Applied Micro Circuits Corporation was incorporated and commenced operations in California in 1979 and was reincorporated in Delaware in 1987. Our principal executive offices are located at 4555 Great America Parkway, 6th Floor, Santa Clara, California 95054 and our phone number is 408-542-8600. Our sales and engineering offices are located throughout the world. Our common stock trades on the Nasdaq Global Select Market under the symbol “AMCC”.
Overview
Applied Micro Circuits Corporation is a global leader in silicon solutions for next-generation cloud infrastructure and data centers, as well as connectivity products for edge, metro and long-haul communications equipment.
Our products serve two target markets, Computing and Connectivity.
Our Computing products include the X-Gene family of server processors, each based on the ARMv8 64-bit Instruction Set Architecture (“ISA”), which target mainstream cloud and data center infrastructure including hyperscale, telco, enterprise and high performance computing.
As part of our current Computing business, we also offer embedded computing products which include our HeliX family of processors, based on the ARM 64-bit ISA, and our PowerPC products, based on Power Architecture. Our embedded Computing products are deployed in a variety of applications including networking and telecom, enterprise storage, data center and industrial applications.
The Connectivity portion of our business provides high-speed, high-bandwidth, high-reliability communications products to network equipment manufacturers. They include our X-Weave family of products, designed to meet the needs of service providers and public cloud, private cloud, and enterprise data centers.
Available Information
We maintain a web site, located at www.apm.com, to which we regularly post copies of our press releases as well as additional information about us. Our filings with the Securities and Exchange Commission (“SEC”), including our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), are posted on and available free of charge through the Investor Relations section of our web site and are accessible as soon as reasonably practicable after being electronically filed with or furnished to the SEC. Interested persons can subscribe on our web site to email alerts that are sent automatically when we issue press releases, file our reports with the SEC, or post certain other information to our web site. Information accessible through our web site does not constitute a part of this Annual Report.
Copies of this Annual Report are also available free of charge, upon request to our Investor Relations Department, 4555 Great America Parkway, 6th floor, Santa Clara, California 95054. In addition, our Board Guidelines, Code of Business Conduct and Ethics, other corporate policies and written charters for the various committees of our Board of Directors are accessible through the Corporate Governance tab in the Investor Relations section of our web site and are available in print free of charge to any shareholder who requests a copy.
You may read and copy materials that we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington DC 20549. Information on the operation of the Public Reference Room is available by calling the SEC at 1-800-SEC-0330. The SEC maintains a web site that contains reports, proxy statements and other information we file with the SEC. The address of the SEC’s web site is www.sec.gov.
Industry Background
Global data center traffic is expected to almost triple, from 3.4 zettabytes per year in 2014 to 10.4 zettabytes per year in 2019. Data centers today are estimated to consume about 3% of the world's electricity production. In more mature markets, like the United States. and Canada, data center owners and operators have faced increasing energy costs and in certain states the threat of energy consumption-related taxation. In 2013, data centers in the U.S. alone consumed about 91 billion kilowatt-hours of electricity, equivalent to the annual output of 34 large (500-megawatt) coal-fired power plants. Data center electricity consumption is projected to increase to roughly 140 billion kilowatt-hours annually by 2020, the equivalent annual output of 50 power plants, costing American businesses $13 billion annually in electricity bills.
Motivated by high operating costs, land use restrictions and environmental concerns, data center operators are keenly aware of the need to reduce power consumption while increasing hardware density and, at the same time, maintain or improve the user experience. We believe these trends create significant opportunities for high-performance, high-density, lower total cost of ownership (“TCO”) cloud infrastructure and data center solutions.
The data center processor market continues to grow at significant compound annual growth rate, with scale-out applications in hyperscale, telco and high performance computing markets driving the growth. The market continues to be dominated by a single supplier, Intel, which currently services this market with its Xeon E3 and Xeon E5 processors based on the X86 architecture. Experts believe there is a strong desire to create alternate solutions in the market place.
Cloud industry experts believe that server solutions that can successfully combine ARM 64-bit processor hardware, high-speed input/output and software-defined networking capabilities onto a single chip will provide significant benefits over existing solutions. By combining the ARM ISA with on-chip networking capabilities, these next generation server solutions are expected to deliver significantly lower TCO for typical cloud workloads.
Cloud infrastructure growth also creates opportunities for new connectivity approaches within the data center. Emerging technologies include PCI-Express and other high-speed switch fabrics, 100Gbps Ethernet and remote direct Memory Access over Converged Ethernet. These new technologies will allow for faster data transfer between processor nodes, semiconductor components, blades, racks and appliances, substantially lowering TCO and allowing more efficient use of physical space.
Communications technology between the user and the data center has also evolved considerably. Consumers demand ubiquitous access to content such as information, photographs and streaming high-definition media through a proliferation of smart mobile and at-home devices. As a result, carrier networks face increasing challenges to support the rapid and cost-effective delivery of voice, data and media to meet this demand.
In wireline communications, the edge, metro and core networks have shifted towards packet-based services that are fundamentally less expensive than the transitional synchronous optical network (“SONET”) and the synchronous data hierarchy (“SDH”) networks, but provide the same level of quality and guarantee of content delivery. Optical transport network ("OTN") technology has emerged as a compelling layer-one protocol and has substantially replaced SONET/SDH in the metro and core. Combined with wavelength-division multiplexing and dense wavelength-division multiplexing, OTN allows service providers to support the vast increases in bandwidth requirements at a lower cost per bit and with easier configurability.
Additionally, the transition from 10G/40G to 100G and 400G Ethernet infrastructure creates a massive revenue opportunity as the equipment replacement cycle takes place within the data center and across transport networks that serve to connect data centers.
Within the data center, the constant need for cost reduction while increasing throughput density is driving a transition to higher order modulation technologies, such as Four-Level Pulse Amplitude Modulation ("PAM4"). PAM4 represents a major technology shift in Ethernet transceivers in that it requires digital signal processing. To date, however, very few companies possess the requisite combination of technical expertise and IP to successfully implement PAM4 technology.
Wireless networks are also moving to long term evolution infrastructure in order to support a wide range of high-speed wireless devices from smart phones to tablets. Further, carrying all the data traffic from the base station requires higher bandwidth and packet-based wireline connectivity for supporting Ethernet and Internet Protocol.
As the pace of these transitions increases, original equipment manufacturers ("OEMs") are partnering with merchant silicon solution providers to help address the need for more complex, higher performance devices that feature lower power consumption and operating costs. We believe these trends have created a significant opportunity for silicon suppliers that can design cost-effective solutions for the processing and transport of data.
Our Products and Markets
ARM-based Server Processors
The X-Gene family of server processors provides a compelling alternative to the incumbent X86 architecture. X-Gene is the world’s first ARM 64-bit processor family. Our X-Gene 1 and X-Gene 2 system-on-a-chip ("SoC") products offer eight high-performance custom cores running at up to 2.8GHz, coupled with a large memory subsystem, and networking and storage interfaces. These processors are used in a variety of data center, storage and high-performance computing ("HPC") applications, and have been industry-hardened by various server OEMs and end customers. They have also served as the primary platform for all ARM 64-bit software ecosystem enablement.
X-Gene 3 builds upon this foundation of two generations of server products by combining 32 high-performance ARMv8-compatible CPU cores in a single socket to deliver performance competitive with mainstream high-end Xeon E5/ E7 processors in a similar thermal design power envelope. With eight DDR4 memory channels, we expect X‑Gene 3 to outclass Xeon E5 in memory bandwidth, making it well suited to hyperscale workloads, such as in-memory databases, big data, machine learning, web search and HPC. We believe X-Gene 3 will deliver an unprecedented level of overall performance and best in-class performance-per-watt for ARM processors.
There is a robust hardware and software ecosystem now available and in development for X-Gene. The ecosystem includes a multitude of software, hardware, systems and services companies that are engaged in the development, adoption or promotion of technology that supports ARM 64-bit server technology.
Embedded Computing Products
Our HeliX embedded processor products are based on our custom ARM 64-bit cores, leveraging IP and experience derived from our development of X-Gene. HeliX 1 and HeliX 2 offer four to eight custom cores running at up to 2.4GHz, with integrated networking and storage interfaces, and are being designed and deployed in a variety of applications including networking and telecom, enterprise storage, data center, and industrial applications. The combination of our high performance custom cores, the right mix of peripherals and accelerators and the proven leadership and maturity of our 64-bit ARM implementation enables us to drive the convergence of embedded markets from multiple architectures (MIPS, PowerPC and ARM 32-bit ISA) to a 64-bit ARM platform.
We continue to sell our PowerPC products into a variety of applications including wireless access points, residential gateways, network attached storage, network switches and routers, and multi-function printers.
Connectivity Products
The Connectivity portion of our business includes a broad array of networking physical layer devices (“PHY”), including mixed-signal and OTN framer and mapper solutions that are high-speed, high-bandwidth, high-reliability communications products. Our highly integrated framer-PHY silicon solutions are used in high-speed optical network equipment including routers, switches and transponders. For OTN applications, our framer products incorporate our industry-leading forward error correction ("FEC") technology to significantly improve reach. The X-Weave family of connectivity products, which is comprised of framer/mapper, secure Ethernet and PAM4 SoCs, is designed to meet the needs of public cloud, private cloud and enterprise data centers. X-Weave leverages our industry-proven IP portfolio and leading analog/mixed signal capabilities to address the high-growth data center Connectivity market.
In the service provider market segment, emerging metro Ethernet and OTN deployments are driving substantial investments in optical infrastructure. These deployments are increasingly based on OTN with highly integrated framing, mapping, and multiplexing functions. High-speed physical layer capabilities in combination with our FEC technology are critical to providing cost and power-optimized solutions for leading-edge platforms in carrier and service provider networks.
With the data center market growth, there is a need for higher throughput density within the same space. This need is driving a transition to higher order modulation technologies such as PAM4. PAM4 represents a major technology shift in Ethernet transceivers in that it requires digital signal processing. We are one of only a few companies with the combination of proven IP and technical expertise needed to implement PAM4 technology. We continue to invest in leading-edge semiconductor process technology, which continues to be a key enabler to delivering highly differentiated, lower power, lower cost products.
Competition
The X-Gene product family targets existing and emerging hyperscale cloud, scientific and high performance computing, and enterprise server applications. Existing data centers currently rely primarily on Xeon server processors and related chipsets developed and marketed by Intel. As a result, in the cloud and enterprise server markets, we will compete primarily with Intel Xeon, in addition to low-power server silicon products from Intel and a number of ARM-based server silicon vendors with programs in various stages of development, including AMD, Broadcom, Cavium and Qualcomm. We believe our multiple generations of X-Gene are well-positioned to address the performance capabilities and enterprise features demanded by today's cloud infrastructure providers and to provide a viable ARM-based alternative to the incumbent Xeon solution.
In the embedded computing silicon solutions market, we compete primarily with technology companies such as Intel, NXP and Cavium.
In the connectivity silicon solutions market segment, we compete primarily with companies such as Broadcom, Microsemi and Inphi.
Many of our competitors have larger workforces, IP portfolios, sales and marketing capabilities and other resources than we do, and in some cases operate their own fabrication facilities. In addition, some of our customers and potential customers have internal integrated circuit designs or manufacturing capabilities with which we compete.
While design cycles in the communications market segment often last for years, the communications silicon solutions market is highly competitive and is subject to rapid technological change. We typically face competition at the design stage when customers are selecting components for their next-generation products.
We believe that the principal factors of competition for the markets we serve include product performance and capability, TCO, and time-to-market, as well as engineering expertise, reputation and prior customer satisfaction.
Our ability to successfully compete in these markets will depend on our ability to design and oversee the manufacture of new products that successfully implement new technologies and gain end-market acceptance in a timely and cost-effective manner.
Sales and Marketing
We sell our products both directly and through a network of independent manufacturers' representatives and distributors. Expert technical support is critical to our customers' success and we provide such support through our field applications engineers, factory software and hardware application engineers, technical marketing team and engineering staff, as well as through our technical support web site. Our sales and marketing strategy is to develop strong, engineering-intensive relationships with our customers’ design teams for the creation of market leading platforms. We maintain close working relationships with these customers and their management teams to identify and define new products that will meet their requirements in the future. This allows us to often be involved in the early stages of our customers' plans to design new equipment.
