase of BlueChip and $1.0 for the
purchase of intangible assets.
The Company's investing activities during the year ended December 31, 2003,
used cash of $21.1 million, $7.4 million less than in 2002. This decrease in
cash used for investing activities was primarily due to an $18.0 million
facility purchase included in 2002, which was partially offset by increased
capital expenditures in 2003. Cash used for investing activities during the
year ended December 31, 2003 of $21.1 million resulted from net purchases of
property, plant and equipment.
The Company's financing activities during the year ended December 31, 2004,
used cash of $36.6 million as compared to cash used of $6.9 million during the
year ended December 31, 2003. This increase in cash flow used primarily
resulted from an increase in cash used to repurchase shares of the Company's
common stock.
Cash used by financing activities during the year ended December 31, 2004
of $36.6 million was the result of $39.4 million used to repurchase 3,538,000
shares of common stock combined with $4.0 million in repayments of long-term
debt, which was partially offset by proceeds from the issuance of common stock
through employee stock transactions of $6.8 million.
Cash used by financing activities during the year ended December 31, 2003
of $6.9 million was the result of $7.9 million in repayments of long-term debt
combined with $6.5 million to repurchase 492,450 shares of common stock, which
was partially offset by proceeds from the issuance of common stock through
employee stock transactions of $7.5 million.
27
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
The Company currently intends to spend approximately $18 million to $25
million to purchase capital equipment and make facility improvements during
the next twelve months primarily for manufacturing equipment for wafer
fabrication and product testing and additional research and development
related software and equipment. The Company is currently authorized by its
Board of Directors to repurchase an additional $75.0 million of its common
stock through December 31, 2005. Since inception, the Company's principal
sources of funding have been its cash from operations, bank borrowings and
sales of common stock. The Company believes that its cash from operations,
existing cash balances and short-term investments, and its credit facility
will be sufficient to meet its cash requirements for 2005. In the longer term,
the Company believes future cash requirements will continue to be met by its
cash from operations, and future debt or equity financings as required.
Recently Issued Accounting Standards
Please refer to the caption "New Accounting Standards" within Note 1 of
Notes to Consolidated Financial Statements for a discussion of the expected
impact of recently issued accounting standards.
Contractual Obligations and Commitments
As of December 31, 2004, the Company had the following contractual
obligations and commitments (in thousands):
Payments Due By Period
------------------------------------------------
Less than 1-3 4-5 After 5
Total 1 Year Years Years Years
-------- -------- -------- -------- --------
Long-term debt (see Note 6 of
Notes to Consolidated
Financial Statements) $ 247 $ 164 $ 83 $ -- $ --
Operating leases (see Note 9
of Notes to Consolidated
Financial Statements) 11,539 3,305 4,107 2,526 1,601
Other long-term liabilities
(see Note 14 of Notes to
Consolidated Financial
Statements) 2,000 2,000 -- -- --
Open purchase orders 22,000 22,000 -- -- --
-------- -------- -------- -------- --------
Total $ 35,786 $ 27,469 $ 4,190 $ 2,526 $ 1,601
======== ======== ======== ======== ========
Open purchase orders are defined as agreements to purchase goods or
services that are enforceable and legally binding and that specify all
significant terms, including: fixed or minimum quantities to be purchased;
fixed, minimum or variable pricing provisions; and the approximate timing of
the transactions (see Note 9 of Notes to Consolidated Financial Statements).
Borrowing agreements consisted of a $5 million revolving line of credit
from a commercial bank. The revolving line of credit agreement includes a
provision for the issuance of commercial or standby letters of credit by the
bank on behalf of the Company. The value of all letters of credit outstanding
reduces the total line of credit available. There were no borrowings under the
revolving line of credit at December 31, 2004 and there were $875,000 in
standby letters of credit outstanding. The letters of credit are issued to
guarantee payments for the Company's workers compensation program.
The Company has no other off-balance sheet arrangements and has not entered
into any transactions involving unconsolidated, limited purpose entities or
commodity contracts.
28
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Factors That May Affect Operating Results
If a company's operating results are below the expectations of public
market analysts or investors, then the market price of its Common Stock could
decline. Many factors that can affect a company's quarterly and annual results
are difficult to control or predict. Some of the factors which can affect a
multinational semiconductor business such as the Company are described below.
Geopolitical and Macroeconomic Risks That May Affect Multinational Enterprises
- ------------------------------------------------------------------------------
Demand for semiconductor components is increasingly dependent upon the rate
of growth of the global economy. If the rate of global economic growth
slows, or contracts, customer demand for products could be adversely affected,
which in turn could negatively affect revenues, results of operations and
financial condition. Many factors could adversely affect regional or global
economic growth. Some of the factors that could slow global economic growth
include: rising interest rates in the United States, increased price
inflation for goods, services or materials, a slowdown in the rate of growth
of the Chinese economy, a significant act of terrorism which disrupts global
trade or consumer confidence, geopolitical tensions including war and civil
unrest. Reduced levels of economic activity, or disruptions of international
transportation, could adversely affect sales on either a global basis or in
specific geographic regions
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. In 2004, 66% of the Company's revenues were derived
from shipments to customers in Asia, up from 32% in 2000 and 60% in 2003.
International markets are subject to a variety of risks, including changes in
policy by foreign governments, acts of terrorism, 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. 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. 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 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.
Market conditions may lead the Company to initiate additional cost
reduction plans, which may negatively affect near term operating results.
Weak customer demand, competitive pricing pressures, excess capacity, weak
economic conditions or other factors, may cause the Company 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.
29
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Semiconductor Industry Specific Risks
- -------------------------------------
The volatility of customer demand in the semiconductor industry limits a
company's ability to predict future levels of sales and profitability.
Semiconductor suppliers can rapidly increase production output, leading 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 products can result in excess
quantities of certain 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 Company's quarterly revenues are highly
dependent upon turns fill orders (orders booked and shipped in the same
quarter). The short-term and volatile nature of customer demand makes it
extremely difficult to predict near term revenues and profits.
The short lead time environment in the semiconductor industry has allowed
many end consumers to rely on stocking representatives and distributors to
carry inventory to meet short term requirements and minimize their investment
in on-hand inventory. Since the end of 2003 some of the Company's stocking
representatives and distributors have increased their inventory levels to
service the volatile short-term demand of the end customer. Should the
relationship with a distributor or stocking representative be terminated, the
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 and subject to rapid
technological change, price-erosion and increased international competition.
Significant competitive factors include product features, performance and
price; timing of product introductions; emergence of new computer and
communications standards; quality and customer support.
During a period when economic growth and customer demand have been less
certain, both the semiconductor industry and the Company have experienced
significant price erosion since the beginning of 2001. If price erosion
continues, it will have the effect of reducing revenue levels and gross
margins in future periods. Furthermore, the trend for the Company's customers
to move their electronics manufacturing to Asian countries has brought
increased pricing pressure for Micrel and the semiconductor industry. Asian
based manufacturers are typically more concerned about cost and less concerned
about the capability of the integrated circuits they purchase. The increased
concentration of electronics procurement and manufacturing in the Asia Pacific
region may lead to continued price pressure and additional product advertising
costs for the Company's products in the future.
An important part of the Company's strategy is to continue to focus on the
market for high-speed communications ICs. If the recovery in the
telecommunications infrastructure and wire line networking markets is not
sustainable, resulting in reduced demand for the Company's high bandwidth
products, the Company's future revenue growth and profitability could be
adversely affected.
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
30
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
their products, its revenues could be significantly reduced for a substantial
period of time.
Because the standard products market for ICs 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. 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 significant investment in semiconductor manufacturing capacity and the
rapid growth of circuit design centers in China may present a competitive
threat to established semiconductor companies due to the current low cost of
labor and capital in China. The emergence of low cost competitors in China
could reduce the revenues and profitability of established semiconductor
manufacturers.
Many semiconductor companies face risks associated with a dependence upon
third parties that manufacture, assemble or package certain of its products.
These risks include reduced control over delivery schedules and quality;
inadequate manufacturing yields and excessive costs; the potential lack of
adequate capacity during periods of excess demand; difficulties selecting and
integrating new subcontractors; potential increases in prices; disruption in
supply due to civil unrest, terrorism or other events which may occur in the
countries in which the subcontractors operate; and 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.
There is intense competition for qualified personnel in the semiconductor
industry, in particular design engineers. 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.
Compliance with corporate governance regulations such as the Sarbanes-Oxley
Act, which requires the Company's management to conduct an evaluation of the
effectiveness of its internal control over financial reporting, has increased
the Company's cost. Compliance with Section 404 of the Sarbanes-Oxley Act and
other recent corporate governance and internal control regulations resulted in
a tripling of audit and accounting fees in 2004 as well as increased costs for
internal auditing and third party consultants. The increased expense in 2004
associated with this compliance effort was approximately $1 million, reducing
net income per diluted share by approximately $0.01. Although the Company
expects the cost of compliance to decrease in 2005, the cost will remain
significantly above years prior to 2004 and new regulations, or changes to
existing regulations, could cause expenses to be higher than anticipated in the
future.
The success of companies in the semiconductor industry depends in part upon
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
31
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
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 frequent
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 recently issued Statement of Accounting Standards ("SFAS") No. 123R,
"Share-Based Payment" will require the Company to recognize the cost of
employee services received in exchange for awards of equity instruments, based
on the grant date fair value of those awards, in the financial statements. As
discussed in Note 1 of Notes to Consolidated Financial Statements, the
ultimate impact from the adoption of this accounting standard is uncertain but
it is expected to significantly increase stock based compensation expense in
future periods after adoption. The pro forma effect to net income and
earnings per share had the Company applied the fair value method to stock-
based awards has been disclosed in the Company's previous Form 10-K filings
and is contained in Note 1 of the Notes to Consolidated Financial Statements
of this Form 10-K. However, a reduction in net income and earnings per share
from the expensing of stock option awards in the Company's future results of
operation may have an adverse affect on the value of the Company's common
stock. If the Company reduces the number of stock option grants to employees
to minimize the cost associated with share based incentive awards, it will
most likely make it more difficult for the Company to hire and retain
employees.
Our customers are requiring that the Company offer its products in lead-
free packages. Governmental regulations in certain countries and our
customers' intention to produce products that are less harmful to the
environment has resulted in a requirement from many of the Company's customers
to purchase integrated circuits that do not contain lead. The Company has
responded by offering its products in lead-free versions. While the lead-free
versions of the Company's products are expected to be more friendly to the
environment, the ultimate impact is uncertain. In addition, the quality, cost
and manufacturing yields of the lead free products may be less favorable
compared to the products packaged using more traditional materials which may
result in higher costs to the Company.
Companies in the semiconductor industry are subject to a variety of
federal, state and local governmental regulations related to the use, storage,
discharge and disposal of toxic, volatile or otherwise hazardous chemicals
used in its manufacturing process. Any failure to comply with present or
future regulations could result in the imposition of fines, the suspension of
production, alteration of manufacturing processes or a cessation of
operations. In addition, these regulations could restrict the Company's
ability to expand its facilities at their present locations or construct or
operate a new wafer fabrication facility or could require the Company 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.
32
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Company-Specific Risks
- ----------------------
In addition to the risks that affect multinational semiconductor companies
listed above, there are additional risks which are more specific to the
Company such as:
The Company's gross margin, operating margin and net income are highly
dependent on the level of revenue and capacity utilization that the Company
experiences. 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 profit margins.
The cellular telephone (wireless handset) market comprises a significant
portion of the Company's standard product revenues. The proportion of the
Company's annual revenues from customers serving the cellular telephone market
has been increasing over the last three years, growing from less than 20% of
worldwide sales in 2001 to approximately 25% in 2004. Due to the highly
competitive and fast changing environment in which the Company's cellular
telephone customers operate, demand for the product the Company sells into this
end market can change rapidly and unexpectedly. If the Company's cellular
telephone customers lose market share, or accumulate too much inventory of
completed handsets, the demand for the Company's products can decline sharply
which could adversely affect the Company's revenues and results of operations.
