Quarterly Report (10-q)

Date : 05/03/2019 @ 9:59PM
Source : Edgar (US Regulatory)
Stock : Silicon Labs (SLAB)
Quote : 109.5  -2.39 (-2.14%) @ 11:00PM

Quarterly Report (10-q)

Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

x     QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 30, 2019

 

or

 

o      TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from          to         

 

Commission file number:  000-29823

 

SILICON LABORATORIES INC.

(Exact name of registrant as specified in its charter)

 

Delaware

 

74-2793174

(State or other jurisdiction of incorporation or organization)

 

(I.R.S. Employer Identification No.)

 

 

 

400 West Cesar Chavez, Austin, Texas

 

78701

(Address of principal executive offices)

 

(Zip Code)

 

(512) 416-8500

(Registrant’s telephone number, including area code)

 

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

 

Title of each class

 

Trading Symbol(s)

 

Name of each exchange
on which registered

Common Stock, $0.0001 par value

 

SLAB

 

The NASDAQ Stock Market LLC

 

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

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). x  Yes  o  No

 

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

 

Large accelerated filer x

 

Non-accelerated filer o

 

 

 

Accelerated filer o

 

Smaller reporting company o

 

 

Emerging growth company o

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o

 

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

 

As of April 16, 2019, 43,340,581 shares of common stock of Silicon Laboratories Inc. were outstanding.

 

 

 


Table of Contents

 

Table of Contents

 

 

 

Page
Number

Part I. Financial Information

 

 

 

 

Item 1.

Financial Statements (Unaudited):

 

 

 

 

 

Condensed Consolidated Balance Sheets at March 30, 2019 and December 29, 2018

3

 

 

 

 

Condensed Consolidated Statements of Income for the three months ended March 30, 2019 and March 31, 2018

4

 

 

 

 

Condensed Consolidated Statements of Comprehensive Income for the three months ended March 30, 2019 and March 31, 2018

5

 

 

 

 

Condensed Consolidated Statements of Changes in Stockholders’ Equity for the three months ended March 30, 2019 and March 31, 2018

6

 

 

 

 

Condensed Consolidated Statements of Cash Flows for the three months ended March 30, 2019 and March 31, 2018

7

 

 

 

 

Notes to Condensed Consolidated Financial Statements

8

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

21

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

30

 

 

 

Item 4.

Controls and Procedures

30

 

 

 

Part II. Other Information

 

 

 

 

Item 1.

Legal Proceedings

30

 

 

 

Item 1A.

Risk Factors

30

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

45

 

 

 

Item 3.

Defaults Upon Senior Securities

45

 

 

 

Item 4.

Mine Safety Disclosures

45

 

 

 

Item 5.

Other Information

45

 

 

 

Item 6.

Exhibits

46

 

Cautionary Statement

 

Except for the historical financial information contained herein, the matters discussed in this report on Form 10-Q (as well as documents incorporated herein by reference) may be considered “forward-looking” statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Such forward-looking statements include declarations regarding the intent, belief or current expectations of Silicon Laboratories Inc. and its management and may be signified by the words “believe,” “estimate,” “expect,” “intend,” “anticipate,” “plan,” “project,” “will” or similar language. You are cautioned that any such forward-looking statements are not guarantees of future performance and involve a number of risks and uncertainties. Actual results could differ materially from those indicated by such forward-looking statements. Factors that could cause or contribute to such differences include those discussed under “Risk Factors” and elsewhere in this report. Silicon Laboratories disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

 

2


Table of Contents

 

Part I.  Financial Information

Item 1.  Financial Statements

 

Silicon Laboratories Inc.

Condensed Consolidated Balance Sheets

(In thousands, except per share data)

(Unaudited)

 

 

 

March 30,
2019

 

December 29,
2018

 

Assets

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

231,144

 

$

197,043

 

Short-term investments

 

382,710

 

416,779

 

Accounts receivable, net

 

69,871

 

73,194

 

Inventories

 

70,489

 

74,972

 

Prepaid expenses and other current assets

 

60,274

 

64,650

 

Total current assets

 

814,488

 

826,638

 

Property and equipment, net

 

138,819

 

139,049

 

Goodwill

 

397,344

 

397,344

 

Other intangible assets, net

 

160,512

 

170,832

 

Other assets, net

 

110,764

 

90,491

 

Total assets

 