We augment this strategic account sales approach with U.S. and non-U.S. distributors that service some of our accounts for purchase of standard silicon solutions. Typically, these distributors sell a broad product line portfolio, including those that compete with our products and fulfill orders for many customers. Most of our sales to distributors are made under agreements allowing for price protection and stock rotation of unsold merchandise. We use market development programs to accelerate the adoption of certain products. Our sales headquarters are located in Santa Clara, California. We maintain sales offices throughout the world, including offices in China, Germany, India, Japan, Korea and Taiwan. Information regarding net revenues generated from each category of our products and from our most significant customers and a geographic breakdown of our net revenues is summarized in Part II, Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations.
Customer Concentration
Historically, a relatively small number of customers have accounted for a significant portion of our net revenue. Sales to distributors accounted for
49%
of our net revenue for fiscal year 2016. In fiscal year 2016, direct sales to Wintec, a global logistics provider who provides vendor managed inventory support for Cisco Systems, Inc., accounted for
27%
of our net revenue. Our top ten customers collectively accounted for
88%
of our net revenue for fiscal year 2016. We expect to continue to experience significant customer concentration in future periods. The loss of, or significant decrease in demand from, any of our top ten customers could have a material adverse effect on our business, results of operations and financial condition.
Manufacturing
Manufacturing of Integrated Circuits
The manufacturing of integrated circuits requires a combination of competencies in advanced silicon technologies, package design, high-speed test, and characterization. We have obtained access to advanced complementary metal–oxide–semiconductor ("CMOS") manufacturing technology through our foundry relationships.
Wafer Fabrication
We are a fabless semiconductor company and do not own or operate foundries for the production of silicon wafers. We use external foundries, primarily Taiwan Semiconductor Manufacturing Corporation (“TSMC”) and to a lesser extent, GlobalFoundries for our silicon wafer needs. Each of our integrated circuit products is generally only qualified for production at a single foundry.
Assembly and Testing
Our wafer probe and other product testing activities are conducted at independent test subcontractors. After wafer testing is complete, the majority of our products are sent to one or more subcontractors for assembly and packaging, predominantly in Asia including Advanced Semiconductor Engineering, Siliconware Precision Industries Co Ltd., GlobalFoundries, Unimicron and Nanya Technology Corporation. Following assembly, the devices are tested at subcontractors and returned to us ready for shipment to our customers. Certain of these services are available from a limited number of sources and lead times are occasionally extended.
Quality Assurance & Reliability
We are an International Organization for Standardization ("ISO") 9001 certified company with its quality system designed to enhance customer satisfaction and product reliability. This includes continual improvement by working closely with the end customers and the assurance of conformity to customer and regulatory requirements. We qualify and use top tier silicon foundry and manufacturing subcontractors as part of our approved supplier list maintenance, which is regularly monitored for quality and performance through regular business reviews and factory audits.
Research and Development ("R&D")
Continually evolving industry standards, rapid advancements in process technologies, and increasing levels of functional integration characterize the market for our products, we believe that our future success will depend largely on our ability to continue improving our products and our process technologies, to develop new technologies, and to adopt emerging industry standards. We have a dedicated engineering team who integrates industry standards development, technology changes, and the product directions of our customers, in an effort to provide forward-looking guidance to the development teams in the form of a product roadmap. We work closely with our customers to co-specify and/or co-develop products.
As a high-technology company, the majority of our investment is devoted to R&D. Our R&D expertise and efforts are focused on the development and commercialization of the X-Gene ARM 64-bit Server on a Chip products, HeliX embedded computing products, and X-Weave Connectivity products. We also develop libraries and design methodologies that are optimized for applications within the Connectivity and Computing markets. Our primary R&D facilities are located in Santa Clara, California, and Andover, Massachusetts in the United States; Ottawa in Canada; Ho Chi Minh City in Vietnam; and Pune and Bangalore in India. During the fiscal years ended March 31, 2016, 2015 and, 2014, we expensed
$91.5 million
,
$107.2 million
and
$146.6 million
, respectively, on R&D activities.
Backlog
Our sales are made primarily pursuant to standard purchase orders for the delivery of products. Quantities of our products to be delivered and delivery schedules are frequently revised to reflect changes in customers’ needs. For these reasons, our backlog as of any particular date is not representative of actual sales for any succeeding period.
Geographic and Other Financial Information
For geographic financial information and net revenue by markets, see Note 10, Significant Customer and Geographic Information, to the Consolidated Financial Statements. For information regarding our net revenue from external customers, net loss attributable to the Company and total assets, see our Consolidated Financial Statements.
Net Revenue By Reportable Segment
Our consolidated net revenue for fiscal 2016, ,2015 and 2014 totaled
$159.3 million
,
$165.0 million
and
$216 million
, respectively. We operate as one reportable segment.
Intellectual Property
We rely in part on patents to protect our IP. We currently hold approximately
348
issued patents, which principally cover aspects of the design and architecture of our Computing and Connectivity products. Of these current patents, approximately 58% were issued within the past five years and approximately 9% will expire within five years. In addition, we have over
170
inventions in various stages of the patenting process in the United States and abroad. There can be no assurance that any of our pending patent applications or any future applications will be approved, or that any issued patents will provide us with competitive advantages or will not be challenged by third parties, or that if challenged, such patents will be found to be valid and enforceable. There also can be no assurance that others will not independently develop similar products or processes, duplicate our products or processes or design around any patents that may be issued to us, or that patents issued to others will not have an adverse effect on our ability to do business.
To protect our IP, we also rely on a combination of mask work protection under the Federal Semiconductor Chip Protection Act of 1984, trademarks, copyrights, trade secret laws, employee and third-party nondisclosure agreements and licensing arrangements. In the United States, our trademarks and registered trademarks include AppliedMicro, AMCC, APM, X-Gene, X-Weave, HeliX, Server on a Chip, Cloud Server, Cloud Processor, Arming the Cloud, HardSilicon, X-C1, X-C2, X-C3, Genome, X-Tend and FLEXsec, among others. In addition to our IP, we also rely upon licensing certain third-party technologies for the development of our products.
As a general matter, the semiconductor and enterprise storage industries are characterized by substantial litigation regarding patent and other IP rights. In the past we have been, and in the future may be, notified that we may be infringing the IP rights of third parties. In some cases, the third parties have demanded that we pay significant patent license fees in order to avoid litigation asserting IP infringement. To date, we have refused to enter into any such patent license agreements. We have certain indemnification obligations to customers with respect to the infringement of third party IP rights by our products, and have been subject to related indemnification claims in the past. There can be no assurance that infringement claims by third parties or claims for indemnification by customers or end users of our products resulting from infringement claims will not be asserted in the future or that such claims, if successful, will not have a material adverse effect on our business, financial condition, or operating results. In the event of any adverse ruling in any such matter, we could be required to pay substantial damages, which could include treble damages, cease the manufacture, use and sale of infringing products, discontinue the use of certain processes or obtain a license under the IP rights of the third party claiming infringement. There can be no assurance that a license would be available on reasonable terms, or at all. Any limitations on our ability to market our products, delays and costs associated with redesigning our products, or payments of license fees or litigation judgments to third parties, or failures to develop or license a substitute technology on commercially reasonable terms could have a material adverse effect on our business, financial condition, and operating results.
Environmental Matters
We 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 that are and were used in our manufacturing process, and the use of hazardous substances, such as lead, in our products. Any failure to comply with present or future regulations could result in the imposition of fines, the suspension of production or a cessation of operations. Such regulations could require us to acquire costly equipment or incur other significant expenses to comply with environmental regulations or clean up prior discharges. We are also subject to regulatory developments, including recent SEC disclosure regulations relating to so-called “conflict minerals,” relating to ethically responsible sourcing of the components and materials used in our products. For more information, see our disclosures under the heading, “Customer requirements and new regulations related to conflict-free minerals may force us to incur additional expenses or cause us to lose business” in Part I, Item 1A, Risk Factors, below.
Since 1993, we have been named as a potentially responsible party (“PRP”) along with a large number of other companies that used Omega Chemical Corporation in Whittier, California to handle and dispose of certain hazardous waste material. We are a member of a large group of PRPs that has agreed to fund certain remediation efforts at and nearby the Omega Chemical Corporation site and in the surrounding groundwater aquifers, which efforts are ongoing. For more information, see our disclosures under the heading, “We could incur substantial fines, litigation costs and remediation expenses associated with our storage, use and disposal of hazardous materials” in Part I, Item 1A, Risk Factors, below, and in footnote 11, “Legal Proceedings,” to the financial statements contained in this report.
Employees
As of
March 31, 2016
, we had
557
full-time employees:
59
in administration,
435
in R&D,
11
in operations and
52
in marketing and sales. Our ability to attract and retain qualified personnel is essential to our continued success. None of our employees is covered by a collective bargaining agreement, nor have we ever experienced any work stoppage.
Before deciding to invest in us or to maintain or increase your investment, you should carefully consider the risks described below, in addition to the other information contained in this Annual Report and in our other filings with the SEC. We update our descriptions of the risks and uncertainties facing us in our periodic reports filed with the Securities and Exchange Commission ("SEC"). The risks and uncertainties described below and in our other filings are not the only ones facing us. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also affect our business. If any of these known or unknown risks or uncertainties actually occurs, our business, financial condition and results of operations could be seriously harmed. In that event, the market price for our common stock could decline and you may lose all or part of your investment.
Our liquidity may deteriorate based on our future uses of cash.
Our cash, cash equivalents and short-term investments balance as of
March 31, 2016
was
$83.8 million
compared to
$76.4 million
as of
December 31, 2015
and
$75.4 million
as of
March 31, 2015
. Of the $178.5 million we previously committed to pay in Veloce acquisition consideration, $6.6 million currently remains to be paid, and our cash balance will be affected depending upon how much of this remaining balance we decide to pay in cash instead of our common stock. Our cash balances could further decrease depending upon the extend and timing of research and development ("R&D") expenses associated with our new product development and roll-out activities. Although we currently believe we have adequate liquidity to meet our capital requirements and fund our operations for at least the next twelve months, our cash balances could decrease significantly if our normal operations or unforeseen events require us to expend more cash than anticipated or if the revenue ramps relating to our recent and new product introductions fail to occur within the currently anticipated timeframes. If this were to occur, we may be faced with liquidity issues requiring us to pursue various options to raise additional capital, generate cash, delay or cancel new-product introductions, reduce or defer R&D investments, engage in additional restructuring activities, or divest or liquidate business assets. In addition, we may elect to raise additional capital, including without limitation by issuing equity or debt securities, or otherwise attempt to generate additional cash in order to augment our cash reserves for purposes of enabling future business expansion and providing additional liquidity assurances to our current and prospective customers, suppliers and partners. There can be no assurance that any of the options that we might pursue to raise additional capital or to generate or preserve cash will be available on commercially reasonable terms or at all.
The markets in which we compete are highly competitive, and we expect competition to increase in these markets in the future.
The markets in which we compete are highly competitive, and we expect that domestic and international competition will increase in these markets, due in part to industry consolidation, rapid technological advances, price erosion, changing customer preferences, deregulation, and evolving industry standards.
Increased competition, coupled with the significantly larger size and economic and business resources of several of our competitors, could result in significant price competition, delayed or reduced customer adoption of our new products, reduced revenues, lower profit margins or loss of market share. Our ability to compete successfully in our markets depends on a number of factors, including:
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the scale and depth of our R&D, sales and marketing budgets and related resources, as compared to our competitors, and our ability to increase our scale sufficient to more effectively compete with them;
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our ability to partner with original equipment manufacturer ("OEM"), ecosystem and channel partners who are successful in the market;
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success in designing and subcontracting the manufacture of new products that implement new technologies;
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product quality, interoperability, reliability, performance and certification;
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procurement expenses, supply chain economies of scale, and production efficiency, as compared to our larger competitors:
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our ability to attract and retain key engineering, operations, sales and marketing employees and management;
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pricing decisions or other actions taken by competitors;
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expansion of production of our products for particular systems manufacturers;
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end-user acceptance of the systems manufacturers' products;
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market acceptance of competitors' products; and
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general economic conditions.