The Company derives a significant portion of its revenues from customers
located in certain geographic regions or countries. Three of the Company's
top ten direct customers are located in South Korea. In the event that
political tensions surrounding North Korea evolve into military or social
conflict, or other factors disrupt the Korean economy, the Company's revenues,
results of operations, cash flow and financial condition could be adversely
affected. A significant portion of the Company's revenues come from customers
located in Taiwan and China. In the event that economic activity in these two
countries declines, or is disrupted by geopolitical events, the Company's
revenues and results of operations could be adversely affected.
The Company manufactures most of its semiconductors at its San Jose,
California fabrication facilities. The Company's existing wafer fabrication
facility, located in Northern California, 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. Furthermore,
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 ICs 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. The Company
maintains approximately two to three months of inventory that has completed
the wafer fabrication manufacturing process. This inventory is generally
located offshore at third party subcontractors and can act to buffer some of
the adverse impact from a disruption to the Company's San Jose wafer
fabrication activity arising from a natural disaster such as an earthquake.
33
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
At December 31, 2004, the Company held $46.5 million in short-term
investments and $2.0 million in long-term investments. Short-term and long-
term investments consist primarily of liquid debt instruments and are
classified as available-for-sale securities. Investments purchased with
remaining maturity dates of greater than three months and less than 12 months
are classified as short-term. Investments purchased with remaining maturity
dates of 12 months or greater are classified as long-term. These available-
for-sale securities are subject to interest rate risk and will fall in value
if market interest rates increase. If market interest rates were to increase
immediately and uniformly by 10 percent from levels at December 31, 2004, the
fair value of the short-term investments would decline by an immaterial
amount. The Company generally expects to have the ability to hold its fixed
income investments until maturity and therefore would not expect operating
results or cash flows to be affected to any significant degree by the effect
of a sudden change in market interest rates on short-term investments.
At December 31, 2004, the Company held an insignificant amount of fixed-
rate long-term debt subject to interest rate risk.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Company's financial statements and supplementary data are set forth on
pages 41 through 78, which follow Item 15.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
ITEM 9A. CONTROLS AND PROCEDURES
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures
The Company maintains disclosure controls and procedures, as such term is
defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of
1934, as amended (the Exchange Act). In designing and evaluating the
disclosure controls and procedures, management recognizes that any disclosure
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.
Under the supervision and with the participation of the Company's management,
including its principal executive officer and principal financial officer, the
Company conducted an evaluation of the effectiveness of its disclosure controls
and procedures as of the end of the period covered by this report. Based on
this evaluation, the Company's principal executive officer and principal
financial officer have concluded that the Company's disclosure controls and
procedures were effective at the reasonable assurance level as of December 31,
2004.
34
Management's Report on Internal Control Over Financial Reporting
The Company's management is responsible for establishing and maintaining
adequate internal control over financial reporting, as such term is defined in
Exchange Act Rule 13a-15(f). Internal control over financial reporting cannot
provide absolute assurance of achieving financial reporting objectives because
of its inherent limitations. Internal control over financial reporting is a
process that involves human diligence and compliance and is subject to lapses
in judgment and breakdowns resulting from human failures. Internal control over
financial reporting also can be circumvented by collusion or improper
management override. Because of such limitations, there is a risk that material
misstatements may not be prevented or detected on a timely basis by internal
control over financial reporting. However, these inherent limitations are known
features of the financial reporting process. Therefore, it is possible to
design into the process safeguards to reduce, though not eliminate, this risk.
Under the supervision and with the participation of the Company's management,
including its principal executive officer and principal financial officer, the
Company conducted an evaluation of the effectiveness of its internal control
over financial reporting based on the criteria set forth in the report entitled
"Internal Control - Integrated Framework" issued by the Committee of Sponsoring
Organizations of the Treadway Commission. Based on its evaluation under the
criteria set forth in "Internal Control - Integrated Framework," management has
concluded that the Company's internal control over financial reporting was
effective as of December 31, 2004. Management's assessment of the
effectiveness of the Company's internal control over financial reporting as of
December 31, 2004, has been audited by PricewaterhouseCoopers LLP, an
independent registered public accounting firm, as stated in their report which
appears herein.
Changes in Internal Control Over Financial Reporting
There has been no change in the Company's internal controls over financial
reporting that occurred during the quarter ended December 31, 2004 that has
materially affected, or is reasonably likely to materially affect, the
Company's internal control over financial reporting.
ITEM 9B. OTHER INFORMATION
None.
35
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information concerning the directors and officers of the Company is
included in the Company's Proxy Statement to be filed in connection with the
Company's 2005 Annual Meeting of Shareholders under the captions "Election of
Directors" and "Certain Information with Respect to Executive Officers,"
respectively, and is incorporated herein by reference.
The Company has an Audit Committee composed of independent directors. The
information required by this item with respect to the Audit Committee and
"audit committee financial experts" is incorporated by reference from the
Company's Proxy Statement to be filed in connection with the Company's 2005
Annual Meeting of Shareholders under the caption, "Committees and Meetings of
the Board of Directors."
The information concerning compliance with Section 16(a) of the Exchange
Act is included in the Company's Proxy Statement to be filed in connection
with the Company's 2005 Annual Meeting of Shareholders under the caption
"Section 16(A) Beneficial Ownership Reporting Compliance," and is incorporated
herein by reference.
The Company has adopted a code of ethics that applies to the principal
executive officer, principal financial officer, principal accounting officer
or controller, or persons performing similar functions. The Company's code of
ethics has been filed as Exhibit 14 to the Company's Annual Report on Form 10-
K for the year ended December 31, 2003 and is incorporated herein by
reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is included under the captions
"Executive Compensation" and "Stock Option Grants and Exercise" in the
Company's Proxy Statement to be filed in connection with the Company's 2005
Annual Meeting of Shareholders and is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT AND RELATED SHAREHOLDER MATTERS
The information required by this item is included under the caption "Security
Ownership of Certain Beneficial Owners and Management" and "Equity Compensation
Plan Information" in the Company's Proxy Statement to be filed in connection
with the Company's 2005 Annual Meeting of Shareholders and is incorporated
herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is included under the caption "Certain
Transactions" in the Company's Proxy Statement to be filed in connection with
the Company's 2005 Annual Meeting of Shareholders and is incorporated herein by
reference.
36
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information required by this item is included under the caption
"Independent Auditors" in the Company's Proxy Statement to be filed in
connection with the Company's 2005 Annual Meeting of Shareholders and is
incorporated herein by reference.
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
The following documents are filed as part of this Report:
1. Financial Statements. The following financial statements of
the Company and the Reports of PricewaterhouseCoopers LLP,
Independent Registered Public Accounting Firm, are included in this
Report on the pages indicated:
Page
----
Report of Independent Registered Public Accounting Firm 38
Consolidated Balance Sheets as of December 31, 2004 and 2003 40
Consolidated Statements of Operations for the Years Ended
December 31, 2004, 2003 and 2002 41
Consolidated Statements of Shareholders' Equity and
Comprehensive Income for the Years Ended December 31,
2004, 2003 and 2002 42
Consolidated Statements of Cash Flows for the Years Ended
December 31, 2004, 2003 and 2002 43
Notes to Consolidated Financial Statements 44
Supplemental Quarterly Financial Summery 68
2. Financial Statement Schedule. The following financial statement
schedule of the Company for the years ended December 31, 2004,
2003 and 2002, is filed as part of this report on Form 10-K and
should be read in conjunction with the financial statements.
Schedule Title Page
-------- ------ ----
II Valuation and Qualifying Accounts 69
Schedules not listed above have been omitted because they are not
applicable, not required, or the information required to be set
forth therein is included in the Consolidated Financial Statements
or notes thereto.
3. Exhibits. Those exhibits required by Item 601 of Regulation S-K
to be filed or incorporated by reference as a part of this Report
are listed on the Exhibit Index immediately preceding the exhibits
filed herewith.
37
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Shareholders of Micrel, Incorporated:
We have completed an integrated audit of Micrel, Incorporated's 2004
consolidated financial statements and of its internal control over financial
reporting as of December 31, 2004 and audits of its 2003 and 2002 consolidated
financial statements in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Our opinions, based on our
audits, are presented below.
Consolidated financial statements and financial statement schedule
- ------------------------------------------------------------------
In our opinion, the consolidated financial statements listed in the index
appearing under Item 15(a)(1) present fairly, in all material respects, the
financial position of Micrel, Incorporated and its subsidiaries at December
31, 2004 and 2003, and the results of their operations and their cash flows
for each of the three years in the period ended December 31, 2004 in
conformity with accounting principles generally accepted in the United States
of America. In addition, in our opinion, the financial statement schedule
listed in the index appearing under Item 15(a)(2) presents fairly, in all
material respects, the information set forth therein when read in conjunction
with the related consolidated financial statements. These financial
statements and financial statement schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements and financial statement schedule based on our audits. We
conducted our audits of these statements in accordance with the standards of
the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit of financial statements includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
Internal control over financial reporting
- -----------------------------------------
Also, in our opinion, management's assessment, included in Management's
Report on Internal Control Over Financial Reporting appearing under Item 9A,
that the Company maintained effective internal control over financial
reporting as of December 31, 2004 based on criteria established in Internal
Control - Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO), is fairly stated, in all
material respects, based on those criteria. Furthermore, in our opinion, the
Company maintained, in all material respects, effective internal control over
financial reporting as of December 31, 2004, based on criteria established in
Internal Control - Integrated Framework issued by the COSO. The Company's
management is responsible for maintaining effective internal control over
financial reporting and for its assessment of the effectiveness of internal
control over financial reporting. Our responsibility is to express opinions
on management's assessment and on the effectiveness of the Company's internal
control over financial reporting based on our audit. We conducted our audit
of internal control over financial reporting in accordance with the standards
38
of the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable
assurance about whether effective internal control over financial reporting
was maintained in all material respects. An audit of internal control over
financial reporting includes obtaining an understanding of internal control
over financial reporting, evaluating management's assessment, testing and
evaluating the design and operating effectiveness of internal control, and
performing such other procedures as we consider necessary in the
circumstances. We believe that our audit provides a reasonable basis for our
opinions.
A company's internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles. A company's
internal control over financial reporting includes those policies and
procedures that (i) pertain to the maintenance of records that, in reasonable
detail, accurately and fairly reflect the transactions and dispositions of the
assets of the company; (ii) provide reasonable assurance that transactions are
recorded as necessary to permit preparation of financial statements in
accordance with generally accepted accounting principles, and that receipts
and expenditures of the company are being made only in accordance with
authorizations of management and directors of the company; and (iii) provide
reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use, or disposition of the company's assets that could have a
material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting
may not prevent or detect misstatements. Also, projections of any evaluation
of effectiveness to future periods are subject to the risk that controls may
become inadequate because of changes in conditions, or that the degree of
compliance with the policies or procedures may deteriorate.