$

1,621,927

 

$

1,624,354

 

 

 

 

 

 

 

Liabilities and Stockholders’ Equity

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Accounts payable

 

$

41,544

 

$

41,171

 

Deferred revenue and returns liability

 

23,971

 

22,494

 

Other current liabilities

 

69,240

 

81,180

 

Total current liabilities

 

134,755

 

144,845

 

Convertible debt

 

358,093

 

354,771

 

Other non-current liabilities

 

71,597

 

57,448

 

Total liabilities

 

564,445

 

557,064

 

Commitments and contingencies

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

Preferred stock — $0.0001 par value; 10,000 shares authorized; no shares issued

 

 

 

Common stock — $0.0001 par value; 250,000 shares authorized; 43,341 and 43,088 shares issued and outstanding at March 30, 2019 and December 29, 2018, respectively

 

4

 

4

 

Additional paid-in capital

 

90,988

 

107,517

 

Retained earnings

 

966,741

 

961,343

 

Accumulated other comprehensive loss

 

(251

)

(1,574

)

Total stockholders’ equity

 

1,057,482

 

1,067,290

 

Total liabilities and stockholders’ equity

 

$

1,621,927

 

$

1,624,354

 

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

 

3


Table of Contents

 

Silicon Laboratories Inc.

Condensed Consolidated Statements of Income

(In thousands, except per share data)

(Unaudited)

 

 

 

Three Months Ended

 

 

 

March 30,
2019

 

March 31,
2018

 

Revenues

 

$

188,113

 

$

205,384

 

Cost of revenues

 

72,239

 

81,147

 

Gross profit

 

115,874

 

124,237

 

Operating expenses:

 

 

 

 

 

Research and development

 

61,566

 

54,828

 

Selling, general and administrative

 

49,216

 

45,694

 

Operating expenses

 

110,782

 

100,522

 

Operating income

 

5,092

 

23,715

 

Other income (expense):

 

 

 

 

 

Interest income and other, net

 

2,823

 

3,202

 

Interest expense

 

(4,997

)

(4,883

)

Income before income taxes

 

2,918

 

22,034

 

Provision (benefit) for income taxes

 

(2,480

)

(4,371

)

Net income

 

$

5,398

 

$

26,405

 

 

 

 

 

 

 

Earnings per share:

 

 

 

 

 

Basic

 

$

0.12

 

$

0.61

 

Diluted

 

$

0.12

 

$

0.60

 

 

 

 

 

 

 

Weighted-average common shares outstanding:

 

 

 

 

 

Basic

 

43,189

 

42,963

 

Diluted

 

43,716

 

43,918

 

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

 

4


Table of Contents

 

Silicon Laboratories Inc.

Condensed Consolidated Statements of Comprehensive Income

(In thousands)

(Unaudited)

 

 

 

Three Months Ended

 

 

 

March 30,
2019

 

March 31,
2018

 

Net income

 

$

5,398

 

$

26,405

 

Other comprehensive income (loss), before tax:

 

 

 

 

 

Net changes to available-for-sale securities:

 

 

 

 

 

Unrealized gain (losses) arising during the period

 

1,426

 

(757

)

Reclassification for losses included in net income

 

 

49

 

 

 

 

 

 

 

Net changes to cash flow hedges:

 

 

 

 

 

Unrealized gains (losses) arising during the period

 

12

 

(24

)

Reclassification for losses included in net income

 

237

 

 

 

 

 

 

 

 

Other comprehensive income (loss), before tax

 

1,675

 

(732

)

 

 

 

 

 

 

Provision (benefit) for income taxes

 

352

 

(154

)

 

 

 

 

 

 

Other comprehensive income (loss)

 

1,323

 

(578

)

 

 

 

 

 

 

Comprehensive income

 

$

6,721

 

$

25,827

 

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

 

5


Table of Contents

 

Silicon Laboratories Inc.