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We designed X-Gene for existing and emerging cloud and enterprise data centers. Existing data centers currently rely primarily on Xeon server processors and related chipsets developed and marketed by Intel, which has significantly greater R&D, manufacturing, sales and market development resources than we do. Intel also offers lower-performance products for lower-intensity data center applications. As a result, Intel is a significant competitor in the cloud and enterprise server infrastructure market. In addition to Intel, in the cloud and enterprise server market, we currently or will in the future compete with a number of ARM-based server silicon vendors, including AMD, Broadcom, Cavium and Qualcomm. In the embedded computing silicon solutions market, we compete with technology companies such as NXP, Cavium and Intel. In addition, some of our customers and potential customers have internal integrated circuit design or manufacturing capabilities with which we compete. In the connectivity silicon solutions market, we compete primarily with companies such as Broadcom, Inphi and Microsemi. Many of these companies have substantially greater financial, R&D, marketing and distribution resources than we have. We may also face competition from new entrants to our target markets, including both private and public technology companies that may develop or acquire differentiating technology and then apply their resources to our detriment.
Many of our competitors have longer operating histories and presences in key markets, greater name recognition, and larger customer bases, workforces and intellectual property ("IP") portfolios, and in some cases operate their own fabrication facilities. Our competitors may offer enhancements to existing products, or offer new products based on new technologies, industry standards or customer requirements more quickly than comparable products from us or that could replace or provide lower cost alternatives to our products. Competitors’ introduction of enhancements, new products or new pricing structures could render our existing and future products obsolete or unmarketable. In addition, large competitors could use their existing market share and influence, including without limitation financial incentives, to discourage potential ecosystem partners and customers from supporting or purchasing our products. We and our customers also face intense price pressure and competition from companies in lower cost countries such as China. In response to these price pressures, our customers could require us to reduce prices which could adversely affect our financial results. Furthermore, our discrete legacy products are being and could continue to be integrated into ASICs or combined into single chip solutions that could cause our revenues from such products to decline at a faster rate.
As a result of each of these factors, we cannot assure you that we will be able to continue to compete successfully against current or new competitors. If we do not compete successfully, we may lose market share in our existing and target markets and our revenues may fail to increase or may decline, which could have a material adverse effect on our business, financial condition and results of operations.
Our industry and markets are subject to consolidation, which may result in stronger competitors, fewer customers and reduced demand.
There has been and will likely continue to be significant industry consolidation among communications IC companies, network equipment companies and telecommunications companies, such as the acquisition of Broadcom Corporation by Avago Technologies in February 2016, of Altera Corporation by Intel Corporation and of Freescale Semiconductor by NXP Semiconductors in December 2015, of Cambridge Silicon Radio by Qualcomm in August 2015, of IBM’s Microelectronics business (including its 300nm and 200nm wafer foundries) by GlobalFoundries in July 2015, and of Spansion by Cypress Semiconductor in March 2015. Also in 2016 and 2015, there were announcements of numerous additional proposed consolidations in the semiconductor market, involving both larger and smaller target companies. We expect this consolidation to continue as companies attempt to benefit from economies of scale, gain improved or more comprehensive product or technology portfolios, increase the size of their serviceable markets, and otherwise strengthen or hold their positions in an evolving technology landscape. Chinese companies and investment groups have also launched a number of acquisitions, joint venture partnerships, and significant equity investment stakes in IC companies, in furtherance of China’s stated goal of becoming self-sufficient in semiconductors and reducing imports from foreign suppliers. Such industry and market consolidation may result in stronger competitors, fewer customers and reduced demand for our products, which in turn could have a material adverse effect on our business, operating results, and financial condition. In addition, our Company or one or more of our product families or technologies may become a target for a company looking to improve its competitive position through acquisition, and one or more of our product families or technologies that no longer hold the prospect of providing sufficient investment return may become the target of divestiture activities. There can be no guarantee that any such divestiture activities would be successful. The Board of Directors on an ongoing basis evaluates the potential risks and benefits to our Company and its stockholders with respect to various potential consolidation scenarios involving our business, product lines and technologies and those of third party business enterprises.
If we are unable to timely develop, market or sell new products or new versions of products to replace our current products, our operating results and competitive position will be materially harmed.
Our industry is characterized by intense competition, rapidly evolving technology and continually changing customer requirements. These factors will over time render our existing products less competitive or obsolete. Some of our existing products have experienced weakening overall demand, and revenues from these products can be expected to continue to decline further in subsequent quarters. Accordingly, our future operating results and ability to compete will depend in large part on our ability to develop new products and new generations and versions of our existing products that achieve market acceptance on a timely and cost-effective basis, and to respond to changing requirements. If we are unable to do so, our business, operating results and financial condition will be negatively affected. In particular, our inability to productize and generate demand for our X-Gene Server on a Chip solutions, our X-Weave connectivity products and our HeliX embedded products, and related products, in a timely manner would have a material adverse effect on our operating results and financial condition.
The successful development and market acceptance of our products depend on a number of factors, including, but not limited to:
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our customers’ willingness to incorporate products based on the ARM architecture, on which most of our new products are based, into their own products and systems;
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our successful collaboration with our ecosystem and technology partners;
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availability, quality, price, performance, power consumption, size and total cost of ownership of our products relative to competing products and technologies;
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our accurate prediction of changing customer requirements;
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the sufficiency and scale of our R&D budget and our timely development of new designs;
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retention of key technical and design expertise, both internally and within third-party technology development partners;
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timely qualification and certification of our products for use in electronic systems;
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continued availability on commercially reasonable terms of the manufacturing services, technology components and tools that we purchase or license from third party suppliers;
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commercial acceptance and production of the electronic systems into which our products are incorporated;
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our customer service and support capabilities and responsiveness;
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successful development of relationships with existing and potential new customers;
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maintaining compliance and compatibility with new and changing industry standards and requirements;
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maintaining close working relationships with key customers so that they will design our products into their future products; and
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our ability to develop, gain access to and use leading technologies in a cost-effective and timely manner.
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We have in recent years devoted substantial engineering and financial resources to designing, developing and rolling out new products and technologies and introducing several new products. However, there can be no assurance that our product development efforts will be successful or that the products and technologies we have recently developed and which we are currently developing will achieve widespread market acceptance. If these products and technologies fail to achieve market acceptance, in a timely manner or at all, or if we are unable to continue developing new products and technologies that achieve market acceptance, our business, financial condition and operating results will be materially and adversely affected. In addition, for our X-Gene, X-Weave and HeliX
product families, we are a licensee of the ARM 64-bit instruction set architecture ("ISA"), and will depend upon our ability to successfully renew or otherwise maintain our license rights to that ISA, as well as the timely delivery by ARM of various updates and other support under the license agreement.
There can be no guaranty that our existing ARM license rights, some of which expired in the fourth quarter of fiscal 2016, will be sufficient to enable us to fully develop and implement our ARM-based product roadmap, or that we will be able to expand or renew those license rights on commercially reasonable terms or at all. The success of our ARM-based products will also depend, among other things, on customers’ willingness to incorporate products based on the ARM architecture into their products and systems, and the anticipated time frame within which such incorporation occurs. For many customers, this would represent a change from their existing technology and their existing key suppliers, and therefore the time frame and magnitude of adoption of ARM-based products such as ours is inherently uncertain. Furthermore, the development and commercialization of new products incorporating ARM architecture could be delayed if the ecosystem partners that rely on this architecture are unable to successfully establish their own operations on a timely basis or if they are unable to work successfully with ARM in developing their products.
Our success depends in part on the continued service of our key senior management, design engineering, sales, marketing, and manufacturing personnel, our ability to identify, hire and retain additional qualified personnel, and successful succession planning.
Our success depends to a significant extent upon the continued service of our senior management and engineering personnel and successful succession planning. Among other things, our ability to continue our commercialization and next-generation product development efforts for X-Gene and other new products will depend upon the retention of key engineering
personnel, including former Veloce personnel and others. There have occurred some departures of these personnel in recent quarters. We acquired Veloce in June 2012 pursuant to a merger agreement that provided for payments based on post-closing product development milestones. Our ability to retain key former Veloce personnel has been, and may continue to be, adversely impacted by factors such as the substantial completion of our payment obligations to them under the Veloce merger agreement, the effects of past or future restructuring activities in increasing or changing their workloads, and the impact of declines in our stock price on the value of their equity compensation packages.
As our core business and technologies continue to evolve, including without limitation with respect to our growth and expansion into next-generation cloud infrastructure and data center markets, our success will depend on effectively transitioning to certain new management and engineering personnel who are most capable of supporting that evolution. There is intense competition for qualified personnel in the semiconductor industry, and in particular for design, product and test engineers. We may not be able to continue to identify, attract and retain engineers or other qualified personnel necessary for the development of our business, or to replace engineers or other qualified personnel who have left or may leave our employment.
We also face the risks associated with our former employees assisting their new employers to recruit our key talent, in violation of their contractual non-solicitation and confidentiality covenants and other legal obligations to us. Our efforts to enforce these contractual covenants and legal obligations has required, and may in the future require, us to incur significant litigation expenses and devote significant management attention. Furthermore, while we encourage our employees to abide by all contractual and legal obligations owed to their former employers, there can be no assurance that we will not be the target of allegations made by other companies that we have, directly or indirectly, unlawfully solicited their employees to join us. There are significant costs associated with recruiting, hiring and retaining personnel, as well as significant actual and potential losses to our business arising from the delays in or cancellation of technology development, product completion and roll-out, customer design wins and product orders, and sales revenues caused by the departure of key engineering resources.
Periods of contraction in our business may also inhibit our ability to attract and retain our personnel. As we respond to declining revenues and/or implement additional cost improvement measures such as reductions in force, our remaining key employees may lose confidence in our future performance and decide to leave. Loss of the services of, or failure to recruit, key design engineers or other technical and management personnel could be significantly detrimental to our product development or other aspects of our business. To manage our operations effectively, we will be required to continue to improve our operational, financial and management systems and to successfully hire, train, motivate, manage and retain our employees.
If we issue additional shares of stock in the future, it may have a dilutive effect on our stockholders.
We have a significant number of authorized and unissued shares of our common stock available. These shares will provide us with the flexibility to issue our common stock for proper corporate purposes, which may include raising equity capital from strategic, institutional or other investors, discharging our remaining purchase price obligations in the Veloce acquisition, making new acquisitions through the use of stock, and adopting additional equity incentive plans or increasing the share reserve under our existing plan. For example, to enable us to make future equity grants to attract and retain key employees and service providers, in August 2015 we requested and received stockholder approval of a 3.3 million share increase in the shares reserved for issuance under our 2011 Equity Incentive Plan. Any issuance of our common stock will result in immediate dilution of our stockholders. In addition, the issuance of a significant amount of our common stock may result in additional regulatory requirements, such as stockholder approval. Currently, we have the ability to issue up to 1.7 million
additional shares of our common stock as Veloce acquisition consideration without obtaining stockholder approval. In the event stockholder approval is required but not obtained, we likely will be forced to use a greater portion of our cash than currently anticipated in order to satisfy our Veloce payment obligations. The actual amount and timing of additional share issuances to be made in connection with Veloce acquisition payments will be based upon numerous factors including, without limitation, the total amount of acquisition consideration to be paid, the market price of our common stock as of each payment date, and our available cash balances and liquidity requirements as of such dates, some of which are not determinable at this time.
Our dependence on third-party manufacturing and supply relationships increases the risk that we will not have an adequate supply of products to meet demand or that our cost of materials will be higher than expected.