/s/ PricewaterhouseCoopers
San Jose, California
March 10, 2005
39
MICREL, INCORPORATED
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 2004 AND 2003
(In thousands, except share amounts)
______________________________________________________________________________
2004 2003
--------- ---------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 101,282 $ 140,059
Short-term investments 46,503 --
Accounts receivable, less allowances:
2004, $3,978; 2003, $2,836 32,055 33,084
Inventories 35,744 31,108
Prepaid expenses and other 2,488 2,132
Deferred income taxes 25,746 34,294
--------- ---------
Total current assets 243,818 240,677
LONG-TERM INVESTMENTS 2,012 --
PROPERTY, PLANT AND EQUIPMENT, NET 81,605 87,993
INTANGIBLE ASSETS, NET 6,375 5,771
DEFERRED INCOME TAXES -- 2,483
OTHER ASSETS 457 515
--------- ---------
TOTAL $ 334,267 $ 337,439
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 16,275 $ 12,897
Accrued compensation 4,899 5,240
Accrued commissions 1,292 1,302
Income taxes payable 4,960 7,627
Other accrued liabilities 5,974 5,610
Deferred income on shipments to distributors 13,648 12,272
Current portion of long-term debt 164 703
--------- ---------
Total current liabilities 47,212 45,651
LONG-TERM DEBT 83 3,280
OTHER LONG-TERM OBLIGATIONS 1,389 4,310
DEFERRED RENT 575 589
DEFERRED INCOME TAXES 121 --
COMMITMENTS AND CONTINGENCIES (Notes 9 and 11)
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:
2004 - 89,825,994; 2003 - 92,522,513 127,264 160,015
Deferred stock compensation (1,118) (3,954)
Accumulated other comprehensive loss (85) (25)
Retained earnings 158,826 127,573
--------- ---------
Total shareholders' equity 284,887 283,609
--------- ---------
TOTAL $ 334,267 $ 337,439
========= =========
The accompanying notes are an integral part of these consolidated financial
statements
40
MICREL, INCORPORATED
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002
(In thousands, except per share amounts)
______________________________________________________________________________
2004 2003 2002
--------- --------- ---------
NET REVENUES $ 257,551 $ 211,726 $ 204,704
COST OF REVENUES* 134,854 128,007 139,554
--------- --------- ---------
GROSS PROFIT 122,697 83,719 65,150
--------- --------- ---------
OPERATING EXPENSES:
Research and development 41,750 46,953 53,308
Selling, general and administrative 37,327 28,987 32,160
Amortization of deferred stock compensation* 1,986 3,034 22,535
Purchased in-process technology 303 -- --
Restructuring expense 584 286 5,536
Manufacturing facility impairment -- (624) 23,357
--------- --------- ---------
Total operating expenses 81,950 78,636 136,896
--------- --------- ---------
INCOME (LOSS) FROM OPERATIONS 40,747 5,083 (71,746)
--------- --------- ---------
OTHER INCOME (EXPENSE):
Interest income 2,167 1,337 2,014
Interest expense (313) (660) (499)
Other expense, net (142) (58) (459)
--------- --------- ---------
Total other income, net 1,712 619 1,056
--------- --------- ---------
INCOME (LOSS) BEFORE INCOME TAXES 42,459 5,702 (70,690)
PROVISION (BENEFIT) FOR INCOME TAXES 11,206 855 (29,690)
--------- --------- ---------
NET INCOME (LOSS) $ 31,253 $ 4,847 $ (41,000)
========= ========= =========
NET INCOME (LOSS) PER SHARE:
Basic $ 0.34 $ 0.05 $ (0.44)
========= ========= =========
Diluted $ 0.34 $ 0.05 $ (0.44)
========= ========= =========
WEIGHTED-AVERAGE SHARES USED IN
COMPUTING PER SHARE AMOUNTS:
Basic 91,498 92,215 92,600
========= ========= =========
Diluted 93,083 93,786 92,600
========= ========= =========
*Amortization of deferred stock
compensation:
Included in cost of revenues $ 535 $ 1,104 $ 7,354
========= ========= =========
Amortization of deferred stock compensation
included in operating expenses related to:
Research and development $ 723 $ 1,604 $ 11,430
Selling, general and administrative 1,263 1,430 11,105
--------- --------- ---------
Total operating expenses $ 1,986 $ 3,034 $ 22,535
========= ========= =========
The accompanying notes are an integral part of these consolidated financial
statements
41
MICREL, INCORPORATED
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
AND COMPREHENSIVE INCOME (LOSS)
YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002
(In thousands, except share amounts)
_________________________________________________________________________________________________________________________________
Accumulated Compre-
Common Stock Deferred Other Total hensive
--------------------- Stock Comprehensive Retained Shareholders' Income
Shares Amount Compensation Income(Loss) Earnings Equity (Loss)
----------- -------- ------------ ------------- --------- ------------- ---------
Balances, December 31, 2001 92,823,677 194,384 (44,755) (25) 163,726 313,330
Net loss -- -- -- -- (41,000) (41,000) $ (41,000)
---------
Comprehensive loss $ (41,000)
---------
Deferred stock compensation, net -- (4,895) 34,784 -- -- 29,889
Repurchase of common stock (2,274,300) (29,127) -- -- -- (29,127)
Employee stock transactions 1,457,194 8,943 -- -- -- 8,943
Tax effect of employee stock transactions -- (8,416) -- -- -- (8,416)
----------- -------- -------- -------- -------- --------
Balances, December 31, 2002 92,006,571 160,889 (9,971) (25) 122,726 273,619
Net income -- -- -- -- 4,847 4,847 $ 4,847
---------
Comprehensive income $ 4,847
---------
Deferred stock compensation, net -- (1,879) 6,017 -- -- 4,138
Repurchase of common stock (492,450) (6,493) -- -- -- (6,493)
Employee stock transactions 1,008,392 7,541 -- -- -- 7,541
Tax effect of employee stock transactions -- (43) -- -- -- (43)
----------- -------- -------- -------- -------- --------
Balances, December 31, 2003 92,522,513 160,015 (3,954) (25) 127,573 283,609
Net income -- -- -- -- 31,253 31,253 $ 31,253
---------
Other comprehensive loss, Change in net
unrealized losses from investments -- -- -- (60) -- (60) (60)
---------
Comprehensive income $ 31,193
---------
Deferred stock compensation, net -- (315) 2,836 -- -- 2,521
Repurchase of common stock (3,538,000) (39,388) -- -- -- (39,388)
Employee stock transactions 841,481 6,779 -- -- -- 6,779
Tax effect of employee stock transactions -- 173 -- -- -- 173
----------- -------- -------- -------- -------- --------
Balances, December 31, 2004 89,825,994 $127,264 $ (1,118) $ (85) $158,826 $284,887
=========== ======== ======== ======== ======== ========
The accompanying notes are an integral part of these consolidated financial
statements
42
MICREL, INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002
(In thousands)
______________________________________________________________________________
2004 2003 2002
--------- --------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 31,253 $ 4,847 $ (41,000)
Adjustments to reconcile net income (loss) to
net cash provided by operating activities:
Depreciation and amortization 24,828 28,649 33,910
Stock based compensation 2,521 4,138 29,889
Purchased in-process technology 303 -- --
Manufacturing facility impairment -- (624) 23,357
(Gain) loss on disposal of assets 283 56 (1)
Deferred rent (14) 22 (453)
Deferred income taxes 11,592 3,657 (15,948)
Changes in operating assets and liabilities,
net of effects of acquisition:
Accounts receivable 1,703 (3,507) (1,368)
Inventories (4,456) 8,423 (4,137)
Prepaid expenses and other assets (156) 418 4,157
Accounts payable 2,967 (129) 289
Accrued compensation (388) (163) (3,093)
Accrued commissions (10) 357 137
Income taxes payable (2,494) 4,178 (3,120)
Other accrued liabilities 18 1,313 1,859
Other non-current accrued liabilities (2,921) (3,377) 4,121
Deferred income on shipments
to distributors 1,376 2,440 55
--------- --------- ---------
Net cash provided by operating activities 66,405 50,698 28,654
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment (16,917) (21,139) (29,532)
Purchase of intangible assets (1,030) -- (2,054)
Purchases of investments (57,575) -- --
Proceeds from sales and maturities
of investments 9,000 -- 3,093
Purchase of BlueChip Communications, net of
cash acquired (2,033) -- --
--------- --------- ---------
Net cash used in investing activities (68,555) (21,139) (28,493)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from long-term borrowings -- -- 10,736
Repayments of long-term debt (4,018) (7,911) (3,756)
Proceeds from the issuance of common stock 6,779 7,541 8,943
Repurchase of common stock (39,388) (6,493) (29,127)
--------- --------- ---------
Net cash used in financing activities (36,627) (6,863) (13,204)
--------- --------- ---------
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS (38,777) 22,696 (13,043)
CASH AND CASH EQUIVALENTS - Beginning of year 140,059 117,363 130,406
--------- --------- ---------
CASH AND CASH EQUIVALENTS - End of year $ 101,282 $ 140,059 $ 117,363
========= ========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION:
Cash paid during the year for:
Interest $ 313 $ 660 $ 286
========= ========= =========
Income taxes $ 2,184 $ 661 $ 91
========= ========= =========
Non-cash transactions:
Acquisition of intangible asset under patent
cross license and settlement agreement $ -- $ -- $ 5,154
========= ========= =========
Deferred stock compensation reversal $ (315) $ (1,879) $ (4,895)
========= ========= =========
The accompanying notes are an integral part of these consolidated financial
statements
43
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years Ended December 31, 2004, 2003 and 2002
1. SIGNIFICANT ACCOUNTING POLICIES
Nature of Business - Micrel, Incorporated and its wholly-owned
subsidiaries (the "Company") develops, manufactures and markets analog,
mixed-signal and digital semiconductor devices. The Company also provides
custom and foundry services which include silicon wafer fabrication,
integrated circuit ("IC") assembly and testing. The Company's standard ICs
are sold principally in North America, Asia, and Europe for use in a
variety of products, including those in the computer, communication, and
industrial markets. The Company's custom circuits and wafer foundry
services are provided to a wide range of customers that produce electronic
systems for communications, consumer, automotive and military
applications. The Company produces the majority of its wafers at the
Company's wafer fabrication facilities located in San Jose, California.
After wafer fabrication, the completed wafers are then separated into
individual circuits and packaged at independent assembly and final test
contract facilities primarily located in Malaysia.
Principles of Consolidation - The accompanying consolidated financial
statements include the accounts of Micrel, Incorporated and its wholly-
owned subsidiaries. All significant intercompany accounts and transactions
have been eliminated.
Use of Estimates - In accordance with accounting principles generally
accepted in the United States of America, management utilizes certain
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 judgments. Management
bases its estimates and judgments 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. The primary estimates underlying the
Company's financial statements include allowances for doubtful accounts
receivable, reserves for product returns and price adjustments, reserves
for obsolete and slow moving inventory, income taxes, litigation and
accrual for other liabilities. Actual results could differ from those
estimates.
Cash Equivalents - The Company considers all liquid debt instruments
purchased with remaining maturities of three months or less to be cash
equivalents.
Investments - Short-term and long-term investments consist primarily of
liquid debt instruments and are classified as available-for-sale securities
and are stated at market value with unrealized gains and losses included in
shareholders' equity. Unrealized losses are charged against income when a
decline in the fair market value of an individual security is determined to
be other than temporary. Realized gains and losses on investments are
included in other income or expense. Investments purchased with remaining
maturity dates of greater than three months and less than 12 months are
classified as short-term. Investments purchased with remaining maturity
dates of 12 months or greater are classified either as short-term or as
long-term based on maturities and the Company's intent with regards to those
securities (expectations of sales and redemptions). A summary of investments
at December 31, 2004 is as follows (in thousands):
A summary of investments at December 31, 2004 is as follows (in thousands):
Unrealized Unrealized
Amortized Market Holding Holding
Cost Value Gains Losses
---------- ---------- ---------- -----------
Short-term investments $ 46,573 $ 46,503 $ -- $ 70
Long-term investments $ 2,027 $ 2,012 $ -- $ 15
44
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
As of December 31, 2004, all investments with unrealized loss positions
have been in such positions for twelve months or less.
Certain Significant Risks and Uncertainties - Financial instruments that
potentially subject the Company to concentrations of credit risk consist
of cash and cash equivalents, investments and accounts receivable. Risks
associated with cash are mitigated by banking with creditworthy
institutions. Cash equivalents and investments consist primarily of
commercial paper, bank certificates of deposit, money market funds and
auction rate securities and are regularly monitored by management. Credit
risk with respect to the trade receivables is spread over geographically
diverse customers. The Company performs ongoing credit evaluations of its
customers and maintains an allowance for potential credit losses. At
December 31, 2004, two customers accounted for 18% and 15% of total
accounts receivable. At December 31, 2003, two customers accounted for 19%
and 13% of total accounts receivable. For the year ended December 31, 2004
three customers, an Asian based original equipment manufacturer, a
worldwide distributor and an Asian based stocking representative,
accounted for 13%, 12% and 12%, respectively, of the Company's net
revenues. For the year ended December 31, 2003 two customers, a worldwide
distributor and an Asian based stocking representative, each accounted for
13% of the Company's net revenues. For the year ended December 31, 2002
an Asian based stocking representative accounted for 13% of the Company's
net revenues.
Micrel currently purchases certain components from a limited group of
vendors. The packaging of the Company's products is performed by, and
certain of the raw materials included in such products are obtained from,
a limited group of suppliers. The wafer supply for the Company's Ethernet
products is currently dependent upon a single large third-party wafer
foundry supplier. Although the Company seeks to reduce its dependence on
its sole and limited source suppliers, disruption or termination of any of
these sources could occur and such disruptions could have an adverse
effect on the Company's financial condition, results of operations, or
cash flows.