Condensed Consolidated Statements of Changes in Stockholders’ Equity

(In thousands)

(Unaudited)

 

Three Months Ended March 30, 2019

 

Shares

 

Common
Stock

 

Additional
Paid-In
Capital

 

Retained
Earnings

 

Accumulated Other
Comprehensive
Loss

 

Total
Stockholders’
Equity

 

Balance as of December 29, 2018

 

43,088

 

$

4

 

$

107,517

 

$

961,343

 

$

(1,574

)

$

1,067,290

 

Net income

 

 

 

 

5,398

 

 

5,398

 

Other comprehensive income (loss)

 

 

 

 

 

1,323

 

1,323

 

Stock issuances, net of shares withheld for taxes

 

430

 

 

(14,113

)

 

 

(14,113

)

Repurchases of common stock

 

(177

)

 

(15,004

)

 

 

(15,004

)

Stock-based compensation

 

 

 

12,588

 

 

 

12,588

 

Balance as of March 30, 2019

 

43,341

 

$

4

 

$

90,988

 

$

966,741

 

$

(251

)

$

1,057,482

 

 

Three Months Ended March 31, 2018

 

Shares

 

Common
Stock

 

Additional
Paid-In
Capital

 

Retained
Earnings

 

Accumulated Other
Comprehensive
Loss

 

Total
Stockholders’
Equity

 

Balance as of December 30, 2017

 

42,707

 

$

4

 

$

102,862

 

$

851,307

 

$

(1,157

)

$

953,016

 

Cumulative effect of adoption of accounting standard

 

 

 

 

26,448

 

(250

)

26,198

 

Net income

 

 

 

 

26,405

 

 

26,405

 

Other comprehensive income (loss)

 

 

 

 

 

(578

)

(578

)

Stock issuances, net of shares withheld for taxes

 

520

 

 

(16,663

)

 

 

(16,663

)

Stock-based compensation

 

 

 

12,197

 

 

 

12,197

 

Balance as of March 31, 2018

 

43,227

 

$

4

 

$

98,396

 

$

904,160

 

$

(1,985

)

$

1,000,575

 

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

 

6


Table of Contents

 

Silicon Laboratories Inc.

Condensed Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)

 

 

 

Three Months Ended

 

 

 

March 30,
2019

 

March 31,
2018

 

Operating Activities

 

 

 

 

 

Net income

 

$

5,398

 

$

26,405

 

Adjustments to reconcile net income to cash provided by operating activities:

 

 

 

 

 

Depreciation of property and equipment

 

4,137

 

3,704

 

Amortization of other intangible assets and other assets

 

10,320

 

6,427

 

Amortization of debt discount and debt issuance costs

 

3,321

 

3,169

 

Stock-based compensation expense

 

12,584

 

12,192

 

Deferred income taxes

 

(3,530

)

(4,780

)

Changes in operating assets and liabilities:

 

 

 

 

 

Accounts receivable

 

3,323

 

(3,307

)

Inventories

 

4,488

 

(3,368

)

Prepaid expenses and other assets

 

6,410

 

(17,169

)

Accounts payable

 

714

 

13,030

 

Other current liabilities and income taxes

 

(15,996

)

(9,643

)

Deferred income, deferred revenue and returns liability

 

1,477

 

(2,599

)

Other non-current liabilities

 

(631

)

(1,849

)

Net cash provided by operating activities

 

32,015

 

22,212

 

 

 

 

 

 

 

Investing Activities

 

 

 

 

 

Purchases of available-for-sale investments

 

(63,577

)

(52,821

)

Sales and maturities of available-for-sale investments

 

99,068

 

128,975

 

Purchases of property and equipment

 

(3,874

)

(4,102

)

Purchases of other assets

 

(414

)

(4,698

)

Net cash provided by investing activities

 

31,203

 

67,354

 

 

 

 

 

 

 

Financing Activities

 

 

 

 

 

Repurchases of common stock

 

(15,004

)

 

Payment of taxes withheld for vested stock awards

 

(14,113

)

(17,871

)

Proceeds from the issuance of common stock

 

 

1,211

 

Net cash used in financing activities

 

(29,117

)

(16,660

)

 

 

 

 

 

 

Increase in cash and cash equivalents

 

34,101

 

72,906

 

Cash and cash equivalents at beginning of period

 

197,043

 

269,366

 

Cash and cash equivalents at end of period

 

$

231,144

 

$

342,272

 

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

 

7


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

1.  Significant Accounting Policies

 

Basis of Presentation and Principles of Consolidation

 