We depend upon third parties to manufacture, assemble, package and test certain of our products. As a result, we are subject to risks associated with our dependence on third-party manufacturing and supply relationships, including:
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pricing of foundry services and of other supply chain services such as assembly, packaging and testing, from vendors such as Taiwan Semiconductor Manufacturing Company Ltd., GlobalFoundries, Inc. (which recently took over foundry services previously provided to us by International Business Machines Corporation), Advanced Semiconductor Engineering, Inc. and Siliconware Precision Industries Co. Ltd.;
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reduced control over the supply chain process, delivery schedules and quality;
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potentially inadequate manufacturing yields and excessive costs;
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the risks associated with transitioning our manufacturing supply from one foundry or other supplier to another, which may be extremely difficult to accomplish, particularly on short notice and when cutting-edge process technologies are involved;
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our ability to retain key personnel with specialized knowledge of our products and processes;
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difficulties selecting and integrating new subcontractors;
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the potential lack of adequate capacity at the foundry during periods of high demand, resulting in significant increases in lead time requirements and production delays, which can be expected to cause difficulties with our customers, including reduced revenues and higher expenses;
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increased risk of excess and obsolete inventory charges due to the higher level of inventories in response to the increased lead times;
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limited warranties on products supplied to us, which may not match the warranties that our customers require from us;
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potential instability and business disruption in countries where third-party manufacturers or distributors are located;
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potential misappropriation of our IP; and
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potential foundry shortages when we commence volume manufacturing of new products, especially those with 28nm, 16nm and anticipated smaller geometry technologies or using more complicated manufacturing process technologies such as FinFET, which could delay the supply of products to our customers.
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Our outside foundries and manufacturing, assembly, packaging and test service providers generally operate on a purchase order basis, and we have few long-term supply arrangements with these suppliers. We have less control over delivery schedules, manufacturing yields and costs than our competitors that use their own fabrication facilities or provide larger volumes of business to their outside foundries. A manufacturing disruption or capacity constraint experienced by one or more of our outside foundries or service providers or a disruption of our relationship with an outside foundry or service provider, including discontinuance of our products by that foundry or service provider, would negatively impact the production and cost structure of certain of our products for a substantial period of time.
As our third-party manufacturing suppliers extend their lead time requirements, we will likely need to also extend our lead time requirements to our customers. This could cause our customers to lower their competitive assessment of us as a supplier and, as a result, we may not be considered for future design awards.
Each of our integrated circuit, or IC, products is generally only qualified for production at a single foundry. These suppliers can allocate, and in the past have allocated, capacity to the production of other companies' products while reducing deliveries to us on short notice. There is also the potential that they may discontinue manufacturing our products, be acquired by competitors, or go out of business. Because establishing relationships, designing or redesigning silicon solutions, and ramping production with new outside foundries may take over a year, there is no readily available alternative source of supply for these products.
Difficulties associated with adapting our technology and product design to the proprietary process technology and design rules of outside foundries can lead to reduced yields of our IC products. This risk is substantially higher with respect to the manufacture of our X-Gene, X-Weave and HeliX products at 28 nanometers, and will be even higher when using anticipated smaller geometries such as 16 nanometers and more complicated processes such as FinFET. FinFET generally refers to a multi-gate architecture that includes a silicon “fin” that wraps around the conducting portion of the device. The process technology of an outside foundry is typically proprietary to the manufacturer. Since low yields may result from either design or process technology failures, yield problems may not be effectively determined or resolved until an actual product exists that can be analyzed and tested to identify process sensitivities relating to the design rules that are used. As a result, yield problems may not be identified until well into the production process, and resolution of yield problems may require cooperation between us and our manufacturer. This risk could be compounded by the offshore location of certain of our manufacturers, increasing the effort and time required to identify, communicate and resolve manufacturing yield problems. Manufacturing defects that we do not discover during the manufacturing or testing process may lead to costly product recalls. These risks may lead to increased costs or delayed product delivery, which would harm our profitability and customer relationships.
If the foundries or subcontractors we use to manufacture our products discontinue the manufacturing processes needed to meet our demands, fail to upgrade their technologies needed to manufacture our products, or otherwise fail to perform the necessary manufacturing or operations services on a timely basis, we may be unable to deliver products to our customers, which would materially adversely affect our operating results and harm our reputation. The transition to the next generation of manufacturing technologies at one or more of our outside foundries and suppliers could be unsuccessful or delayed.
Our requirements typically represent a very small portion of the total production of the third-party foundries and related service providers. As a result, we are subject to the risk that a producer or service provider will cease production of an older or
lower-volume process that it uses to produce our parts, cease performing the supply services currently provided, or raise the prices it charges us. We cannot assure you that our external foundries and related service providers will continue to devote resources to the production of parts for our products or continue to advance the process design technologies on which the manufacturing of our products are based. Each of these events could increase our costs, lower our gross margin, cause us to hold more inventory or reduce our ability to deliver our products on time. As our volumes decrease with any third-party foundry, the likelihood of unfavorable pricing or service levels increases.
Our customers’ products incorporate components from other suppliers. If these other suppliers cannot access sufficient production capacity or have other production or delivery issues, our customers may reduce orders for our products.
Our restructuring activities could result in management distractions, operational disruptions and other difficulties.
Over the past several years, we have implemented several restructuring activities in an effort to reduce operating costs and similar activities may continue in the future. For example, our Board of Directors approved reductions in force of between 5% and 10% of our workforce on four occasions from December 2012 to January 2015, the most recent of which was substantially completed by March 31, 2015. Additional reductions in force and senior level employee replacements may be required as we continue to realign our business organization, operations and product lines. Employees whose positions were or will be eliminated in connection with these restructuring activities may seek employment with our competitors, customers or suppliers. Although each of our employees is required to sign a confidentiality agreement with us at the time of employment, which agreement contains covenants prohibiting among other things the disclosure or use of our confidential information and the solicitation of our employees, we cannot guarantee that the confidential nature of our proprietary information will be maintained in the course of such future employment, or that our key continuing employees will not be solicited to terminate their employment with us. Any restructuring effort could also cause disruptions with customers and other business partners, divert the attention of our management away from our operations, weaken our administrative, financial reporting and compliance capabilities, harm our reputation, expose us to increased risk of legal claims by terminated employees, increase our expenses, increase the workload placed upon remaining employees and cause our remaining employees to lose confidence in the future performance of the Company and decide to leave. We cannot guarantee that any restructuring activities undertaken in the future will be successful, or that we will be able to realize the cost savings and other anticipated benefits from our previous, current or future restructuring plans. In addition, our reduced workforce may adversely impact our ability to respond rapidly to new growth opportunities or to remain competitive.
We may experience difficulties in transitioning to smaller geometry processes or in achieving higher levels of design integration and, as a result, may experience reduced manufacturing yields, delays in product deliveries and increased expenses.
We may not be able to achieve higher levels of design integration or deliver new integrated circuit products on a timely basis. We periodically evaluate the benefits, on a product-by-product basis, of migrating to smaller geometry process technologies to reduce our costs and increase performance. As smaller line-width geometries, such as 16, 14 or 7 nanometer, and more complicated processes such as FinFET, are introduced to and become more prevalent in the industry, we expect to integrate greater levels of functionality into our IC products and to transition our IC products to smaller geometries.
Shifting to smaller geometry process technologies and new manufacturing processes often results in reduced manufacturing yields, delays in product deliveries and increased expenses. The transition to smaller geometries is inherently more expensive, and, as we manufacture more products using smaller geometries, the incremental costs could have an adverse impact on our earnings. We may face these difficulties, delays and expenses with respect to the 28 nanometer and smaller versions of X-Gene, X-Weave and Helix and as we continue to transition our other products to smaller geometry processes. Transitions to more sophisticated designs and processes, such as FinFET, could result in similar difficulties. We are dependent on our relationships with our foundries to transition to smaller geometry and new design processes successfully and at competitive pricing. We cannot assure you that our foundries will be able to effectively manage these transitions or that we will be able to maintain our relationships with our foundries. If we or our foundries experience significant delays or difficulties in these transitions or fail to implement them at competitive pricing, our business, financial condition and results of operations could be materially and adversely affected.
The gross margins for our products could decrease rapidly or not increase as forecasted, which would negatively impact our business, financial conditions and results of operations.
The gross margins for our solutions have declined in the past and may do so again in the future. Factors that we expect to cause downward pressure on the gross margins for our products include competitive pricing pressures, the cost sensitivity of our customers, particularly in higher-volume markets, new product introductions by us or our competitors, the overall mix of our products sold during a particular quarter, and other factors. From time to time, for strategic reasons, we have accepted and may in the future accept orders at less than optimal gross margins in order to facilitate the introduction of new products or the
market penetration of existing products. We may also accept orders at less than optimal gross margins to encourage customers to order sooner or in larger quantities than previously anticipated. To maintain acceptable operating results, we will need to offset any reduction in gross margins of our products by reducing costs, increasing sales volume, developing and introducing new products and developing new generations and versions of existing products on a timely basis. If the gross margins for our products decline or do not increase as anticipated and we are unable to offset those reductions, our business, financial condition and results of operations will be materially and adversely affected. In addition, our margins may fluctuate from
period to period based on the timing and amount of any IP licensing or sales arrangements or development agreements that we may undertake. Although historically these arrangements and agreements have provided us with higher-margin revenues, we cannot predict the frequency or extent to which we will engage in them in the future.
Adverse economic and financial market conditions could harm our revenues, operating results and financial condition.
Our business has been negatively affected by occasional downturns in the economies of the United States ("U.S.") and other countries, including one in recent years that continues to cause unstable economic and political conditions in certain countries, including several countries in Europe. Economic downturns or political instability in other geographic regions, such as Asia, could also negatively affect our business. Our current operating plans are based on assumptions concerning levels of consumer and corporate spending. If weak global economic and market conditions persist or worsen, or if the recent rebound in the U.S. economy deteriorates, our business, operating results and financial condition could suffer materially, which in turn could result in a decline in the price of our common stock. If economic conditions worsen, we may have to implement additional cost reduction measures or delay certain R&D spending, which may adversely impact our ability to introduce new products and technologies. Because we expect to depend on new products for a substantial portion of our future revenues, this could have a material adverse effect on us.
Adverse economic conditions affecting our larger customers could have a particularly significant effect on our business and operating results, given our customer concentration. See "Sales of our Connectivity and Computing products are concentrated among a few large customers" below. Among other things, these conditions could impair the ability of our customers to pay for our products, causing our allowances for doubtful accounts and write-offs of accounts receivable to increase. In addition, adverse economic conditions could cause our contract manufacturers and other suppliers to experience financial difficulties that negatively affect their operations and their ability to supply us with necessary products and services.
Generally to enhance our IP portfolio and to augment our R&D resources, we have invested, and may continue to invest, in privately-held companies, most of which can still be considered to be in startup or developmental stages. These investments are inherently risky as the markets for the technologies or products they have under development are typically in the early stages and may never materialize. In fiscal 2015, we determined to write off all of the value of our private company investments.
Our operating results may fluctuate because of a number of factors, many of which are beyond our control.
If our operating results are below the expectations of research analysts or investors, then the market price of our common stock could decline. Some of the factors that affect our quarterly and annual results, but which are often difficult to control or predict, include those discussed elsewhere in this “Risk Factors” section, as well as the following:
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market acceptance of our products and our customers' products, including without limitation any failure of our X-Gene, X-Weave or HeliX product families to be commercially accepted within the time frames and at the levels we anticipate;
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fluctuations in the timing and amount of customer requests for product shipments;
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the reduction, rescheduling or cancellation of orders by customers, including without limitation as a result of slowing demand for our products or our customers' products, over-ordering or double booking of our products or our customers' products, or agreements with customers to accelerate, delay, increase or decrease previously anticipated orders;
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changes to U.S. or other applicable export laws or the imposition of trade embargoes or other restrictions, which may delay, limit or prohibit our sale or resale of products and technologies to certain countries or customers;
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changes in the timing and amounts of shipments due to our decision to phase out a particular product, which often results in near-term “last-time-buy” orders for the “end-of-life” product that would otherwise have been placed and shipped in later periods;
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changes in the mix of product orders;
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the gain or loss of one or more key customers or their key customers, or significant changes in the financial condition of one or more of our key customers or their key customers;
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our ability to introduce, certify and deliver new products and technologies, including without limitation our X-Gene, X-Weave and HeliX products, on a timely basis;
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the announcement or introduction of new products and technologies by our competitors;
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competitive pressures on selling prices;
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the ability of our customers to obtain components from their other suppliers;
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risks associated with our or our customers' dependence on third-party manufacturing and supply relationships;
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increases in the costs of technology and architecture licenses, mask sets and products, including without limitation with respect to smaller or more sophisticated process technologies such as FinFET, or the discontinuance of products, licenses, services or components by our suppliers;
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the amounts and timing of meeting the specifications and expense recovery on non-recurring engineering projects;
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the amounts and timing of costs associated with warranties, product returns and customer indemnification claims;
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the impact of potential claims asserting infringement of third party patent or misappropriation of third party IP rights;
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the amounts and timing of investments in R&D;
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the product lifecycle and recoverability of architectural licenses, technology access fees and mask set costs;
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revenue and margin fluctuations depending on the timing and amount of any IP licensing or sale transactions that we may undertake;
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the amounts and timing of the costs associated with payroll taxes related to stock option exercises or settlement of restricted stock units;
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the impact of potential one-time charges related to goodwill;
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the impact on interest income of a significant use of our cash for an acquisition, stock repurchase or other purpose;
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the effects of changes in interest rates or credit worthiness on the value and yield of our short-term investment portfolio;
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the effects of changes in accounting standards; and
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the availability of ecosystem partners.