The Company participates in a dynamic high technology industry and
believes that changes in any of the following areas could have a material
adverse effect on the Company's future financial position, results of
operations, or cash flows: changes in the overall demand for products
offered by the Company; competitive pressures in the form of new products
or price reductions on current products; advances and trends in new
technologies and industry standards; changes in product mix; changes in
third-party manufacturers; changes in key suppliers; changes in certain
strategic relationships or customer relationships; litigation or claims
against the Company based on intellectual property, patents (Note 11),
product, regulatory or other factors; risks associated with the ability to
obtain necessary components; risks associated with the Company's ability
to attract and retain employees necessary to support its growth.
Inventories - Inventories are stated at the lower of cost (first-in,
first-out method) or market. The Company records 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. 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."
45
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
Property, Plant and Equipment - Equipment, building and leasehold
improvements are stated at cost and depreciated using the straight-line
method. Equipment is depreciated over estimated useful lives of three to
five years. Buildings are depreciated over an estimated useful life of
thirty years. Building improvements are depreciated over estimated useful
lives of fifteen to thirty years. Leasehold improvements are amortized
over the shorter of the lease term or the useful lives of the improvements
which is generally 3 to 5 years.
Intangible Assets - On January 1, 2002, the Company adopted SFAS No. 142,
"Goodwill and Other Intangible Assets." SFAS No. 142 supersedes Accounting
Principles Board Opinion No. 17, "Intangible Assets," and discontinues the
amortization of goodwill. In addition, SFAS No. 142 includes provisions
regarding: 1) reclassification of amounts between goodwill and
identifiable intangible assets in accordance with the new definition of
identifiable intangible assets set forth in Statement of Financial
Accounting Standards No. 141, "Business Combinations;" 2) reassessment of
the useful lives of existing recognized intangibles; and 3) testing for
impairment of existing goodwill and other intangibles using the discounted
cash flow method. In accordance with SFAS No. 142, beginning January 1,
2002, goodwill is no longer amortized, but is reviewed at least annually
for impairment. The Company has no goodwill. The Company has determined
that its intangible assets were not impaired at December 31, 2004 and
2003. Acquired technology, patents and other intangible assets continue to
be amortized over their estimated useful lives of 3 to 7 years using the
straight-line method. No changes were made to the useful lives of
amortizable intangible assets or the classification of intangible assets
to goodwill in connection with the adoption of SFAS No. 142. Components of
intangible assets were as follows (in thousands):
As of December 31, 2004 As of December 31, 2003
-------------------------------- -------------------------------
Gross Net Gross Gross
Carrying Accumulated Carrying Carrying Accumulated Carrying
Amount Amortization Amount Amount Amortization Amount
-------- ------------ -------- -------- ------------ --------
Developed and core technology $ 8,718 $ 7,209 $ 1,509 $ 6,843 $ 6,669 $ 174
Patents and tradename 8,717 4,009 4,708 8,492 2,895 5,597
Customer relationships 1,455 1,297 158 1,172 1,172 --
-------- -------- -------- -------- -------- --------
$ 18,890 $ 12,515 $ 6,375 $ 16,507 $ 10,736 $ 5,771
======== ======== ======== ======== ======== ========
Total intangible amortization expense for the year ended December 31, 2004
was $1.8 million and for the year ended 2003 was $2.6 million. Estimated
future intangible amortization expense for intangible assets as of
December 31, 2004, is expected to be approximately $1.5 million for each
of the years 2005 through 2008 and $527,000 in 2009.
Impairment of Long-Lived Assets - Pursuant to SFAS No. 144, "Accounting
for the Impairment or Disposal of Long-Lived Assets," the Company
periodically assesses whether long-lived assets have been impaired. An
asset is deemed to be impaired if its estimated future undiscounted cash
flows are less than the carrying value recorded on the Company's balance
sheet. The Company's estimate of fair value is based on either fair market
value information if available or based on the net present value of
expected future cash flows attributable to the asset. Predicting future
cash flows attributable to a particular asset is difficult, and requires
the use of significant judgment.
46
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
Revenue Recognition and Receivables - 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 or determinable and collection of
the resulting receivable is reasonably assured.
Micrel allows certain distributors, primarily located in North America and
Europe, and to a lesser extent Asia, significant return rights, price
protection and pricing adjustments subsequent to the initial product
shipment. As these returns and price concessions have historically been
significant, and future returns and price concessions are difficult to
reliably estimate, the Company 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. Although
revenue recognition and related cost of sales are deferred, the Company
records an accounts receivable and relieves inventory at the time of
initial product shipment. As standard terms are FOB shipping point,
payment terms are enforced from shipment date and legal title and risk of
inventory loss passes to the distributor upon shipment. In addition, the
Company may offer to its distributors, where revenue is deferred upon
shipment and recognized on a sell-through basis, price adjustments to
allow the distributor to price the Company's products competitively for
specific resale opportunities. The Company estimates and records an
allowance for distributor price adjustments for which the specific resale
transaction has been completed, but the price adjustment claim has not yet
been received and recorded by the Company.
Sales to OEM customers and Asian based stocking representatives are
recognized upon shipment. The Company does not grant return rights, price
protection or pricing adjustments to OEM customers. The Company offers
limited contractual stock rotation rights to stocking representatives. In
addition, the Company is not contractually obligated to offer, but may
infrequently grant, price adjustments or price protection to certain
stocking representatives on an exception basis. At the time of shipment to
OEMs and stocking representatives, an allowance for returns and price
adjustments is established based upon historical return rates.
The Company's accounts receivables balances represent trade accounts
receivables which have been recorded at invoiced amount and do not bear
interest. The Company maintains an allowance for doubtful accounts for
estimated uncollectible accounts receivable. This estimate is based on an
analysis of specific customer creditworthiness and historical bad debts
experience.
Warranty Costs - The Company warrants products against defects for a
period of up to 30 days. The majority of Micrel's product warranty claims
are settled through the return of defective product and the reshipment of
replacement product. Warranty returns are included in Micrel's allowance
for returns, which is based on historical return rates. Actual future
returns could be different than the returns allowance established. In
addition, Micrel accrues a liability for specific warranty costs that are
expected to be settled other than through product return and replacement.
As of December 31, 2004 accrued warranty expense was $131,000. Future
actual warranty costs may be different from the accrued warranty expense.
47
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
Research and Development Expenses - Research and development expenses are
recognized as incurred and include costs associated with the development
of new wafer fabrication processes and the definition, design and
development of standard 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.
Self Insurance - The Company typically utilizes third-party insurance
subject to varying retention levels or self insurance. The Company is self
insured for a portion of the losses and liabilities primarily associated
with workers' compensation claims and health benefit claims. Losses are
accrued based upon the Company's estimates of the aggregate liability for
claims incurred using historical experience and certain actuarial
assumptions followed in the insurance industry.
Advertising Expenses - The Company expenses advertising costs as incurred.
Advertising expenses for fiscal 2004, 2003 and 2002 were $1.6 million,
$1.0 and $2.8 million respectively.
Income Taxes - Deferred tax assets and liabilities result primarily from
temporary differences between book and tax bases of assets and
liabilities, state and federal research and development credit
carryforwards and state manufacturers credit carryforwards. The Company
had net current deferred tax assets of $25.7 million and net long-term
deferred tax liabilities of $121,000 as of December 31, 2004. The Company
must assess the likelihood that future taxable income levels will be
sufficient to ultimately realize the tax benefits of these deferred tax
assets. The Company currently 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.
In addition, the calculation of the Company's tax liabilities involves
dealing with uncertainties in the application of complex tax regulations.
The Company records liabilities for anticipated tax audit issues based on
its estimate of whether, and the extent to which, additional taxes may be
due.
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".
Beginning in 1996, the Company began to follow a practice of granting
employee stock options on the date with the lowest closing price within
the thirty-day period subsequent to the employee's date of hire (the
"Thirty-Day Method"). The Company continued to utilize this method
generally but not uniformly, both for new hires and for replenishment
grants to existing employees, until December 20, 2001. At that time, the
Company determined that options granted using the Thirty-Day Method were
compensatory under APB No 25, and discontinued use of the Thirty-Day
Method thereafter. For financial reporting purposes, per APB No 25, the
measurement date for determining compensation cost in stock option plans
is the first date on which are known both (1) the number of shares that an
individual is entitled to receive and (2) the option purchase price.
Compensation cost is calculated for any difference between the option
exercise price and the fair market value on the measurement date. When
applying APB 25 to the Thirty-Day Method described above, the measurement
date was the thirtieth day following a new-hire's commencement of
employment, when the lowest price (the exercise price) within the first
thirty days following employment commencement was known. Compensation
expense related to options granted under the Thirty-Day Method was
calculated based on the price difference between the exercise price and
48
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
the closing price on the thirtieth day following a new-hire's commencement
of employment multiplied by the number of options granted and recognized
as expense over the vesting period (generally five years). The Company is
continuing to recognize stock compensation expense for amortization of
options granted under the Thirty-Day method.
In addition to the stock options granted using the Thirty-Day Method,
Micrel assumed certain stock options granted to employees of Kendin
Communications in connection with the acquisition of Kendin Communications
in the second quarter of 2001. Because the fair market value of the
shares subject to those options assumed in the Kendin acquisition exceeded
their exercise prices as of the date Micrel assumed them, the Company
recorded deferred stock compensation expense for the unvested portion of
the assumed options.
Deferred stock compensation expense balances are recorded as a contra-
equity amount and amortized as a charge to operating results over the
applicable vesting periods. As of December 31, 2004 total unamortized
stock compensation related to the Thirty-Day Method and the Kendin
Communication acquisition noted above was $1.1 million with an anticipated
future amortization schedule of $822,000 in 2005 and $296,000 in 2006.
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 as of the beginning of fiscal 1995. Under
SFAS No. 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. Calculations are based on a
multiple option valuation approach with forfeitures recognized as they
occur and the following weighted average assumptions:
Years Ended December 31,
----------------------------
2004 2003 2002
-------- -------- --------
Expected life (months) 60 60 60
Stock volatility 84.0% 85.4% 86.1%
Risk free interest rates 3.4% 2.9% 2.9%
Dividends during expected terms none none none
The weighted average fair value of options granted under the stock option
plans during 2004, 2003 and 2002 was $8.45, $11.39 and $12.42 per share,
respectively.
49
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
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:
Years Ended December 31,
----------------------------
2004 2003 2002
-------- -------- --------
Expected life (months) 6 6 6
Stock volatility 84.0% 85.4% 86.1%
Risk free interest rates 1.8% 1.0% 2.9%
Dividends during expected terms none none none
The weighted average fair value of stock issued under the employee stock
purchase plan during 2004, 2003 and 2002 was $4.90, $3.87 and $7.12 per
share.
SFAS No. 148 was issued in December 2002 and requires 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):
Years Ended December 31,
----------------------------
2004 2003 2002
-------- -------- --------
Net income (loss) as reported $ 31,253 $ 4,847 $(41,000)
Add: stock-based employee compensation
expense included in reported net income
(loss), net of tax effects 1,533 2,516 18,173
Deduct: stock-based employee compensation
expense determined under fair value based
method, net of tax effects (11,104) (12,851) (18,646)
-------- -------- --------
Pro forma net income (loss) $ 21,682 $ (5,488) $(41,473)
======== ======== ========
Net income (loss) per share as reported:
Basic $ 0.34 $ 0.05 $ (0.44)
======== ======== ========
Diluted $ 0.34 $ 0.05 $ (0.44)
======== ======== ========
Pro forma net income (loss) per share:
Basic $ 0.24 $ (0.06) $ (0.45)
======== ======== ========
Diluted $ 0.24 $ (0.06) $ (0.45)
======== ======== ========
Net Income (Loss) per Share - Basic earnings per share ("EPS") is computed
by dividing net income (loss) by the number of weighted-average common
shares outstanding. Diluted EPS reflects potential dilution from
outstanding stock options, using the treasury stock method. The
computation of diluted net loss per share, in 2002, excludes common
equivalent shares since they are anti-dilutive in a loss period.