The Condensed Consolidated Financial Statements included herein are unaudited; however, they contain all normal recurring accruals and adjustments which, in the opinion of management, are necessary to present fairly the condensed consolidated financial position of Silicon Laboratories Inc. and its subsidiaries (collectively, the “Company”) at March 30, 2019 and December 29, 2018, the condensed consolidated results of its operations for the three months ended March 30, 2019 and March 31, 2018, the Condensed Consolidated Statements of Comprehensive Income for the three months ended March 30, 2019 and March 31, 2018, the Condensed Consolidated Statements of Changes in Stockholders’ Equity for the three months ended March 30, 2019 and March 31, 2018, and the Condensed Consolidated Statements of Cash Flows for the three months ended March 30, 2019 and March 31, 2018. All intercompany balances and transactions have been eliminated in consolidation. The condensed consolidated results of operations for the three months ended March 30, 2019 are not necessarily indicative of the results to be expected for the full year.

 

The accompanying unaudited Condensed Consolidated Financial Statements do not include certain footnotes and financial presentations normally required under U.S. generally accepted accounting principles (GAAP). Therefore, these Condensed Consolidated Financial Statements should be read in conjunction with the audited Consolidated Financial Statements and notes thereto for the year ended December 29, 2018, included in the Company’s Form 10-K filed with the Securities and Exchange Commission (SEC) on January 30, 2019.

 

The Company prepares financial statements on a 52- or 53-week fiscal year that ends on the Saturday closest to December 31. Fiscal 2019 will have 52 weeks and fiscal 2018 had 52 weeks. In a 52-week year, each fiscal quarter consists of 13 weeks.

 

Use of Estimates

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Among the significant estimates affecting the financial statements are those related to inventories, goodwill, acquired intangible assets, other long-lived assets, revenue recognition, stock-based compensation and income taxes. Actual results could differ from those estimates, and such differences could be material to the financial statements.

 

Adoption of New Lease Accounting Standard

 

The Company adopted Accounting Standards Codification (ASC) Topic 842, Leases , on December 30, 2018, the first day of its fiscal year ending December 28, 2019. We elected the package of practical expedients permitted under the transition guidance within the new standard, which allowed us to not reassess historical lease classifications, initial direct costs of existing leases or whether any expired or existing contracts were or contained leases.

 

The Company elected the retrospective method of adoption at the beginning of the period of adoption through a cumulative-effect adjustment. Prior periods have not been adjusted. The following reflects the material changes recorded in connection with the cumulative-effect adjustment (in thousands):

 

Financial Statement Line Item

 

Increase
(Decrease)

 

Prepaid expenses and other current assets

 

$

(481

)

Other assets, net

 

$

18,166

 

Other current liabilities

 

$

3,516

 

Other non-current liabilities

 

$

14,169

 

 

8


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

The primary impact of the Company’s adoption of ASC 842 resulted from the recognition of right-of-use assets and operating lease liabilities. The adoption had no significant impact to the Condensed Consolidated Statements of Income or to cash provided by or used in net operating, investing or financing activities in the Condensed Consolidated Statements of Cash Flows.

 

Leases

 

At the commencement date of a lease, the Company recognizes a liability to make lease payments and an asset representing the right to use the underlying asset during the lease term. The lease liability is measured at the present value of lease payments over the lease term. As its leases typically do not provide an implicit rate, the Company uses its incremental borrowing rate based on the information available at the commencement date taking into consideration necessary adjustments for collateral, depending on the facts and circumstances of the lessee and the leased asset, and term to match the lease term. The right-of-use (“ROU”) asset is measured at cost, which includes the initial measurement of the lease liability and initial direct costs incurred by the Company and excludes lease incentives. Lease liabilities are recorded in other current liabilities and other non-current liabilities. ROU assets are recorded in other assets, net.

 

Lease terms may include options to extend or terminate the lease when it is reasonably certain that the Company will exercise that option. Operating lease costs are recognized on a straight-line basis over the lease term. Lease agreements that contain both lease and non-lease components are generally accounted for separately.

 

Revenue Recognition

 

Revenue is recognized when control of the promised goods or services is transferred to customers, in an amount that reflects the consideration the Company expects to be entitled to in exchange for those goods or services. Substantially all of the Company’s contracts with customers contain a single performance obligation, the sale of mixed-signal integrated circuit (IC) products. This performance obligation is satisfied when control of the product is transferred to the customer, which typically occurs upon delivery. Unsatisfied performance obligations primarily represent contracts for products with future delivery dates and with an original expected duration of one year or less. As allowed under ASC 606, the Company has opted to not disclose the amount of unsatisfied performance obligations as these contracts have original expected durations of less than one year.