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Our business, financial condition and operating results would be harmed if we do not achieve anticipated revenues.
We can have revenue shortfalls for a variety of reasons, including:
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shortages of raw materials or production capacity constraints that lead our suppliers to allocate available supplies or capacity to their other customers, which may disrupt our ability to meet our production obligations;
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our customers experiencing shortages from their suppliers, which may cause them to delay orders or deliveries of our products;
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delays in the availability of our products or our customers' products;
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delays in the availability of the software elements from third party vendors and ecosystem partners that may cause delays in customers' use of our hardware products, resulting in further delays in bringing our products to market;
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the reduction, rescheduling or cancellation of customer orders, including without limitation agreements with customers to delay the timing or decrease the size of orders, resulting in decreased near-term revenues from the affected products, or to accelerate the timing or increase the size of orders, resulting in reduced revenues from those products in later periods;
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declines in the average selling prices of our products;
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delays in the introduction of new products, or lower than expected demand for new products;
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delays when our customers are transitioning from old architectures, technologies and products to new architectures, technologies and products;
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a decrease in demand for our products or our customers' products due to technological changes, industry consolidation, competitive developments, trends in our customers’ businesses or other factors;
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a decline in the financial condition or liquidity of our customers or their customers;
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the failure of our products to be qualified in our customers' systems or certified by our customers;
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excess inventory of our products held by our customers, resulting in a reduction in their order patterns as they work through such excess inventory;
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decisions to phase out or “end-of-life” particular products, which may result in higher near-term revenues due to customers’ final, “last-time-buy” orders, but a cessation of revenues from those products in later periods;
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fabrication, test, product yield, or assembly constraints for our products that adversely affect our ability to meet our production obligations;
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the failure of one or more of our subcontract manufacturers to perform its obligations to us;
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our failure to successfully integrate or maintain acquired companies, products and technologies; and
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global economic and industry conditions.
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Our business is characterized by short-term orders and shipment schedules. Customer orders typically can be cancelled or rescheduled without significant penalty to the customer. Because we do not have substantial non-cancellable backlog, we typically plan our production and inventory levels based on internal forecasts of customer demand, which is highly unpredictable and can fluctuate substantially. We generally recognize revenue upon shipment of products to a customer. If a
customer refuses to accept shipped products or does not pay for these products, we could miss future revenue projections or incur significant charges against our income, which could materially and adversely affect our operating results.
Our expense levels are relatively fixed in the short-term and are based on our expectations of future revenues. We have limited ability to reduce expenses quickly in response to any revenue shortfalls. Changes to production volumes and impact of overhead absorption may result in a decline in our financial condition or liquidity.
We are dependent on orders that are received and shipped in the same quarter and are therefore limited in our visibility of future product shipments.
Our net sales in any given quarter depend upon a combination of shipments from backlog and orders received in that quarter for shipment in that quarter, which we refer to as turns business. We estimate turns business at the beginning of a quarter based on the orders needed to meet the shipment forecasts that we set entering the quarter. Historically, we have relied on our ability to respond quickly to customer orders as part of our competitive strategy, resulting in customers placing orders with relatively short delivery schedules. Shorter lead times generally mean that turns orders as a percentage of our business are relatively high in any particular quarter and reduce our backlog visibility on future product shipments. Turns business correlates to overall semiconductor industry conditions and product lead times. Because turns business is difficult to predict, varying levels of turns business make our net sales more difficult to forecast. If we do not achieve a sufficient level of turns business in a particular quarter relative to our revenue forecasts, our revenue and operating results may suffer.
Our business faces challenges due to declining sales of our older products and the evolving dynamics of the networking and communications industries.
Each of our Connectivity and Computing product families faces industry-specific challenges, in addition to the risks applicable to our business as a whole. For our Connectivity products, order patterns historically have been uneven from period to period. The unpredictable nature of demand in this sector makes it more difficult to forecast our revenues, and may cause us to incur additional expenses for inventory that may need to be written off. Our Connectivity product lines are also subject to technology transitions within the communications industry. For example, as the communications industry has continued to shift away from the synchronous optical network (“SONET”)/synchronous data hierarchy standard to the higher speed, lower power optical transport network ("OTN") standard, substantially all of our new Connectivity product designs utilize the OTN standard. However, as a result of this transition, many of our older, SONET-based Connectivity products are experiencing declining sales, while our newer Connectivity products, such as the X-Weave product family, have not yet generated significant revenue. Moreover, the transition to OTN, resulting in higher sales volumes and increased competition from integrated solutions providers, is in turn leading to price and margin erosion challenges. The introduction of other technological standards may also affect demand for our products. For our Computing business, as well, the migration of the networking industry away from products utilizing the PowerPC architecture and towards products utilizing other architectures such as ARM, has presented challenges. In line with this migration, we are no longer introducing new PowerPC product designs and are reducing our resources equipped to support our older PowerPC product lines. Moreover, as many of our older, PowerPC-based Computing products are experiencing declining sales, we will increasingly depend on revenues from our new ARM-based products, such as the X-Gene product family and our HeliX embedded products. If we are unable to develop and deliver new Connectivity and Computing products that meet changing customer needs and generate sufficient revenue to offset the decline in sales of our older product lines, our business, results of operations and financial condition would be materially and adversely affected. See also "Sales of our Connectivity and Computing products are concentrated among a few large customers" below.
Our business may suffer due to downturns in the technology industry, which is cyclical.
The technology equipment industry is cyclical and has in the past experienced significant and extended downturns. The most recent downturn caused a reduction in capital spending on information technology ("IT") generally, which affected demand for our products. Future downturns may materially and adversely affect our business, operating results and financial condition. We sell our communications IC products primarily to communications equipment manufacturers that in turn sell their equipment to customers that depend on the growth of the Internet and other communications services. We are also developing and introducing new Cloud Server® products for the internet and data center markets. If those end markets fail to grow as expected, or experience downturns, demand for our products would be reduced.
Interruptions, delays, cyber attacks, security breaches or other unauthorized activities at third-party data centers or other cloud computing infrastructure providers, or similar failures within our internal IT systems, could materially harm our business.
Our business depends upon the reliable operation of internal and third-party IT systems, but we have limited control over the integrity and reliability of those systems. We conduct significant business functions and computer operations, including without limitation data storage and email, using the infrastructure systems of third-party vendors, such as remote data centers, virtual servers and other “cloud computing” resources. “Cloud computing” is an IT hosting and delivery system in which data is stored outside of the user's physical infrastructure and is delivered to and used by the user as an internet-based application
service. These third-party systems may experience cyber-attacks and other security breaches, along with the possible risk of loss, theft or unauthorized publication of our confidential information or that of our employees, customers, suppliers and other business partners. Any interruptions or problems at such data centers or other cloud computing facilities could result in significant disruptions to our business operations and potential liabilities to our employees and business partners. We do not control the operation of these third-party providers, and each is vulnerable to damage or interruption from earthquakes, floods, fires, vandalism, power loss, telecommunications failures and similar events. These third-party vendor relationships present further risk and management challenges for us, including, among others: confirming and monitoring the third party's security measures; the potential for improper handling of or access to our data; and data location uncertainty, including the possibility of data storage in inappropriate jurisdictions, where laws or security measures may be inadequate, or the unauthorized movement of technical data between locations in violation of applicable export laws. In addition, third-party data center and other providers have no obligation to renew their agreements with us on commercially reasonable terms, or at all. If we are unable to renew these agreements on commercially reasonable terms, we may experience costs or down-time in connection with the transfer to new third-party providers.
Our internal IT systems have also in the past experienced and will likely continue to experience cyber attacks of varying degrees. Such attacks, if successful, could result in the misappropriation of our IP, proprietary business information or financial resources or the interruption of our business. The reliability and security of our internal IT infrastructure, and our ability to continually update our technical and procedural safeguards in response to increased risks, is critical to our business.
There can be no assurance that we will be successful in preventing cyber attacks, security breaches or other unauthorized activities involving our IT systems, or detecting and stopping them once they have begun. Any failure of our outsourced service providers or our internal IT systems to properly protect our data or the confidential information of our employees and business partners may adversely affect our business, reputation, financial condition and results of operations, as well as result in significant expenses including governmental penalties.
In addition to the risk of cyber attacks or other unauthorized activities, our internally maintained IT infrastructure may experience interruptions of service or errors in connection with operational oversights, malfeasance, systemic failures (which may be caused by third-party actions including viruses or other externally introduced problems, hardware or software failures, telecommunications or Internet connectivity issues, natural disasters or other causes), systems integration or migration work. In such an event, we may be unable to implement new systems or transition data and processes promptly, which could be expensive, time consuming and disruptive. These disruptions could impair our ability to fulfill orders and interrupt other business functions, resulting in delayed or lost sales, lower margins or lost customers, which could adversely affect our reputation and financial results.
Our business is dependent on selling to distributors and any disruption in their operations could materially harm our business.
Sales to distributors accounted for
49%
, 54% and 54% of our revenues for the fiscal years ended March 31, 2016, 2015 and 2014, respectively. Our largest distributor accounted for
27%
, 26% and
27%
of our revenues for the fiscal years ended March 31, 2016, 2015 and 2014, respectively. We do not have long-term agreements with our distributors, and either party can terminate the relationship with little advance notice.
Any future adverse conditions in the U.S. and global economies or in the U.S. and global credit markets could materially impact the operations of our distributors. Any deterioration in the financial condition of our distributors or any disruption in their operations could adversely impact the flow of our products to our end customers and adversely impact our results of operations. In addition, during an industry or economic downturn, it is possible there will be an oversupply of products and a decrease in sell-through of our products by our distributors, which could cause them to hold excess inventories and reduce our net sales in a given period and result in an increase in stock rotations.
Sales of our Connectivity and Computing products are concentrated among a few large customers.
A relatively small number of customers have accounted for a significant portion of our net revenues in any particular period. Based on direct shipments, net revenues to customers that accounted for at least 10% of total net revenues were as follows:
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Fiscal Years Ended March 31,
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2016
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2015
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2014
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Wintec (global logistics provider)*
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27
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%
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20
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%
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22
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%
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Avnet (distributor)
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26
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%
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26
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%
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27
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%
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* Wintec provides vendor managed inventory support primarily for Cisco Systems, Inc.
We have no long-term volume purchase commitments from our key customers. One or more of our key customers may discontinue operations as a result of consolidation, bankruptcy or otherwise. Reductions, delays and cancellation of orders from our key customers, the loss of one or more key customers, or the failure to obtain certifications from a key customer or its distribution channel could significantly reduce our revenues and profits. Our agreements with customers typically are non-exclusive and do not require them to purchase a minimum quantity of our products. We cannot assure you that our current customers will continue to place orders with us, that orders by existing customers will continue at current or historical levels or that we will be able to obtain orders from new customers. Changes in a large customer’s financial condition, budgeting or technology strategy may materially affect our sales and could result in our holding higher than expected unsold inventory, which could result in higher expenses.