Reconciliation of weighted-average shares used in computing earnings per
share is as follows (in thousands):
Years Ended December 31,
-------------------------------
2004 2003 2002
--------- --------- ---------
Weighted-average common shares outstanding 91,498 92,215 92,600
Dilutive effect of stock options outstanding,
using the treasury stock method 1,585 1,571 --
--------- --------- ---------
Shares used in computing diluted earnings
per share 93,083 93,786 92,600
========= ========= =========
50
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
For the years ended December 31, 2004, 2003 and 2002, 4.9 million, 3.9
million and 9.2 million stock options, respectively, have been excluded
from the weighted-average number of common shares outstanding for the
diluted net loss per share computations as they are anti-dilutive.
Fair Value of Financial Instruments - Financial instruments included in
the Company's consolidated balance sheets at December 31, 2004 and 2003,
consist of cash, cash equivalents, accounts receivable and accounts
payable, short-term and long-term investments and long-term debt. For
cash, the carrying amount is the fair value. The carrying amount for cash
equivalents, accounts receivable and accounts payable approximates fair
value because of the short maturity of those instruments. The fair value
of short-term and long-term investments are based on quoted market prices.
The fair value of long-term debt approximates the carrying amount due to
the variable interest rate.
New Accounting Standards - In March 2004, the Financial Accounting
Standards Board ("FASB") Emerging Issues Task Force ("EITF") reached a
consensus on recognition and measurement guidance previously discussed
under EITF Issue No. 03-01, "The Meaning of Other-Than-Temporary
Impairment and Its Application to Certain Investments." ("EITF 03-01").
The consensus clarifies the meaning of other-than-temporary impairment and
its application to investments in debt and equity securities, in
particular investments within the scope of FASB Statement No. 115,
"Accounting for Certain Investments in Debt and Equity Securities," and
investments accounted for under the cost method. In September 2004, the
FASB delayed the accounting provisions of EITF Issue No 03-01; however the
disclosure requirements remain effective and have been adopted by the
Company for the year ended December 31, 2004. The Company will evaluate
the effect, if any, of EITF Issue No. 03-01 when final guidance is issued.
In April 2004, the Emerging Issues Task Force issued Statement No. 03-06
"Participating Securities and the Two-Class Method Under FASB Statement
No. 128, Earnings Per Share" ("EITF 03-06"). EITF 03-06 addresses a
number of questions regarding the computation of earnings per share by
companies that have issued securities other than common stock that
contractually entitle the holder to participate in dividends and earnings
of the company when, and if, it declares dividends on its common stock.
The issue also provides further guidance in applying the two-class method
of calculating earnings per share, clarifying what constitutes a
participating security and how to apply the two-class method of computing
earnings per share once it is determined that a security is participating,
including how to allocate undistributed earnings to such a security. EITF
03-06 became effective during the quarter ended June 30, 2004, the
adoption of which did not have any impact on the Company's calculation of
net income per share.
In November 2004, the FASB issued SFAS No. 151, "Inventory Costs," which
clarifies the accounting for abnormal amounts of idle facility expense,
freight, handling costs, and wasted material. SFAS No. 151 will be
effective for inventory costs incurred during fiscal years beginning after
June 15, 2005. The Company is currently evaluating the potential impacts,
if any, that the adoption of SFAS No. 151 may have on the Company's
consolidated financial statements.
In December 2004, the FASB issued SFAS 153, Exchanges of Nonmonetary
Assets, an amendment of APB No. 29, Accounting for Nonmonetary
Transactions. SFAS 153 requires exchanges of productive assets to be
accounted for at fair value, rather than at carryover basis, unless (1)
neither the asset received nor the asset surrendered has a fair value that
is determinable within reasonable limits or (2) the transactions lack
commercial substance. SFAS 153 is effective for nonmonetary asset
51
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
exchanges occurring in fiscal periods beginning after June 15, 2005. We do
not expect the adoption of this standard to have a material effect on the
Company's consolidated financial statements.
In December 2004, the FASB issued SFAS No. 123R, "Share-Based Payment".
SFAS No. 123R is a revision of SFAS No. 123, and supersedes APB 25. Among
other items, SFAS 123R eliminates the use of APB 25 and the intrinsic
value method of accounting, and requires companies to recognize the cost
of employee services received in exchange for awards of equity
instruments, based on the grant date fair value of those awards, in the
financial statements. The effective date of SFAS 123R is the first
reporting period beginning after June 15, 2005, which is third quarter
2005 for calendar year companies, although early adoption is allowed, SFAS
123R permits companies to adopt its requirements using either a "modified
prospective" method, or a "modified retrospective" method. Under the
"modified prospective" method, compensation cost is recognized in the
financial statements beginning with the effective date, based on the
requirements of SFAS 123R for all share-based payments granted after that
date, and based on the requirements of SFAS 123 for all unvested awards
granted prior to the effective date of SFAS 123R. Under the "modified
retrospective" method, the requirements are the same as under the
"modified prospective" method, but also permits entities to restate
financial statements of previous periods based on proforma disclosures
made in accordance with SFAS 123.
The Company currently utilizes a standard option pricing model (Black-
Scholes) to measure the fair value of stock options granted to employees.
While SFAS 123R permits entities to continue to use such a model, the
standard also permits the use of a "lattice" model. The Company has not
yet determined which model it will use to measure the fair value of
employee stock options upon the adoption of SFAS 123R.
The Company currently expects to adopt SFAS 123R effective July 1, 2005;
however, the Company has not yet determined which of the aforementioned
adoption methods it will use. Subject to a complete review of the
requirements of SFAS 123R, the Company expects that the adoption of SFAS
123R on July 1, 2005 will have an adverse impact on its results of
operations.
2. ACQUISITION
On March 3, 2004, Micrel acquired a controlling interest in BlueChip
Communications AS ("BlueChip") of Oslo, Norway. BlueChip is a fabless
semiconductor company that designs, develops and markets high performance
Radio Frequency integrated circuits and modules for the actuation and
connectivity markets. During 2004, Micrel acquired 100% of the
outstanding BlueChip common stock and options to purchase BlueChip common
stock in a cash-for-stock transaction. The acquisition was accounted for
as a purchase under SFAS 141 "Business Combinations" and, accordingly, the
results of operations of BlueChip from the date of acquisition forward
have been included in the Company's consolidated financial statements.
Under the terms of the agreement, Micrel paid approximately $2 million and
incurred approximately $300,000 in direct acquisition costs for the
outstanding BlueChip securities and options. The fair value of the
acquired assets exceeded the purchase price by $1.3 million. The Company
deferred $1.0 million of this excess amount as potential contingent
consideration of $1.0 million was payable, under the terms of the
agreement, if certain revenue and gross profit targets were met by the
BlueChip operations during calendar year 2004.
52
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
As of December 31, 2004, it was determined that the additional contingent
consideration of $1.0 million, which was initially recorded in the first
quarter of 2004, would not be payable as certain revenue and gross profit
targets were not achieved by the BlueChip operations and accordingly, has
been reversed in the fourth quarter of 2004. A summary of the purchase
price allocation recorded as of the acquisition date, and then as adjusted
for the final determination of the contingent consideration is as follows
(in thousands):
Allocation of Purchase Price for
BlueChip Communications
--------------------------------
Initially Adjusted for Final
Recorded at Determination
Acquisition of Contingent
Date Consideration
----------- ------------------
Current assets $ 1,117 $ 1,117
Equipment and other, net 44 28
Deferred tax assets 440 440
Intangible assets, purchased
in-process technology 480 303
Intangible assets, core technology 1,714 1,075
Intangible assets, customer relationships 450 282
Liabilities assumed (945) (945)
--------- ---------
Acquisition cost $ 3,300 $ 2,300
========= =========
Purchased in-process technology, which had not reached technological
feasibility and had no alternative future use, has been recorded as a
charge to the line item purchased in-process technology in the
consolidated statement of operations for the year ended December 31, 2004.
In-process technology costs consist of five research and development
projects that had not yet reached technological feasibility at the time of
acquisition. In addition, the amounts above which have been allocated to
existing technology and customer relationships are included in intangible
assets in the accompanying consolidated balance sheet. These intangible
assets are expected to be amortized over their useful lives of five and
three years, respectively. The amounts assigned to existing technology,
customer relationships and purchased in-process technology were determined
by management, based in part on a valuation by an independent appraisal
firm based on management's forecast of future revenues, cost of revenues
and operating expenses related to the purchased technologies. The
calculation gave consideration to relevant market sizes and growth
factors, expected industry trends, the anticipated nature and timing of
new product introductions, individual product cycles, and the estimated
lives of each of the products underlying the technology.
The Company has not presented supplemental pro-forma results of operations
reflecting the impact of the BlueChip acquisition as the effect is not
material.
In addition, Micrel has recorded an intangible asset of $800,000 for the
license of certain developed technology pursuant to a pre-acquisition
development and license agreement which was entered into with BlueChip in
2001. This intangible asset is being amortized over its estimated useful
life of five years.
53
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
3. INVENTORIES
Inventories at December 31 consist of the following (in thousands):
2004 2003
-------- --------
Finished goods $ 15,912 $ 9,787
Work in process 18,585 20,425
Raw materials 1,247 896
-------- --------
$ 35,744 $ 31,108
======== ========
4. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment at December 31 consist of the following (in
thousands):
2004 2003
-------- --------
Manufacturing equipment $170,364 $165,406
Land 6,635 6,635
Buildings and improvements 41,721 40,165
Leasehold improvements 662 585
Office furniture and research equipment 12,648 9,513
-------- --------
232,030 222,304
Accumulated depreciation and amortization (150,425) (134,311)
-------- --------
$ 81,605 $ 87,993
======== ========
5. OTHER ACCRUED LIABILITES
Other accrued liabilities at December 31 consist of the following (in
thousands):
2004 2003
-------- --------
Accrued current liability under patent
license agreement $ 1,852 $ 1,714
Accrued current restructuring expenses 2,021 2,072
Accrued workers compensation and health insurance 1,555 760
Accrued royalties -- 211
All other current accrued liabilities 546 853
-------- --------
$ 5,974 $ 5,610
======== ========
6. BORROWING ARRANGEMENTS
Borrowing arrangements consist of a $5 million revolving line of credit
from a commercial bank. The revolving line of credit agreement includes a
provision for the issuance of commercial or standby letters of credit by
the bank on behalf of the Company. The value of all letters of credit
outstanding reduces the total line of credit available. There were no
borrowings under the revolving line of credit at December 31, 2004, and
there were $875,000 in standby letters of credit outstanding. 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 (5.25% at December 31, 2004), or the
bank's revolving offshore rate, which approximates LIBOR (2.6% at December
31, 2004) 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 December 31, 2004.
54
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
In September 2002, the Company borrowed $10.7 million through a commercial
mortgage financing agreement which was associated with the purchase of its
previously leased manufacturing facilities in San Jose, CA. Borrowings
under this agreement bear interest, at the Company's election, at the
daily floating prime rate, or adjustable monthly LIBOR plus 1.5%. The
principal balance of the loan is to 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, with no early
payment penalty. In December 2003, the company repaid $7.0 million of the
loan. In October 2004, the Company repaid the remaining loan balance of
$3.3 million resulting in no balance outstanding at December 31, 2004.
Associated with the acquisition of BlueChip Communications, the Company
has $247,000 outstanding in term notes payable to the Norwegian Industrial
and Regional Development Fund.
Long-term debt at December 31 consists of the following (in thousands):
2004 2003
-------- --------
Notes payable bearing interest at quarterly adjustable
rate based on LIBOR plus 2.75%, payable in monthly
installments through December 2004 and collateralized
by equipment financed $ -- $ 500
Notes payable bearing interest at prime. Balance
repaid in full in October 2004. -- 3,483
Notes payable bearing interest at 9.5%, payable in
quarterly installments through March 2006. 247 --
-------- --------
Total debt 247 3,983
Current portion (164) (703)
-------- --------
Long-term debt $ 83 $ 3,280
======== ========
Maturities of long-term debt subsequent to December 31, 2004 are as
follows: $164,000 in 2005 and $83,000 in 2006.
7. SHAREHOLDERS' EQUITY
Preferred Stock
The Company has authorized 5,000,000 shares of preferred stock, no par
value, of which none were issued or outstanding at December 31, 2004. The
preferred stock may be issued from time to time in one or more series. The
Board of Directors is authorized to determine or alter the rights,
preferences, privileges and restrictions of such preferred stock.