 

The transaction price reflects the Company’s expectations about the consideration it will be entitled to receive from the customer and may include fixed or variable amounts. Variable consideration primarily includes sales made to distributors under agreements allowing certain rights of return, referred to as stock rotation, and credits issued to the distributor due to price protection. The Company applies a constraint to its variable consideration estimate which considers both the likelihood of a return and the amount of a potential price concession. Variable consideration that does not meet revenue recognition criteria is deferred.

 

Recent Accounting Pronouncements

 

In January 2017, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2017-04 , Intangibles—Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. This ASU eliminates Step 2 from the goodwill impairment test, which previously measured an impairment loss by comparing the implied fair value of goodwill with its carrying amount. Instead, an entity should recognize an impairment charge for the amount by which the carrying value exceeds the reporting unit’s fair value, not to exceed the total amount of goodwill allocated to that reporting unit. This ASU is effective for annual or any interim goodwill impairment tests in fiscal years beginning after December 15, 2019. The Company is currently evaluating the effect of the adoption of this ASU, but anticipates that the adoption will not have a material impact on its financial statements.

 

9


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. This ASU requires instruments measured at amortized cost to be presented at the net amount expected to be collected. Entities are also required to record allowances for available-for-sale debt securities rather than reduce the carrying amount. This ASU is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The Company expects that the adoption will not have a material impact on its financial statements.

 

2. Earnings Per Share

 

The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share data):

 

 

 

Three Months Ended

 

 

 

March 30,
2019

 

March 31,
2018

 

Net income

 

$

5,398

 

$

26,405

 

 

 

 

 

 

 

Shares used in computing basic earnings per share

 

43,189

 

42,963

 

 

 

 

 

 

 

Effect of dilutive securities:

 

 

 

 

 

Stock options and other stock-based awards

 

527

 

955

 

Shares used in computing diluted earnings per share

 

43,716

 

43,918

 

 

 

 

 

 

 

Earnings per share:

 

 

 

 

 

Basic

 

$

0.12

 

$

0.61

 

Diluted

 

$

0.12

 

$

0.60

 

 

For the three months ended March 30, 2019 and March 31, 2018, approximately 0.5 million and 0.0 million shares, respectively, consisting of restricted stock awards (RSUs) and market stock awards (MSUs), were not included in the diluted earnings per share calculation since the shares were anti-dilutive.

 

The Company intends to settle the principal amount of its convertible senior notes in cash and any excess value in shares in the event of a conversion. Accordingly, shares issuable upon conversion of the principal amount have been excluded from the calculation of diluted earnings per share. If the market value of the notes under certain prescribed conditions exceeds the conversion amount, the excess is included in the denominator for the computation of diluted earnings per share using the treasury stock method. For three months ended March 30, 2019, no such shares were included in the denominator for the calculation of diluted earnings per share. For three months ended March 31, 2018, approximately 0.1 million shares were included in the denominator for the calculation of diluted earnings per share. See Note 6, Debt , to the Condensed Consolidated Financial Statements for additional information.

 

10


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

3. Fair Value of Financial Instruments

 

The fair values of the Company’s financial instruments are recorded using a hierarchical disclosure framework based upon the level of subjectivity of the inputs used in measuring assets and liabilities. The three levels are described below:

 

Level 1 - Inputs are unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date.

 

Level 2 - Inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.

 

Level 3 - Inputs are unobservable for the asset or liability and are developed based on the best information available in the circumstances, which might include the Company’s own data.

 

The following summarizes the valuation of the Company’s financial instruments (in thousands). The tables do not include either cash on hand or assets and liabilities that are measured at historical cost or any basis other than fair value.