Our ability to maintain or increase sales to key customers and attract significant new customers is subject to a variety of factors, including:
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customers may stop incorporating our products into their own products with limited notice to us;
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customers or prospective customers may not incorporate our products into their future product designs;
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the timing and success of new product introductions by customers;
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some of our customers may reduce or eliminate future purchase orders or design wins placed with us as an adverse reaction to our having sold patents to third parties who thereafter asserted the acquired patents in infringement actions brought against such customers, or due to other adverse IP developments;
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sales of customer product lines incorporating our products may rapidly decline or such product lines may be phased out;
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our agreements with customers typically are non-exclusive and do not require them to purchase a minimum quantity of our products;
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many of our customers have pre-existing relationships or may establish relationships with our current or potential competitors that may cause our customers to switch from using our products to using competing products;
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some of our OEM customers may develop products internally that would replace our products;
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we may not be able to successfully develop relationships with additional network equipment vendors;
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our relationships with some of our larger customers may deter other potential customers (who compete with these customers) from buying our products; and
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the impact of terminating certain sales or support personnel as a result of our workforce reduction or otherwise.
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The occurrence of any one of the factors above could have a material adverse effect on our business, financial condition and results of operations.
Any significant order cancellations or order deferrals could cause unplanned inventory growth resulting in excess inventory, which may adversely affect our operating results.
Our customers may increase orders during periods of product shortages or cancel orders if their inventories are too high. Major inventory corrections by our customers are not uncommon and can last for significant periods of time and affect demand for our products. Customers may also cancel or delay orders in anticipation of new products or for other reasons. Cancellations or deferrals could cause us to hold excess inventory, which could reduce our profit margins by reducing sales prices, incurring inventory write-downs or writing off additional obsolete products.
Increasing lead times from our suppliers cause us to make commitments for inventory purchases earlier in our production cycle which in turn increases our risk of having excess inventory. In addition, from time to time some of our suppliers deliver to us based on allocations which in turn causes us to increase our inventory levels. We must balance our inventory levels between the risk of losing a significant customer to a competitor because we cannot meet our customer's requirements and the risk of having excess inventory if a significant order is cancelled.
In addition, from time to time, in response to anticipated long lead times to obtain inventory and materials from our outside contract manufacturers, suppliers and foundries, we may order materials in advance of anticipated customer demand. This advance ordering has in the past resulted and may in the future result in excess inventory levels or unanticipated inventory write-downs if expected orders fail to materialize, or other factors render our products less marketable. If we are forced to hold excess inventory or we incur unanticipated inventory write-downs, our financial condition and operating results could be materially and adversely affected.
Inventory fluctuations could affect our results of operations and restrict our ability to fund our operations. Inventory management remains an area of focus as we balance the need to maintain strategic inventory levels to ensure competitive lead times and meet customer expectations against the risk of inventory obsolescence because of changing technology and customer requirements. Customer orders for our products typically have non-standard lead times, which make it difficult for us to predict
revenues and plan inventory levels and production schedules. If we are unable to plan inventory levels and production schedules effectively, our business, financial condition and operating results could be materially and adversely affected.
From time to time, we may discuss our “book-to-bill” ratio with analysts and investors, or include it in other public disclosures. The book-to-bill ratio, which is commonly used by investors to compare and evaluate technology and semiconductor companies, is a demand-to-supply ratio that compares the total amount of orders received to the total amount of orders filled. This ratio tells whether we have more orders than we delivered (if greater than 1), have the same amount of orders than we delivered (equals 1), or have fewer orders than we delivered (under 1). Though the ratio provides a general indicator of whether orders (bookings) are rising or falling at a particular point in time, it does not consider the timing of, or if the order will result in, future revenues or the effect of changing lead times and product phase-out decisions on bookings. As lead times increase, customers will place orders sooner, and when we declare a product to be “end-of-life,” customers may place final, non-recurring orders for such product, thereby increasing our bookings and book-to-bill ratio in the near term. Due to the limitations of this ratio, we recommend that investors do not place undue emphasis on it when evaluating a potential investment in our common stock.
There is no guarantee that design wins will become actual orders and sales.
A “design win” occurs when a customer or prospective customer notifies us that our product has been selected to be integrated with the customer's product. There can be delays of several months or more between the design win and when a customer initiates actual orders of our product. Following a design win, we will commit significant resources to the integration of our product into the customer's product before receiving the initial order. Receipt of an initial order from a customer following a design win, however, is dependent on a number of factors, including the success of the customer's product, which cannot be guaranteed. The design win may never result in an actual order or sale of our products. If we fail to generate revenues after incurring substantial expenses to develop a product or to achieve a design win, our business and operating results would suffer.
Our customers' products typically have lengthy design cycles. A customer may decide to cancel or change its product plans, which could cause us to lose anticipated sales.
After we have developed and delivered a product to a customer, the customer will usually test and evaluate our product prior to designing its own equipment to incorporate our product. Our customers may need more than six months to test, evaluate and adopt our product and an additional nine months or more to begin volume production of the equipment or devices that incorporate our product. Due to this generally lengthy design cycle, we may experience significant delays from the time we increase our operating expenses and make investments in inventory until the time that we generate revenue from these products. It is possible that we may never generate any revenue from these products after incurring such expenditures. Even if a customer selects our product to incorporate into its equipment, we cannot guarantee that the customer will ultimately market and sell its equipment or devices, and that such efforts by our customer will be successful. The delays inherent in this lengthy design cycle increase the risk that a customer will decide to cancel or change its product plans. Such a cancellation or change in plans by a customer could cause us to lose sales that we had anticipated. While our customers' design cycles are typically long, some of our product life cycles tend to be short as a result of the rapidly changing technology environment in which we operate. As a result, the resources devoted to R&D, product sales and marketing may not generate material revenue for us, and from time to time, we may need to write off excess and obsolete inventory. If we incur significant R&D and marketing expenses and investments in inventory in the future that we are not able to recover, and we are not able to mitigate those expenses, our operating results could be adversely affected. In addition, if we sell our products at reduced prices in anticipation of cost reductions but still hold higher cost products in inventory, our operating results would be harmed.
An important part of our strategy is to focus on data center markets. If we are unable to further penetrate into and expand our share of these markets or accurately anticipate or react timely or properly to emerging trends, our revenues may not grow and could decline.
Our target markets, including the data center market, undergo transitions from time to time in which products incorporate new features, interoperability and performance standards on an industry-wide basis. If our products are unable to support the new features or standards required by OEMs or end customers in these markets, or if our products fail to be certified or adopted by OEMs, we will lose business from an existing or potential customer and may not have the opportunity to compete for new design wins or certification until the next product transition occurs. If we fail to develop products with required features or standards, or if we experience a delay in certifying or bringing a new product to market, or if our customers fail to achieve market acceptance of their products, our revenues could be significantly reduced for a substantial period.
We face competition from customers developing products internally.
Data center customers for our products, and other customers, generally have substantial technological capabilities and financial resources. Some customers have traditionally used these resources to develop their own products internally. The future prospects for our products in these markets are dependent upon our customers' acceptance of our products as an alternative to their internally developed products. Future sales prospects also are dependent upon acceptance of third-party sourcing for products as an alternative to in-house development. Customers may in the future continue to use internally developed components. They also may decide to develop or acquire components, technologies or products that are similar to, or that may be substituted for, our products. If our customers fail to accept our products as an alternative, if they develop or acquire the technology to develop such components internally rather than purchase our products, or if we are otherwise unable to develop or maintain strong relationships with them, our business, financial condition and results of operations would be materially and adversely affected.
Our business strategy contemplates the potential acquisition of other companies, products and technologies, as well as the divestitures of subsidiaries, operations and product families that no longer are material to our core business, are unable to achieve or maintain requisite scale in today’s rapidly consolidating marketplace, or otherwise no longer hold the potential for meaningful contributions to company earnings. Merger and acquisition activities involve numerous risks and we may not be able to conduct these activities successfully without substantial expense, delay or other operational or financial problems that could disrupt our business and harm our results of operations and financial condition.
Acquiring products, technologies or businesses from third parties, making and increasing equity investments in companies developing such products, technologies or businesses, and divesting business units or subsidiaries and selling product lines and technologies that are no longer material to our core business or no longer provide, or hold the prospect of providing, sufficient investment return, all have been and may continue to be part of our long-term business strategy. The risks involved with merger and acquisition, equity investment and divestiture activities include:
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diversion of management's attention from our core businesses;
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both expected and unanticipated adverse effects from the loss of technologies, patents and other IP and personnel relating to divested subsidiaries, product lines and businesses;
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adverse effects on existing business relationships with suppliers and customers;
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costs associated with acquisitions, investments and divestitures;
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difficulties associated with combining, integrating or separating acquired or divested operations, products or technologies;
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failure to integrate or potential loss of key employees, particularly those of the acquired companies;
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potential difficulties resulting from the divestiture of business operations, with respect to protecting the confidentiality of proprietary information and trade secrets not subject to the divestiture;
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difficulties and risks associated with the methods, estimates and judgments we use in applying critical accounting policies, such as the methods and judgments we used in valuing the Veloce merger consideration, which affected our R&D expense in certain periods in fiscal 2014 and 2015;
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difficulty in completing an acquired company's in-process research or development projects;
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customer dissatisfaction or performance problems with an acquired company's products or services;
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difficulties and risks associated with entering and competing in markets that are unfamiliar to us; and
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ability of the acquired companies to meet their financial projections and the effect of divesting subsidiaries and businesses on our revenues and margins.
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In addition, as a result of our acquisition and investment activities, we could:
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issue stock that would dilute, in some cases significantly, our current stockholders' percentage ownership;
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use a significant portion of our cash reserves or incur debt;
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assume liabilities, including unanticipated third-party litigation and other unknown liabilities and unanticipated costs, events or circumstances;
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incur adverse tax consequences;
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incur amortization or impairment expenses related to goodwill and other intangible assets, depreciation and deferred compensation; and
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incur large one-time charges and immediate write-offs.
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Any of these risks could materially harm our business, financial condition and results of operations.
Our past acquisitions required us to capitalize significant amounts of goodwill and purchased intangible assets, and we recorded significant impairment charges against these assets in our previous financial statements. At
March 31, 2016
, we had
$11.4 million
of goodwill. Although we had no purchased intangible assets at
March 31, 2016
, we may be required to take significant charges as a result of impairment to the carrying value of any goodwill or purchased intangible assets that we may record in the future.
We have expended significant effort and expense on divestitures, and may do so in the future. For example, in April 2013, we completed the sale of 100% of the issued and outstanding shares of TPack A/S, a wholly-owned subsidiary, and certain IP assets owned by us related to TPack's business for an aggregate consideration of $33.5 million, payable in cash. In January 2013, we sold certain assets relating to our active optical technology platform to Volex Plc for a purchase price of $2.0 million. We may be unable to accomplish future strategic divestitures on favorable terms or at all.
Our operating results are subject to fluctuations because we rely heavily on international sales.
International sales account for a significant part of our revenues and may account for an increasing portion of our future revenues. The revenues we derive from international sales are subject to certain risks, including:
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foreign currency exchange fluctuations to the extent that this impacts our customers' purchasing power;
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changes in regulatory requirements;
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tariffs, rising protectionism and other trade barriers;
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timing and availability of export licenses, as well as barriers to direct sales or resales to specified customers or jurisdictions outside the U.S.;
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political and economic instability;
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increased exposure to liability under U.S and foreign anti-corruption laws and regulations;
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difficulties in staffing and managing foreign operations;
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difficulties in managing distributors;
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reduced or uncertain protection for IP rights in some countries;
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longer payment cycles and difficulties in collecting accounts receivable in some countries;
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burdens of complying with a wide variety of complex foreign laws and treaties;
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potentially adverse tax consequences; and
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uncertain economic conditions that may worsen or sustain improvements which trail those in the U.S.
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Because sales of our products have been denominated to date primarily in U.S. dollars, increases in the value of the U.S. dollar could increase the price of our products so that they become relatively more expensive to customers in the local currency of a particular country, leading to a reduction in sales in that country. Future international activity may result in increased foreign currency denominated sales. Gains and losses on the conversion to U.S. dollars of accounts payable and other monetary assets and liabilities arising from international operations may contribute to fluctuations in our results of operations.
Some of our customer purchase orders and agreements are governed by foreign laws, which may differ significantly from laws in the U.S., or may require that dispute resolution occur in a foreign country. As a result, our ability to enforce our rights under such agreements may be limited compared with our ability to enforce our rights under agreements governed by laws in the U.S. and adjudicated in the U.S..