Stock Repurchase Plan
In August 2004, Micrel's Board of Directors amended the Company's common
stock repurchase program and authorized the repurchase of common stock up
to a maximum value of $75 million during the period from January 1, 2004
through June 30, 2005. 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) plan. The Company repurchased 3,538,000 shares
of its common stock for $39.4 million during the year ended December 31,
2004 and 492,450 shares for $6.5 million during the year ended
December 31, 2003.
55
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
In March of 2005 the Board of Directors approved a $75 million share
repurchase program for calendar year 2005. The action supercedes the
Company's previously approved authorization to repurchase Micrel common
stock announced on August 30, 2004.
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, with a
weighted-average exercise price of $32.67, 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.
As discussed in Note 1, the Company accounts for its stock-based awards
using the intrinsic value method in accordance with APB No. 25,
"Accounting for Stock Issued to Employees" and its related
interpretations. Certain of the Company's practices in effect through
December 2001, related to employee stock option pricing resulted in stock
compensation expense under APB No. 25. During the fourth quarter of 2002,
the Company recorded $17.1 million in accelerated amortization of deferred
stock compensation associated with options cancelled pursuant to the
employee option exchange program discussed above.
Stock Option Plans
Under the Company's 2003 Incentive Award Plan, 1994 Stock Option Plan and
its 2000 Non-Qualified Stock Incentive Plan (the "Option Plans"),
35,958,672 shares of Common Stock are authorized for issuance to
employees. The Option Plans provide that the option price will be
determined by the Board of Directors at a price not less than the fair
value as represented by the closing price of the Company's Common Stock on
the last market trading day before the date of grant. Certain
shareholder/employees of the Company are granted options at 110% of the
current fair market value. Options granted under the 2000 Non-Qualified
Stock Incentive Plan are exercisable in 20% increments with the initial
20% vesting occurring six months after the date of grant and then in
annual increments of 20% per year from the date of grant. Options granted
under the 2003 Incentive Award Plan and 1994 Stock Option Plan typically
become exercisable in not less than cumulative annual increments of 20%
per year from the date of grant. At December 31, 2004, 14,258,970 total
shares were reserved for future issuance, of which 2,161,887 shares were
available for future grants under the Option Plans. Option activity under
the Option Plans is as follows:
56
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
Weighted
Average
Number Exercise
of Shares Price
----------- ---------
Outstanding, December 31, 2001 (5,102,650 exercisable
at a weighted average price of $12.39 per share) 14,191,340 $ 17.96
Granted 1,069,620 18.36
Exercised (1,199,771) 5.36
Canceled (4,839,695) 30.79
-----------
Outstanding, December 31, 2002 (5,625,721 exercisable
at a weighted average price of $11.25 per share) 9,221,494 12.92
Granted 3,725,003 11.39
Exercised (738,195) 7.11
Canceled (690,317) 14.36
-----------
Outstanding, December 31, 2003 (7,353,219 exercisable
at a weighted average price of $11.94 per share) 11,517,985 12.72
Granted 1,665,000 12.43
Exercised (607,989) 7.53
Canceled (477,913) 15.04
-----------
Outstanding, December 31, 2004 12,097,083 $ 12.85
===========
Additional information regarding options outstanding as of December 31,
2004 is as follows:
Stock Options Outstanding Options Exercisable
- ---------------------------------------------------- ---------------------
Weighted
Average Weighted Weighted
Remaining Average Average
Range of Number Contractual Exercise Number Exercise
Exercise Prices Outstanding Life(yrs) Price Exercisable Price
- ---------------- ----------- ----------- -------- ----------- --------
$ 0.47 to $ 6.37 878,670 3.2 $ 5.39 864,270 $ 5.39
$ 6.38 to $12.75 6,376,866 6.3 9.73 4,196,344 9.37
$12.76 to $19.13 3,415,665 6.5 15.21 2,027,525 15.61
$19.14 to $25.52 1,020,324 5.3 21.42 840,023 21.07
$25.53 to $31.90 166,218 5.6 29.61 130,098 29.92
$31.91 to $38.28 68,200 5.6 34.41 58,060 34.39
$38.29 to $44.66 114,540 5.5 41.86 91,680 41.86
$44.67 to $51.05 56,600 5.4 49.50 45,200 49.50
---------- ---------
$ 0.47 to $51.05 12,097,083 6.0 $12.85 8,253,200 $12.76
========== =========
Employee Stock Purchase Plan
Under the 1994 Employee Stock Purchase Plan, amended and restated as of
January 1, 1996, (the "Purchase Plan"), eligible employees are permitted
to have salary withholdings to purchase shares of Common Stock at a price
equal to 85% of the lower of the market value of the stock at the
beginning or end of each six-month offer period, subject to an annual
limitation. Shares of Common Stock issued under the Purchase Plan were
233,492 in 2004, 270,197 in 2003 and 257,423 in 2002, at weighted average
prices of $9.41, $8.49 and $9.59, respectively. At December 31, 2004,
there were 2,076,021 shares of Common Stock issued under the Purchase Plan
and 323,979 shares are reserved for future issuance under the Purchase
Plan.
57
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
8. INCOME TAXES
The provision (benefit) for income taxes for the years ended December 31
consists of the following (in thousands):
2004 2003 2002
--------- --------- ---------
Currently payable (receivable):
Federal $ (27) $ (904) $ (15,177)
State 81 (1,898) 1,435
--------- --------- ---------
Total currently payable (receivable) 54 (2,802) (13,742)
--------- --------- ---------
Deferred income taxes:
Federal 10,775 5,780 (9,234)
State 377 (2,123) (6,714)
--------- --------- ---------
Total deferred 11,152 3,657 (15,948)
--------- --------- ---------
Total provision (benefit) $ 11,206 $ 855 $ (29,690)
========= ========= =========
The calculation of the Company's tax liabilities involves dealing with
uncertainties in the application of complex tax regulations. The Company
records liabilities for anticipated tax audit issues based on its estimate
of whether, and the extent to which, additional taxes may be due. Actual
tax liabilities may be different than the recorded estimates and could
result in an additional charge or benefit to the tax provision in the
period when the ultimate tax assessment is determined.
During the second quarter of 2004, the Company reversed $3.8 million of
accrued income tax liabilities as a result of the completion of a federal
income tax audit. In May 2004, the Company received an audit report from
the Internal Revenue Service ("IRS") which recommended no changes to
Micrel's federal tax return filings covering the tax years 1994 through
2001. In addition, the Company subsequently received a notice dated July
6, 2004 from the Joint Committee on Taxation which stated that the
committee took no exceptions to conclusions in the IRS audit report. This
reversal of accrued income tax liabilities was recorded as a reduction to
provision for income taxes in the second quarter of 2004.
In addition, related to the federal tax audit completion, the Company also
reversed in operating expenses $3.9 million (offset in part by a $1.4
million income tax effect) in accrued payroll tax liabilities, which were
recorded in prior periods.
The effects of these accrued tax liability reversals on the below-noted
items in the Company's statement of operations for the year ended December
31, 2004 is summarized as follows (in thousands):
Reversal of accrued payroll tax liabilities:
Cost of revenues $ (1,111)
Research and development (1,697)
Selling, general and administrative (1,140)
---------
Total reversed in operating expense (3,948)
Income tax effect of payroll tax liability reversal 1,382
Reversal of accrued income tax liabilities (3,760)
---------
Net income (loss) $ 6,326
=========
58
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
A reconciliation of the statutory federal income tax rate to the effective
tax rate for the years ended December 31 is as follows:
2004 2003 2002
--------- --------- ---------
Statutory federal income tax rate 35% 35% (35)%
State income taxes (net of federal
income tax benefit) 1 (21) (7)
Extraterritorial income exclusion (3) -- --
Effects of reversal of accrued income
tax liabilities (9) -- --
Other 2 1 --
----- ----- -----
Effective tax rate 26% 15% (42)%
===== ===== =====
Deferred tax assets and liabilities result primarily from temporary
differences between book and tax bases of assets and liabilities, state
and federal research and development credit carryforwards and state
manufacturers credit carryforwards.
Deferred tax assets and liabilities at December 31 are as follows (in
thousands):
2004 2003
-------- --------
Deferred tax assets:
Accruals and reserves not currently deductible $ 11,566 $ 13,143
Deferred income 5,595 5,093
Tax net operating loss and credit carryforwards 20,181 25,928
Capitalized research and development 2,749 4,412
-------- --------
Total deferred tax asset 40,091 48,576
-------- --------
Deferred tax liabilities:
Depreciation (6,480) (3,592)
State income taxes (7,986) (8,119)
Intangible assets -- (88)
-------- --------
Total deferred tax liability (14,466) (11,799)
-------- --------
Net deferred tax asset (current and non-current) $ 25,625 $ 36,777
======== ========
The Company must assess the likelihood that future taxable income levels
will be sufficient to ultimately realize the tax benefits of these
deferred tax assets. The Company currently 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. Should
the Company determine that future realization of these tax benefits is not
likely, a valuation allowance would be established, which would increase
the Company's tax provision in the period of such determination.
Included in net deferred assets are net operating loss and credit
carryforwards. Due to the Company's acquisition of Synergy, the Company
has available pre-ownership change federal net operating loss
carryforwards of approximately $6 million which will begin to expire in
2006 if not utilized. Under Section 382 of the Internal Revenue Code,
these pre-ownership change net operating loss carryforwards are subject to
an annual limitation estimated to be approximately $500,000. The Company
believes that it is more likely than not that these net operating loss
carryforwards will be utilized before expiration. In addition, the Company
has available state credit carryforwards of approximately $17 million
consisting primarily of research credit carryforwards, of which
approximately $2 million represents pre-ownership change carryforwards
59
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
subject to the Section 382 annual limitation. The state research credit
carryforwards are not subject to expiration and may be carried forward
indefinitely until utilized.
9. COMMITMENTS AND CONTINENCIES
Lease Agreements
The Company leases some of its facilities and equipment under operating
lease agreements that expire in the years 2005 through and 2011. Some of
the facility lease agreements provide for escalating rental payments over
the lease periods. Rent expense is recognized on a straight-line basis
over the term of the lease. Deferred rent represents the difference
between rental payments and rent expense recognized on a straight-line
basis.
Future minimum payments under these agreements are as follows (in
thousands):
Year Ending December 31,
2005 $ 3,305
2006 2,813
2007 1,294
2008 1,246
2009 1,280
Thereafter 1,601
--------
$ 11,539
========
The contractual lease payments above include amounts associated with the
Company's Santa Clara, California wafer fabrication facility, of which
$4.1 million and $584,000 related to leases has been recognized in 2002
and 2004, respectively as restructuring expense associated with the
Company's plan to close this facility (Note 13).
Rent expense under operating leases for the years ended December 31, 2004,
2003, and 2002 was (in thousands): $1,475, $2,283 and $4,131,
respectively.
Open Purchase Orders
As of December 31, 2004, the Company had approximately $22 million in open
purchase orders. Open purchase orders are defined as agreements to
purchase goods or services that are enforceable and legally binding and
that specify all significant terms, including: fixed or minimum quantities
to be purchased; fixed, minimum or variable pricing provisions; and the
approximate timing of the transactions. These obligations primarily relate
to future purchases of wafer fabrication raw materials, foundry wafers,
assembly and testing services and manufacturing equipment. The amounts are
based on our contractual commitments.
60
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
Letters of Credit
Micrel's borrowing arrangements (see Note 6) include a provision for the
issuance of commercial or standby letters of credit by the bank on behalf
of the Company. At December 31, 2004 there were $875,000 in standby
letters of credit outstanding. The letters of credit are issued to
guarantee payments for the Company's workers compensation program.
Indemnification Obligations
Micrel is a party to a variety of contractual relationships pursuant under
which it may be obligated to indemnify the other party with respect to
certain matters. Typically, these obligations arise in the context of
contracts entered into by Micrel, or regular sales and purchasing
activities, under which Micrel may agree to hold the other party harmless
against losses arising from claims related to such matters as title to
assets sold, certain intellectual property rights, specified environmental
matters, certain income taxes, etc. In these circumstances,
indemnification by Micrel is customarily conditioned on the other party
making a claim pursuant to the procedures specified in the particular
contract or in Micrel's standard terms and conditions, which procedures
may allow Micrel to challenge the other party's claims, or afford Micrel
the right to settle such claims in its sole discretion. Further, Micrel's
obligations under these agreements may be limited in terms of time and/or
amount, and in some instances, Micrel may have recourse against third
parties for certain payments made by it under these agreements.