Our foreign operations may subject us to risks relating to the U.S. Foreign Corrupt Practices Act, other U.S. and foreign anti-bribery statutes and similar foreign regulations that may have a material adverse impact on our business, financial condition or results of operations.
Our international operations are subject to laws regarding the conduct of business overseas, such as the U.S. Foreign Corrupt Practices Act, or FCPA, and other anti-bribery regulations in foreign jurisdictions where we do business, such as China, India, Vietnam, and Europe. The FCPA prohibits the provision of illegal or improper inducements to foreign government officials in connection with obtaining or retaining business overseas or to secure an improper commercial advantage. The FCPA also requires us to keep accurate books and records of business transactions and maintain an adequate system of internal accounting controls. Violations of the FCPA, anti-bribery statutes or other similar laws by us, any of our foreign subsidiaries or distributors, or any of our or their employees, executive officers, or other agents or intermediaries, could subject us and the individuals involved to significant criminal and civil liability. In recent years, the Department of Justice and SEC have significantly stepped up their investigation and prosecution of alleged FCPA violations. Any such allegations of non-compliance with the FCPA, anti-bribery statutes or other similar laws could harm our reputation, divert management attention and result in significant expenses, and could therefore materially harm our business, financial condition or results of operations.
Our portfolio of short-term investments is exposed to certain market risks.
We maintain an investment portfolio of various holdings, types of instruments and maturities. Our portfolio primarily includes fixed income securities and mutual funds, the values of which are subject to market price volatility. These securities are generally classified as available-for-sale and, consequently, are recorded on our condensed consolidated balance sheets at fair value with unrealized gains or losses reported as a separate component of accumulated other comprehensive loss, net of
tax. Our investment portfolio is exposed to market risks related to changes in interest rates and credit ratings of the issuers, as well as to the risks of default by the issuers and lack of overall market liquidity. Substantially all of these securities are subject to interest rate and credit rating risk and will decline in value if interest rates increase or one or more of the issuers' credit ratings is reduced. Increases in interest rates or decreases in the credit worthiness of one or more of the issuers in our investment portfolio could have a material adverse impact on our financial condition or results of operations. During the fiscal years ended March 31, 2016, 2015 and 2014, we did not record any other-than-temporary impairment charges on our available-for-sale investments and, as of
March 31, 2016
the unrealized losses on our balance sheet on these securities that were not previously written down as an other-than-temporary impairment charge were
$35,000
. While not currently a material amount, there can be no guarantee that such losses will not increase in future periods due to the factors described above. If the fair value of any of these securities does not recover to at least the amortized cost of such security or we are unable to hold these securities until they recover, we may be required to record a decline in the carrying value of these securities.
Our operating results depend on manufacturing output and yields of our ICs and printed circuit board assemblies, which may not meet expectations.
The yields on wafers we have manufactured decline whenever a substantial percentage of wafers must be rejected or a significant number of die on each wafer are nonfunctional. Such declines can be caused by many factors, including minute levels of contaminants in the manufacturing environment, design issues, defects in masks used to print circuits on a wafer and difficulties in the fabrication process. Design iterations and process changes by our suppliers can cause a risk of defects. Many of these problems are difficult to diagnose, are time consuming and expensive to remedy and can result in shipment delays.
We estimate yields per wafer and final packaged parts in order to estimate the value of inventory. If yields are materially different than projected, work-in-process inventory may need to be re-valued. We may have to take inventory write-downs as a result of decreases in manufacturing yields. We may suffer periodic yield problems in connection with new or existing products or in connection with the commencement of production using a new design geometry or at a new manufacturing facility.
The complexity of our products may lead to errors, defects and bugs, which could negatively impact our reputation with customers and result in liability.
Products as complex as ours may contain errors, defects and bugs when first introduced or as new versions are released. Our products have in the past experienced such errors, defects and bugs. Delivery of products with production defects or reliability, quality or compatibility problems could significantly delay or hinder market acceptance of the products or result in a costly recall and could damage our reputation and adversely affect our ability to retain existing customers and attract new customers. Errors, defects or bugs could cause problems with device functionality, resulting in interruptions, delays or cessation of sales to our customers. We may also be required to make significant expenditures of capital and resources to resolve such problems. We cannot assure you that problems will not be found in new products, both before and after commencement of commercial production, despite testing by us, our suppliers or our customers. Any such problems could result in:
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delays in development, manufacture and roll-out of new products;
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additional development costs;
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loss of, or delays in, market acceptance;
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diversion of technical and other resources from our other development efforts;
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claims by our customers or others against us; and
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loss of credibility with our current and prospective customers.
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Any such event could have a material adverse effect on our business, financial condition and results of operations.
Regulatory authorities in jurisdictions into or from which we ship our products could levy fines or restrict our ability to import and export products.
A significant majority of our sales are made outside of the U.S. through the exporting and re-exporting of products, and may also include revenue arising from exporting our technology as part of our design and development of products for our customers outside of the U.S. In addition to local jurisdictions' export regulations, our U.S.-manufactured products and products based on U.S. technology are subject to U.S. laws and regulations governing international trade and exports. These laws and regulations include, but are not limited to, the Export Administration Regulations, and trade sanctions against embargoed countries and destinations administered by the U.S. Department of the Treasury, Office of Foreign Assets Control. Licenses or proper license exceptions are required for the shipment of our products to certain countries as well as for the transfer of certain information and technology to certain foreign countries, foreign nationals or other prohibited persons within the U.S. or abroad. A determination by the U.S. or local government that we have failed to comply with these or other import or export regulations can result in penalties which may include denial of import or export privileges, fines, civil and criminal penalties and seizure of products. Such penalties could have a material adverse effect on our business, including our ability to meet our sales and earnings forecasts. Further, a change in these laws and regulations including without limitation the
imposition by U.S. export authorities of export embargoes and other trade restrictions on one or more of our customers, could restrict our ability (or the ability of our customers) to export to previously permitted countries, customers, distributors or other third parties. Any one or more of these sanctions or a change in laws or regulations could have a material adverse effect on our business, financial condition and results of operations. We cannot predict whether quotas, duties, taxes or other charges or restrictions upon the importation or exportation of our products (by us or our customers) will be implemented by the U.S. or other countries.
If our internal control over financial reporting is not considered effective, our business and stock price could be adversely affected.
Section 404 of the Sarbanes-Oxley Act of 2002 requires us to evaluate the effectiveness of our internal control over financial reporting as of the end of each fiscal year, and to include a management report assessing the effectiveness of our internal control over financial reporting in our Annual Report on Form 10-K for that fiscal year. Section 404 also requires our independent registered public accounting firm to attest to and report on the effectiveness of our internal control over financial reporting.
Our management, including our chief executive officer and chief financial officer, does not expect that our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system's objectives will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of control must be considered relative to its costs. Because of the inherent limitations in all control systems, no evaluation of internal control can provide absolute assurance that all control issues and instances of fraud involving a company have been, or will be, detected. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and we cannot assure you that any design will succeed in achieving its stated goals under all potential future conditions. Over time, our internal control over financial reporting may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures. In addition, as a result of the reduction in the number of employees assigned to financial reporting and regulatory compliance functions in connection with recently completed and anticipated future restructuring activities, we may be at increased risk of failures in our internal control systems. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
Our management has concluded, and our independent registered public accounting firm has attested, that our internal control over financial reporting was effective as of March 31, 2016. We cannot be certain in future periods that any control deficiencies that may constitute one or more “significant deficiencies” (as defined by the relevant auditing standards) or material weaknesses in our internal control over financial reporting will not be identified by us or our independent registered public accounting firm. If we fail to maintain the adequacy of our internal controls, including any failure to implement or difficulty in implementing required new or improved controls, our business and results of operations could be harmed, the results of operations we report could be subject to adjustments, and we could fail to be able to provide reasonable assurance as to our financial results or the effectiveness of our internal controls or meet our reporting obligations. A material weakness in our internal control over financial reporting would require management and our independent registered public accounting firm to report our internal control over financial reporting as ineffective. If our internal control over financial reporting is not considered effective, we may experience a restatement as we have in the past of our financial statements. Any restatement or actual or perceived weakness or adverse conditions in our internal control over financial reporting, or in management's assessment thereof, could result in a loss of public confidence in our reported financial information, and have a material adverse effect on our business, the market price of our common stock, and our ability to access capital markets, and may result in litigation claims, regulatory actions and diversion of management attention and resources.
Our ability to supply a sufficient number of products to meet customer demand, and customer demand itself, could be severely hampered by natural disasters or other catastrophes, the effects of war, acts of terrorism, global threats or shortages of water, electricity or other supplies.
A significant portion of our R&D and supply chain operations are located in Asia. These locations are subject to natural disasters such as earthquakes, floods and tsunamis, like those that struck Taiwan, Japan and Thailand. In addition, our headquarters in California are located in areas containing known earthquake fault lines and potential susceptibility to tsunamis in the event of significant offshore earthquakes. We do not have earthquake or flood insurance for these facilities, because adequate coverage is not offered at economically justifiable rates. A significant natural disaster, shortage of water, electricity or other supplies, or other catastrophic event affecting us, our suppliers or our customers could have a material adverse impact on our business, financial condition and operating results.
The effects of war, armed conflict, acts of terrorism or other regional or global threats, including, but not limited to, the outbreak of epidemic disease, could have a material adverse effect on our business, operating results and financial condition.
The continued threat of terrorism and heightened security and military action in response to this threat, or any future acts of terrorism, may cause further disruptions to local and global economies and create further uncertainties. To the extent that such disruptions or uncertainties result in delays or cancellations of customer orders, or the manufacture or shipment of our products, our business, operating results and financial condition could be materially and adversely affected.
We could incur substantial fines, litigation costs and remediation expenses associated with our storage, use and disposal of hazardous materials.
We and the third-party contract manufacturers we utilize are subject to a variety of U.S. federal, state and local and foreign governmental regulations related to the use, storage, discharge and disposal of toxic, volatile or otherwise hazardous chemicals used in our manufacturing process. Any failure to comply with present or future regulations could result in the imposition of fines, the suspension of production or a cessation of operations. These regulations could require us or our contract manufacturers to acquire costly equipment or incur other significant expenses to comply with environmental regulations or clean up prior discharges.
Since 1993, we have been named as a potentially responsible party (“PRP”) along with more than 100 other companies that used Omega Chemical Corporation waste treatment facility in Whittier, California (the “Omega Site”). The U.S. Environmental Protection Agency (“EPA”) has alleged that the Omega Site failed to properly treat and dispose of certain hazardous waste material. We are a member of a large group of PRPs, known as the Omega Chemical Site PRP
Organized Group (“OPOG”), that has agreed to fund certain ongoing remediation efforts at and nearby the Omega Site and with respect to the regional groundwater allegedly contaminated thereby. In April 2016, OPOG and EPA filed with the court a consent decree outlining the proposed groundwater remediation plan; it is anticipated the court will approve it in fiscal year 2017, following which the groundwater remediation will commence. It is also anticipated the court will thereafter lift the stay previously placed on litigation originally filed in 2007 against OPOG and the PRPs by a different chemical company located nearby the Omega Site, seeking a judicial determination that the Omega PRPs are responsible for some or all of the plaintiff's potential liability to clean up groundwater contamination beneath the plaintiff's site. For more information, see our disclosures set forth in footnote 11, “Legal Proceedings,” to the financial statements contained in this report.
Based on currently available information, we have a loss accrual for the Omega Site that is not material and we believe that the actual amount of our costs and liabilities will not be materially different from the amount accrued. However, the proceedings are ongoing and the eventual outcome of the clean-up efforts and the pending litigation matters is uncertain at this time. Based on currently available information, we do not believe that any eventual outcome will have a material adverse effect on our operations but we cannot guarantee this result. In addition, in 2012, as a result of the PRP group's modification of its liability allocation formulae and the withdrawal of PRP group members from OPOG, our proportional allocation of responsibility among the PRPs increased. Subsequently, certain other PRPs withdrew from OPOG or initiated bankruptcy proceedings, and legal proceedings and settlement negotiations with these parties are continuing. Any future increases to our allocation of responsibility among the PRPs or the future reduction of parties participating in the PRP group could materially increase our potential liability relating to the Omega Site.
Although we believe that we have been and currently are in material compliance with applicable environmental laws and regulations, we cannot guarantee that we are or will be in material compliance with these laws or regulations or that our future obligations to fund any remediation efforts, including those relating to the Omega Site, or expenses and potential liabilities relating to the pending litigation matter, will not have a material adverse effect on our business and financial condition.
Customer requirements and new regulations related to conflict-free minerals may force us to incur additional expenses or cause us to lose business.
Pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the SEC adopted new requirements for companies that use certain minerals and derivative metals (referred to as “conflict minerals”) in their products, including products that are manufactured by third parties. These new regulations require companies to investigate, disclose and report whether or not such minerals or metals originated from the Democratic Republic of Congo or adjoining countries, and mandate independent audits under certain circumstances, to confirm that trade in such minerals or metals does not fund armed conflict in those countries. We filed our first two reports under these regulations in May 2014 and 2015, and will be required to file similar reports on an annual basis thereafter.
The implementation of these requirements, and any similar requirements that other jurisdictions may impose in the future, will require us to incur additional compliance-related expenses. They could also adversely affect the availability and cost of metals used in the manufacture of many semiconductor devices, including ours. As there may be only a limited number of suppliers offering metals from sources outside of the relevant countries or that have been independently verified as not
funding armed conflict in those countries, we cannot be sure that our contract manufacturers and other suppliers will be able to obtain those metals in sufficient quantities or at competitive prices. Also, since our supply chain is complex and some suppliers will not share their confidential supplier information, we may face challenges with our customers and suppliers if we are unable to sufficiently verify the origin of the metals used in our products. Some customers may choose to disqualify us as a supplier, and we may have to write off inventory in the event that it becomes unsalable as a result of these regulations. We may face similar risks in connection with any other regulations focusing on social responsibility or ethical sourcing that may be adopted in the future.
Environmental laws and regulations could cause a disruption in our business and operations.
We are subject to various state, federal and international laws and regulations governing the environment, including those restricting the presence of certain substances in electronic products and making manufacturers of those products financially responsible for the collection, treatment, recycling and disposal of certain products. Such laws and regulations have been passed in several jurisdictions in which we operate, including various European Union (“EU”) member countries and countries in Asia. For example, the EU has enacted the Restriction of the Use of Certain Hazardous Substances in Electrical and Electronic Equipment (“RoHS”) and the Waste Electrical and Electronic Equipment (“WEEE”) directives. RoHS prohibits the use of lead and other substances in semiconductors and other products put on the market after July 1, 2006. The WEEE directive obligates parties that place electrical and electronic equipment on the market in the EU to put a clearly identifiable mark on the equipment, register with and report to EU member countries regarding distribution of the equipment, and provide a mechanism to take back and properly dispose of the equipment. There can be no assurance that similar programs will not be implemented in other jurisdictions resulting in additional costs, possible delays in delivering products, and even the discontinuance of existing and planned future product replacements if the cost were to become prohibitive.
We may not be able to protect our IP adequately.
We rely in part on patents to protect our IP. We cannot assure you that any of our issued patents will adequately protect the IP in our products and processes, will provide us with competitive advantages, will not be challenged by third parties or that, if challenged, any such patents will be found to be valid or enforceable. In our industry, the assertion of IP rights often results in the other party seeking to assert claims based on its own IP, which can be costly and disruptive. In addition, there can be no assurance our pending patent applications or any future applications will be approved or that we will successfully prepare and file patent applications with respect to new inventions potentially subject to patent protection. Others may independently develop similar products or processes, duplicate our products or processes or design around any patents we currently hold or that may be issued to us.
To protect our IP, we also rely on the combination of mask work protection under the Federal Semiconductor Chip Protection Act of 1984, trademarks, copyrights, trade secret laws, employee and third-party nondisclosure agreements, and licensing arrangements. Despite these efforts, we cannot assure you that others will not independently develop substantially equivalent IP or otherwise gain access to our trade secrets or IP, or disclose such IP or trade secrets, or that we can meaningfully protect our IP. A failure by us to meaningfully protect our IP could have a material adverse effect on our business, financial condition and operating results.
We generally enter into confidentiality and invention assignment agreements with our employees and contractors, and confidentiality agreements with other third parties including consultants, suppliers, customers, licensees and strategic partners. We also try to control access to and distribution of our technologies, pre-release products, documentation and other proprietary information, through the use of license agreements and other contracts and the implementation and enforcement of physical security measures. Despite these efforts, employees, contractors and third parties may attempt to copy, disclose, obtain or use our confidential information, products, services or technology without our authorization. In such event, any contracts we have in place with such parties might not provide us with adequate remedies to protect our IP rights or to recover adequate damages for this loss. Also, former employees may seek employment with our business partners, customers or competitors and we cannot assure you that the confidential nature of our proprietary information will be maintained in the course of such future employment. Additionally, former employees or third parties could attempt to penetrate our network to misappropriate our proprietary information or interrupt our business. Because the techniques used by computer hackers to access or sabotage networks change frequently and generally are not recognized until launched against a target, we may be unable to anticipate these techniques. As a result, our technologies and processes may be misappropriated, particularly in foreign countries where laws may not protect our proprietary rights as fully as in the U.S..
We could be harmed by litigation involving patents, proprietary rights or other claims.
In the past we have sold to third parties, including non-practicing entities (also known as "NPEs" or "patent trolls"), groups of patents previously issued to or acquired by us that we deemed to be no longer essential to our core product lines and
technologies. Certain NPE acquirers have brought and may in the future bring legal actions asserting infringement of the acquired patents against various defendants, including customers or potential customers of ours. Although we are expressly licensed and our customers are similarly protected under such acquired patents with respect to all products sold by us, nevertheless certain customers, against whom the NPEs have asserted infringement of the acquired patents by products other than ours (e.g., products internally developed by the customer or purchased from third-party suppliers other than us), have reacted adversely to us based on our initial sale of the acquired patents to the NPEs. Such adverse reactions have included, among other things, demands that we reimburse the customer for expenses incurred in defending against or settling the legal action, as well as threats to reduce or discontinue the customer's current or future business with us. There can be no assurance that any such expense reimbursement payments or other financial consideration extended to such affected customers or any actual reduction or discontinuance of product sales to such affected customers would not adversely affect our business, financial condition or operating results.
In addition, litigation may be necessary to enforce our IP rights, to determine the validity and scope of the proprietary rights of others or to defend against claims that our products are infringing or misappropriating the IP rights of third parties. The semiconductor industry is characterized by substantial litigation regarding patent and other IP rights. Currently we are not a named defendant in any IP infringement lawsuits. Nevertheless, as our products and IP become instantiated in more and more customer products and applications, and as patent infringement litigation brought by our competitors, NPEs and patent-licensing companies is on the rise, we are at an increased risk of being named as a defendant in such litigation. Due in part to the factors described above, we have been or currently are subject to the following:
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having information about our products and technologies subpoenaed, and our employees deposed, in patent litigation between other third parties;
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demands that we enter into expensive licenses of third party patent portfolios in order to avoid being named as a defendant in future IP infringement suits;
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claims, contractual or otherwise, demanding that we indemnify or reimburse customers or end users of our products
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with respect to their actual or potential liability, including without limitation defense costs, arising from third party IP infringement claims brought against them; and
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demands from customers that we enter into “springing licenses” that prospectively grant such customers and related parties automatic license rights to any patents we sell or otherwise divest control over in specified transactions.
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Such claims and demands have caused and could in the future result in substantial costs and diversion of resources and could have a material adverse effect on our business, financial condition and results of operations.
Any current or future litigation relating to the IP rights of third parties would at a minimum be costly and could divert the efforts and attention of our management and technical personnel. In the event of any adverse ruling in any such litigation, we could be required to pay substantial damages, cease the manufacturing, use and sale of infringing products, discontinue the use of certain processes, expend substantial resources attempting to develop non-infringing products or technologies, or obtain a license under the IP rights of the third party claiming infringement. A license might not be available on reasonable economic and other terms or at all. From time to time, we may be involved in litigation relating to other claims arising out of our operations in the normal course of business. The ultimate outcome of any such litigation matters could have a material, adverse effect on our business, financial condition and operating results.
Our stock price is volatile.
The market price of our common stock has fluctuated significantly. For example, during the fiscal quarter ended
March 31, 2016
our stock's closing price ranged from
$5.08
and
$6.55
per share and during the fiscal year ended
March 31, 2016
our stock's closing price ranged from
$4.94
and
$8.03
per share. In the future, the market price of our common stock could be subject to significant fluctuations due to general economic and market conditions and in response to:
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fluctuations in our anticipated or actual operating results;
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our announcement of actual results or financial outlook that are higher or lower than market or analyst expectations;
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changes in the economic performance or market valuations of other semiconductor companies or companies perceived by investors to be comparable to us;
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announcements or introductions of new products by us or our competitors;
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fluctuations in the anticipated or actual operating results or growth rates of our customers, peers or competitors;
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technological innovations or setbacks by us or our competitors;
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conditions in the semiconductor, communications or IT markets;
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the commencement or outcome of litigation or governmental investigations;
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changes in ratings and estimates of our performance, or loss of coverage, by securities analysts;
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positive or negative commentary about our business or prospects by industry bloggers and journalists;
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volume fluctuations due to inconsistent trading volume levels of our shares;
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announcements of merger, acquisition or financing transactions;
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our inclusion in certain stock indices; and
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general economic and market conditions.
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In recent years, the stock market has experienced extreme price and volume fluctuations that have affected the market prices of many high technology companies, particularly semiconductor companies. In some instances, these fluctuations appear to have been unrelated or disproportionate to the operating performance of the affected companies. Whether or not our stock is part of one or more Index funds could also have a significant impact on our stock. We cannot assure you that our stock will be part of any Index fund. In addition, broader conditions in the financial markets, such as the credit and mortgage crisis in 2008 and beyond, may cause our stock price to decline rapidly and unexpectedly.
Delaware law and our corporate charter and bylaws contain anti-takeover provisions that could delay or discourage takeover attempts that stockholders may consider favorable.
Provisions in our certificate of incorporation, as amended, and our bylaws, as amended and restated, may have the effect of delaying or preventing a change of control or changes in our directors and management. These provisions include the following:
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the ability of the board of directors to issue up to 2.0 million shares of “blank check” preferred stock with terms designed to prevent or delay a takeover attempt, as described further below;
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the prohibition of cumulative voting in the election of directors, which would otherwise allow less than a majority of stockholders to elect director candidates;
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the requirement for advance notice for nominations of directors for election to the board or for proposing matters that can be acted upon at a stockholders' meeting;
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the ability of the board of directors to alter our bylaws without obtaining stockholder approval;
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the requirement that any stockholder derivative actions and certain other intra-corporate disputes be litigated solely and exclusively in Delaware state court;
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the right of the board of directors to elect a director to fill a vacancy created by the expansion of the board of directors; and
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the prohibition of the right of stockholders to call a special meeting of stockholders.
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Our board of directors has the authority to issue up to 2.0 million shares of preferred stock and to determine the price, rights, preferences and privileges and restrictions, including voting rights, of those shares without any further vote or action by our stockholders. The rights of the holders of common stock will be subject to, and may be harmed by, the rights of the holders of any shares of preferred stock that may be issued in the future. The issuance of preferred stock may delay, defer or prevent a change in control, as the terms of the preferred stock that might be issued could potentially prohibit our consummation of any merger, reorganization, sale of substantially all of our assets, liquidation or other extraordinary corporate transaction without the approval of the holders of the outstanding shares of preferred stock. The issuance of preferred stock could have a dilutive effect on our stockholders.
Because we are incorporated in Delaware, we are governed by the provisions of Section 203 of the Delaware General Corporation Law. These provisions may prohibit, restrict or significantly delay large stockholders, in particular those owning 15% or more of our outstanding voting stock, from merging or combining with us.
Although we believe these provisions in our charter and bylaws and under Delaware law collectively provide for an opportunity to receive higher bids by requiring potential acquirers to negotiate with our board of directors, they would apply even if the offer may be considered beneficial by some stockholders. In any event, these provisions may delay or prevent a third party from acquiring us. Any such delay or prevention could cause the market price of our common stock to decline.