It is not possible to predict the maximum potential amount of future
payments or indemnification costs under these or similar agreements due to
the conditional nature of Micrel's obligations and the unique facts and
circumstances involved in each particular agreement. Historically,
payments made by Micrel under these agreements have not had a material
effect on its business, financial condition or results of operations.
Micrel believes that if it were to incur a loss in any of these matters,
such loss would not have a material effect on its business, financial
condition, cash flows or results of operations.
10. PROFIT-SHARING 401(k) PLAN
The Company has a profit-sharing plan and deferred compensation plan (the
"Plan"). All employees completing one month of service are eligible to
participate in the Plan. Participants may contribute 1% to 15% of their
annual compensation on a before tax basis, subject to Internal Revenue
Service limitations. Profit-sharing contributions by the Company are
determined at the discretion of the Board of Directors. The Company
accrued $684,000 in contributions for the year ended December 31, 2004 and
made no contributions to the plan for the years ended December 31, 2003
and 2002. Participants vest in Company contributions ratably over six
years of service.
61
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
11. LITIGATION
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 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 ICs 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
District Court subsequently determined a schedule for further discovery
and hearing matters before the Court. A claim construction hearing (also
called a "Markman" hearing) was held before the District Court on December
16, 2003. The Court issued its ruling on January 24, 2004, interpreting
the claims at issue in the litigation. Furthermore, the parties have
attended three settlement conferences before the District Court. On
November 8, 2004, a status conference was held with the Court, at which
time a trial date was set for June 28, 2005. Subsequently, the parties
stipulated to a continuance of the trial date to November 28, 2005. 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 Company
62
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
intends to vigorously defend itself against these counterclaims. The case
is currently in the pretrial phase. Case management and settlement
conferences were conducted with the Court on December 7, 2004 and
February 17, 2005. A trial date has been set for July 12, 2005.
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. Deloitte has denied all allegations in the complaint. 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 and pre-trial phase. A trial setting conference was conducted
with the Court on January 4, 2005. A trial date has been set for
September 19, 2005.
On November 11, 2004, the Company filed a complaint against Monolithic
Power Systems ("MPS"), entitled Micrel, Inc. v. Monolithic Power Systems,
in the United States District Court, Northern District of California (the
"Court") alleging two causes of action for infringement by MPS of certain
patents owned by Micrel. In the complaint, the Company is alleges that
MPS has been and is infringing U.S. patent no. 5,517,046 (the " '046
patent") and U.S. patent no. 5,556,796 (the " '796 patent"). Micrel
alleges damages attributable to MPS' infringement of the '046 and '796
patents as a direct result of MPS' actions, including treble damages for
wanton, deliberate, malicious and willful conduct. Subsequently, on
November 29, 2004 the Company filed an amended complaint adding Michael R.
Hsing, MPS's President and Chief Executive Officer ("Hsing"), and James C.
Moyer, MPS's Chief Design Engineer ("Moyer") as defendants. Hsing and
Moyer are both former employees of Micrel. In addition to the original
two causes of action against MPS for infringement of the '046 and '796
Patents, the amended complaint adds causes of action for statutory and
common law misappropriation of Micrel's trade secrets, breach of
confidentiality agreements by Hsing and Moyer, and violation of
California's Unfair Competition Law. The amended complaint seeks
compensatory damages, costs of suit and such other relief that the Court
may deem proper. On December 16, 2004, MPS filed a Motion to Dismiss the
Company's claims for statutory and common law misappropriation of Micrel's
trade secrets. A hearing on this motion is set for April 8. 2005.
Based on the status to date of the above litigation, 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, and the Company believes it is not
reasonably possible that a material loss has been incurred. 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
63
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
condition, results of operations or cash flows.
The semiconductor industry is characterized by frequent litigation
regarding patent and other intellectual property rights. To the extent
that the Company becomes involved in such intellectual property
litigation, in addition to litigation mentioned herein, 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. Based on the
status of the litigation described above, the Company does not believe
that any material and specific risk exists related to the loss of use of
patents, products or processes.
Certain additional claims have been filed by or 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.
12. 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 has 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 reportable segments. Also, the chief operating decision
maker does not assign assets to these segments. Consequently, it is not
practical to show assets by reportable segments.
Net Revenues by Segment (in thousands): Years Ended December 31,
-------------------------------
2004 2003 2002
--------- --------- ---------
Standard Products $ 246,580 $ 191,134 $ 180,407
Custom and Foundry Products 10,971 20,592 24,297
--------- --------- ---------
Total net revenues $ 257,551 $ 211,726 $ 204,704
========= ========= =========
64
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
For the year ended December 31, 2004, the Company recorded revenue from
customers throughout the United States; Canada and Mexico (collectively
referred to as "Other North American Countries"); the U.K., Italy,
Germany, France, Israel, Sweden, Hungary, Austria, Finland, Switzerland,
and other European countries (collectively referred to as "Europe");
Korea; Taiwan; Singapore; China; Japan; Hong Kong, Malaysia and other
Asian countries (collectively referred to as "Other Asian Countries").
Geographic Information (in thousands):
Geographic Information (in thousands):
2004 2003 2002
------------------- ------------------- ---------
Long- Long-
Total Net Lived Total Net Lived Total Net
Revenues* Assets Revenues* Assets Revenues*
--------- -------- --------- -------- ---------
Geographic Information (in thousands):
United States of America $ 45,489 $ 76,978 $ 48,647 $ 85,472 $ 52,664
Other North American
Countries 15,196 -- 15,277 -- 10,044
Korea 62,221 99 42,508 35 31,476
Taiwan 43,233 73 42,857 97 56,632
Singapore 24,178 27 17,682 -- 10,071
China 23,827 104 8,081 67 7,221
Japan 12,072 127 11,230 63 13,952
Other Asian Countries 4,887 6,387 3,416 2,171 3,561
Europe 26,448 279 22,028 603 19,083
-------- -------- -------- -------- --------
Total $257,551 $ 84,074 $211,726 $ 88,508 $204,704
======== ======== ======== ======== ========
* Total revenues are attributed to countries based on "ship to" location of
customer.
Long-lived assets consist of property, plant and equipment, long-term
investments and other non-current assets.
13. RESTRUCTURING AND MANUFACTURING FACILITY IMPAIRMENT
In September 2002, the Company approved a plan to close its Santa Clara,
California wafer fabrication facility to reduce costs and improve
operating efficiencies. The Company accrued $5.5 million in restructuring
expenses associated with the facility closure 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. During 2004,
the Company increased its accrued restructuring expenses for contractual
building lease costs by $584,000 to eliminate remaining estimated future
sub-lease income as efforts to sub-lease the facility have been
unsuccessful to date and the estimated probability of future sub-lease has
been reduced to less than probable.
During 2003, the Company incurred and paid severance costs of $320,000
related to the termination of 46 employees associated with the wafer
fabrication facility closure. The affected employees consisted primarily
of wafer fabrication operators and maintenance technicians. These
termination costs have been reported as restructuring expense in the
statement of operations.
65
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
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) (883) (89) (1,292)
--------- --------- --------- ---------
Balance December 31, 2003 -- 4,119 411 4,530
2004 Charges -- 584 -- 584
Uses -- (1,654) (51) (1,705)
--------- --------- --------- ---------
Balance December 31, 2004 $ -- $ 3,049 $ 360 $ 3,409
========= ========= ========= =========
Of the $3.4 million in accrued restructuring costs, $2.0 million has been
classified as other current liabilities and the remaining $1.4 million has
been classified as other long-term obligations as of December 31, 2004.
These restructuring costs are expected to be paid in cash over the
remaining facility lease term, which expires in October 2006. Actual
future costs or actual sublease income may be different than these
estimates and could require an adjustment to the restructuring accrual in
the period such determination is made.
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 determined by management based on the estimated
net realizable sales value. A number of factors were considered to
estimate the net realizable sales value including a third party appraisal
of the equipment to be sold, which was primarily based on comparable sales
from recent equipment auctions, liquidations and other used equipment
sales. In 2003, the company sold previously impaired equipment which
resulted in a $624,000 gain, recognized as an adjustment to manufacturing
facility impairment expense in 2003. As of December 31, 2003, there was no
remaining book value for equipment previously impaired during the 2002
restructuring actions.
14. PATENT CROSS LICENSE AND SETTLEMENT AGREEMENT
On May 23, 2002, the Company entered into a Patent Cross License and
Settlement Agreement with National Semiconductor which settled all
outstanding patent disputes between the companies and cross licensed the
entire patent portfolio of each company. Some of the National patents
within certain field of use areas are licensed for the life of the
patents, all other patents of both companies are licensed through May 22,
2009. Under the terms of the agreement Micrel agreed to pay National $9.0
million of which $3.0 million was paid in 2002, $2.0 million was paid in
each of the years 2003 and 2004 and the remaining $2.0 million balance
will be paid in 2005. At December 31, 2004, $1.9 million was included in
other accrued liabilities, representing the present value of the remaining
payments using an imputed annual interest rate of 8.0%.
Based on the estimated historical and future benefits of the Patent Cross
License and Settlement Agreement, the Company has allocated the present
value of the payments as follows (in thousands):
66
MICREL, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years Ended December 31, 2004, 2003 and 2002
Settlement of patent disputes $ 947
Patent license 7,207
--------
Present value of payments $ 8,154
========
To determine the amounts to be apportioned to settlement of patents
disputes and to patent license, the Company apportioned the present value
of payments based on the ratio of estimated risk adjusted pre-settlement
revenues for products that were allegedly infringing on the National
patents to the present value of estimated future revenues from products
that are expected to utilize one or more of the National patents under the
Patent Cross License and Settlement Agreement. The $947,000 valuation of
the settlement of patent disputes was expensed to other income (expense),
net in 2002. The patent license valuation of $7.2 million was recorded as
an intangible asset and is being amortized on a straight-line basis over
its estimated useful life of 7 years.
67
SUPPLEMENTAL QUARTERLY FINANCIAL SUMMARY - UNAUDITED
(in thousands, except per share
amounts)
Three Months Ended
--------------------------------------
Mar. 31, June 30, Sept. 30, Dec. 31,
2004 2004(1) 2004 2004
-------- -------- -------- --------
Net revenues $ 61,261 $ 68,996 $ 67,853 $ 59,441
Gross profit $ 27,544 $ 34,378 $ 33,255 $ 27,520
Net income $ 4,575 $ 14,048 $ 7,536 $ 5,094
Net income per share:
Basic $ 0.05 $ 0.15 $ 0.08 $ 0.06
Diluted $ 0.05 $ 0.15 $ 0.08 $ 0.06
Weighted-average shares used in
computing per share amounts:
Basic 92,518 92,259 91,252 90,007
Diluted 95,249 94,074 91,996 91,012
(in thousands, except per share
amounts)
Three Months Ended
--------------------------------------
Mar. 31, June 30, Sept. 30, Dec. 31,
2003 2003 2003(2) 2003
-------- -------- -------- --------
Net revenues $ 50,955 $ 49,109 $ 53,364 $ 58,298
Gross profit $ 20,544 $ 18,229 $ 21,204 $ 23,742
Net income (loss) $ 174 $ (913) $ 1,613 $ 3,973
Net income (loss) per share:
Basic $ 0.00 $ (0.01) $ 0.02 $ 0.04
Diluted $ 0.00 $ (0.01) $ 0.02 $ 0.04
Weighted-average shares used in
computing per share amounts:
Basic 92,039 92,171 92,032 92,337
Diluted 92,739 92,171 93,735 95,274
__________
(1) Net income for the quarter ended June 30, 2004 includes $6.3 million in net
reversals of accrued income and payroll tax liabilities as a result of the
completion of a federal tax audit (see Note 8).
(2) Net income for the quarter ended September 30, 2003 includes a charge of
$286,000 for net restructuring accrual adjustments charged to restructuring
expense. In addition, the Company sold previously impaired equipment resulting
in a $624,000 gain which has been recorded as a credit to the manufacturing
facility impairment expense (see Note 13).
68
SCHEDULE II
MICREL, INCORPORATED
VALUATION AND QUALIFYING ACCOUNTS
For the Years Ended December 31, 2004, 2003, and 2002
(Amounts in thousands)
Balance at Allowance Returns and
Beginning Additions or Price Bad Debt Balance at
Description of Year (Reductions) Adjustments Write-offs End of Year
- --------------------------------- ----------- ------------ ----------- ---------- -----------
Year Ended December 31, 2004
- ----------------------------
Allowances for OEM and stocking
representative returns and
price adjustments $ 1,392 $ 6,941 $ (5,840) $ -- $ 2,493
Allowances for unclaimed
distributor price adjustments(1) 1,264 20,290 (20,300) -- 1,254
Allowances for doubtful accounts 180 51 -- -- 231
-------- -------- -------- -------- --------
Total allowances $ 2,836 $ 27,282 $(26,140) $ -- $ 3,978
======== ======== ======== ======== ========
Year Ended December 31, 2003
- ----------------------------
Allowances for OEM and stocking
representative returns and
price adjustments $ 2,096 $ 4,165 $ (4,869) $ -- $ 1,392
Allowances for unclaimed
distributor price adjustments(1) 788 15,802 (15,326) -- 1,264
Allowances for doubtful accounts 421 (134) -- (107) 180
-------- -------- -------- -------- --------
Total allowances $ 3,305 $ 19,833 $(20,195) $ (107) $ 2,836
======== ======== ======== ======== ========
Year Ended December 31, 2002
- ----------------------------
Allowances for OEM and stocking
representative returns and
price adjustments $ 2,498 $ 4,945 $ (5,347) $ -- $ 2,096
Allowances for unclaimed
distributor price adjustments(1) 600 12,038 (11,850) -- 788
Allowances for doubtful accounts 788 41 -- (408) 421
-------- -------- -------- -------- --------
Total allowances $ 3,886 $ 17,024 $(17,197) $ (408) $ 3,305
======== ======== ======== ======== ========
___________
(1) The Company estimates and records an allowance for distributor price
adjustments for which the specific resale transaction has been completed,
but the price adjustment claim has not yet been received and recorded by
the Company. This allowance typically represents approximately three to
four weeks of unclaimed price adjustments.
69
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities and
Exchange Act of 1934, the registrant has duly caused this Report to be signed on
its behalf by the undersigned, thereunto duly authorized, in San Jose,
California on the 15th day of March, 2005.
MICREL, INCORPORATED
By /S/ Raymond D. Zinn
----------------------
Raymond D. Zinn
President and Chief Executive Officer
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Raymond D. Zinn and Richard D. Crowley, Jr., and
each of them, his attorneys-in-fact, each with the power of substitution, for
him in any and all capacities, to sign any amendments to this Report on Form
10-K and to file the same, with exhibits thereto and other documents in
connection therewith, with the Securities and Exchange Commission, hereby
ratifying and confirming all that each of said attorneys-in-fact, or his
substitute or substitutes, may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this Report has been signed below by the following persons on behalf
of the registrant and in the capacities and on the date indicated.
Signature Title Date
--------- ----- ----
/S/ Raymond D. Zinn President, Chief Executive Officer March 15, 2005
- --------------------------- and Chairman of the Board of
Raymond D. Zinn Directors (Principal Executive
Officer)
/S/ Richard D. Crowley Vice President, Finance and Chief March 15, 2005
- --------------------------- Financial Officer (Principal
Richard D. Crowley Financial and Accounting Officer)
/S/ Warren H. Muller Director March 15, 2005
- ---------------------------
Warren H. Muller
/S/ Donald Livingstone Director March 15, 2005
- ---------------------------
Donald Livingstone
/S/ George Kelly Director March 15, 2005
- ---------------------------
George Kelly
/S/ Larry L. Hansen Director March 15, 2005
- ---------------------------
Larry L. Hansen
70
Micrel, Incorporated
Exhibits Pursuant to Item 601 of Regulation S-K
Exhibit
Number Description
- ------- ------------
2.1 Agreement and Plan of Merger and Reorganization among Micrel,
Incorporated, Kournikova Acquisition Sub, Inc., Kendin
Communications Inc., and with respect to Articles VIII and IX only,
John C.C. Fan, as Stockholders' Agent, dated May 4, 2001. (8)
3.1 Amended and Restated Articles of Incorporation of the Registrant. (1)
3.2 Certificate of Amendment of Articles of Incorporation of the
Registrant. (2)
3.3 Amended and Restated Bylaws of the Registrant. (2)
3.4 Certificate of Amendment of Articles of Incorporation of the
Registrant. (7)
4.1 Certificate for Shares of Registrant's Common Stock. (3)
10.1 Indemnification Agreement between the Registrant and each of its
officers and directors. (3)
10.3 1994 Stock Option Plan and form of Stock Option Agreement. (1)*
10.4 1994 Stock Purchase Plan. (3)
10.5 2003 Incentive Award Plan. (13)*
10.8 Form of Domestic Distribution Agreement. (2)
10.9 Form of International Distributor Agreement. (2)
10.10 Amended and Restated 1994 Employee Stock Purchase Plan, as amended
January 1, 1996. (4)
10.11 Commercial Lease between Harris Corporation and Synergy Semiconductor
Corporation dated February 29, 1996. (5)
10.12 Standard Industrial/Commercial Single-Tenant Lease Agreement Dated
March 3, 2000 between the Registrant and Rose Ventures II (6)
10.13 Loan and Security Agreement Dated June 29, 2001 between the
Registrant and Bank of the West (9)
10.14 Amendment No. Two to Loan and Security Agreement Dated June 29, 2001
between the Registrant and Bank of the West (10)
10.15 Commercial Mortgage Financing Agreement between Micrel, Incorporated
and Bank of the West, dated September 27, 2002 (11)
10.16 Credit Agreement between the Registrant and Bank of The West dated
June 30, 2003 (12)
14.1 Micrel, Incorporated Code of Ethics for Senior Officers
23.1 Consent of Independent Registered Public Accounting Firm
24.1 Power of Attorney. (See Signature Page.)
31 Certification of the Company's Chief Executive Officer and Chief
Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002
32 Certification of the Company's Chief Executive Officer and Chief
Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002
* Management contract or compensatory plan or agreement.
(1) Incorporated herein by reference to the Company's Registration
Statement on Form S-1 ("Registration Statement"), File No. 33-85694, in
which this exhibit bears the same number, unless otherwise indicated.
(2) Incorporated by reference to Amendment No. 1 to the Registration
Statement, in which this exhibit bears the same number, unless
otherwise indicated.
(3) Incorporated by reference to the Company's Annual Report on Form
10-K for the year ended December 31, 1995, in which this exhibit
bears the same number, unless otherwise indicated.
71
(4) Incorporated by reference to the Company's Annual Report on Form 10-K
for the year ended December 31, 1996, in which this exhibit bears the
number 10.14.
(5) Incorporated by reference to the Company's Annual Report on Form 10-K
for the year ended December 31, 1998, in which this exhibit bears the
number 10.14.
(6) Incorporated by reference to exhibit 10.1 filed with the
Company's quarterly report on Form 10-Q for the period ended
March 31, 2000.
(7) Incorporated by reference to exhibit 3.1 filed with the
Company's quarterly report on Form 10-Q for the period ended
September 30, 2000.
(8) Incorporated by reference to exhibit 10.1 filed with the
Company's registration statement on Form S-3 filed with the
S.E.C. on June 22, 2001.
(9) Incorporated by reference to exhibit 10.1 filed with the
Company's quarterly report on Form 10-Q for the period ended
June 30, 2001.
(10) Incorporated by reference to exhibit 10.16 filed with the
Company's annual report on Form 10-K for the period ended
December 31, 2002.
(11) Incorporated by reference to exhibit 10.1 filed with the
Company's quarterly report on Form 10-Q for the period ended
September 30, 2002.
(12) Incorporated by reference to exhibit 10.1 filed with the
Company's quarterly report on Form 10-Q for the period ended
June 30, 2003.
(13) Incorporated by reference to exhibit 1 filed with the Company's
Schedule Proxy Statement on Schedule 14A dated May 9, 2003.
72
Exhibit 23.1
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We hereby consent to the incorporation by reference in the Registration
Statements on Form S-3 (No. 333-70876, 333-63620 and 333-37808) and S-8 (No.
333-63618, 33-87222, 33-90396, 333-10167, 333-89223, 333-52136, 333-37832 and
333-105862) of Micrel, Incorporated of our report dated March 10, 2005,
relating to the financial statements and financial statement schedule,
management's assessment of the effectiveness of internal control over
financial reporting and the effectiveness of internal control over financial
reporting, which appears in this Form 10-K.
/s/ PricewaterhouseCoopers LLP
San Jose, California
March 15, 2005
73
Exhibit 31
Certification of Chief Executive Officer
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I, Raymond D. Zinn, certify that:
1. I have reviewed this annual report on Form 10-K of Micrel, Incorporated;
2. Based on my knowledge, this report does not contain any untrue statement
of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects
the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over
financial reporting (as designed in the Exchange Act Rules 13a-15(d) and 15d-
15(f) for the registrant and have:
(a) designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our supervision,
to ensure that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us by others
within those entities, particularly during the period in which this
report is being prepared;
(b) designed such internal control over financial reporting, or
caused such internal control over financial control to be designed under
our supervision, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepted
accounting principles;
(c) evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our conclusions
about the effectiveness of the disclosure controls and procedures, as of
the end of the period covered by this report based on such
evaluation; and
(d) disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board of
directors (or persons performing the equivalent functions):
(a) all significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
control over financial reporting.
Date: March 15, 2005 /S/ Raymond D. Zinn
----------------------
Raymond D. Zinn
President, Chief Executive Officer and Director
(Principal Executive Officer)
74
Certification of Chief Financial Officer
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I, Richard D. Crowley, certify that:
1. I have reviewed this annual report on Form 10-K of Micrel, Incorporated;
2. Based on my knowledge, this report does not contain any untrue statement
of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects
the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over
financial reporting (as designed in the Exchange Act Rules 13a-15(d) and 15d-
15(f) for the registrant and have:
(a) designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our supervision,
to ensure that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us by others
within those entities, particularly during the period in which this
report is being prepared;
(b) designed such internal control over financial reporting, or
caused such internal control over financial control to be designed under
our supervision, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepted
accounting principles;
(c) evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our conclusions
about the effectiveness of the disclosure controls and procedures, as of
the end of the period covered by this report based on such
evaluation; and
(d) disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board of
directors (or persons performing the equivalent functions):
(a) all significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
control over financial reporting.
Date: March 15, 2005 /S/ Richard D. Crowley
----------------------
Richard D. Crowley
Vice President, Finance and
Chief Financial Officer
(Principal Financial and Accounting Officer)
75
Exhibit 32
Certifications of
Chief Executive Officer and Chief Financial Officer
Pursuant to 18 U.S.C. Section 1350,
As Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act Of 2002
In connection with the Annual Report of Micrel, Incorporated (the
"Company") on Form 10-K for the period ended December 31, 2004 as filed with
the Securities and Exchange Commission on the date hereof (the "Report"), I,
Raymond D. Zinn, Chief Executive Officer of the Company, certify, pursuant to
18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002, that to my knowledge:
1. The Report fully complies with the requirements of Section 13(a) or
15(d), of the Securities Exchange Act of 1934; and
2. That information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
Date: March 15, 2005 /S/ Raymond D. Zinn
----------------------
Raymond D. Zinn
President, Chief Executive Officer and Director
(Principal Executive Officer)
In connection with the Annual Report of Micrel, Incorporated (the
"Company") on Form 10-K for the period ended December 31, 2004 as filed with
the Securities and Exchange Commission on the date hereof (the "Report"), I,
Richard D. Crowley, Chief Financial Officer of the Company, certify, pursuant
to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002, that to my knowledge:
1. The Report fully complies with the requirements of Section 13(a) or
15(d), of the Securities Exchange Act of 1934; and
2. That information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
Date: March 15, 2005 /S/ Richard D. Crowley
----------------------
Richard D. Crowley
Vice President, Finance and
Chief Financial Officer
(Principal Financial and Accounting Officer)
76