 

 

 

Fair Value Measurements
at March 30, 2019 Using

 

 

 

Description

 

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

 

Significant Other
Observable
Inputs
(Level 2)

 

Significant
Unobservable
Inputs
(Level 3)

 

Total

 

Assets:

 

 

 

 

 

 

 

 

 

Cash equivalents:

 

 

 

 

 

 

 

 

 

Money market funds

 

$

84,151

 

$

 

$

 

$

84,151

 

Corporate debt securities

 

 

14,665

 

 

14,665

 

Government debt securities

 

21,878

 

19,463

 

 

41,341

 

Total cash equivalents

 

$

106,029

 

$

34,128

 

$

 

$

140,157

 

 

 

 

 

 

 

 

 

 

 

Short-term investments:

 

 

 

 

 

 

 

 

 

Government debt securities

 

$

55,571

 

$

70,349

 

$

 

$

125,920

 

Corporate debt securities

 

 

256,790

 

 

256,790

 

Total short-term investments

 

$

55,571

 

$

327,139

 

$

 

$

382,710

 

 

 

 

 

 

 

 

 

 

 

Other assets, net:

 

 

 

 

 

 

 

 

 

Auction rate securities

 

$

 

$

 

$

5,761

 

$

5,761

 

Total

 

$

 

$

 

$

5,761

 

$

5,761

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

161,600

 

$

361,267

 

$

5,761

 

$

528,628

 

 

11


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

 

 

Fair Value Measurements
at December 29, 2018 Using

 

 

 

Description

 

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

 

Significant Other
Observable
Inputs
(Level 2)

 

Significant
Unobservable
Inputs
(Level 3)

 

Total

 

Assets:

 

 

 

 

 

 

 

 

 

Cash equivalents:

 

 

 

 

 

 

 

 

 

Money market funds

 

$

74,990

 

$

 

$

 

$

74,990

 

Corporate debt securities

 

 

18,820

 

 

18,820

 

Government debt securities

 

9,338

 

 

 

9,338

 

Total cash equivalents

 

$

84,328

 

$

18,820

 

$

 

$

103,148

 

 

 

 

 

 

 

 

 

 

 

Short-term investments:

 

 

 

 

 

 

 

 

 

Government debt securities

 

$

48,141

 

$

99,211

 

$

 

$

147,352

 

Corporate debt securities

 

 

269,427

 

 

269,427

 

Total short-term investments

 

$

48,141

 

$

368,638

 

$

 

$

416,779

 

 

 

 

 

 

 

 

 

 

 

Other assets, net:

 

 

 

 

 

 

 

 

 

Auction rate securities

 

$

 

$

 

$

5,759

 

$

5,759

 

Total

 

$

 

$

 

$

5,759

 

$

5,759

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

132,469

 

$

387,458

 

$

5,759

 

$

525,686

 

 

Valuation methodology

 

The Company’s cash equivalents and short-term investments that are classified as Level 2 are valued using non-binding market consensus prices that are corroborated with observable market data; quoted market prices for similar instruments in active markets; or pricing models, such as a discounted cash flow model, with all significant inputs derived from or corroborated with observable market data. Investments classified as Level 3 are valued using a discounted cash flow model. The assumptions used in preparing the discounted cash flow model include estimates for interest rates, amount of cash flows, expected holding periods of the securities and a discount to reflect the Company’s inability to liquidate the securities. The Company’s derivative instruments are valued using discounted cash flow models. The assumptions used in preparing the valuation models include foreign exchange rates, forward and spot prices for currencies, and market observable data of similar instruments.

 

Available-for-sale investments

 

The Company’s investments are reported at fair value, with unrealized gains and losses, net of tax, recorded as a component of accumulated other comprehensive loss in the Consolidated Balance Sheet. The following summarizes the contractual underlying maturities of the Company’s available-for-sale investments at March 30, 2019 (in thousands):

 

 

 

Cost

 

Fair
Value

 

Due in one year or less

 

$

363,143

 

$

362,990

 

Due after one year through ten years

 

159,416

 

159,877

 

Due after ten years

 

6,000

 

5,761

 

 

 

$

528,559

 

$

528,628

 

 

12


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

The available-for-sale investments that were in a continuous unrealized loss position, aggregated by length of time that individual securities have been in a continuous loss position, were as follows (in thousands):

 

 

 

Less Than 12 Months

 

12 Months or Greater

 

Total

 

As of March 30, 2019

 

Fair
Value

 

Gross
Unrealized
Losses

 

Fair
Value

 

Gross
Unrealized
Losses

 

Fair
Value

 

Gross
Unrealized
Losses

 

Government debt securities

 

$

11,437

 

$

(3

)

$

72,515

 

$

(325

)

$

83,952

 

$

(328

)

Corporate debt securities

 

31,053

 

(33

)

43,724

 

(179

)

74,777

 

(212

)

Auction rate securities

 

 

 

5,761

 

(239

)

5,761

 

(239

)

 

 

$

42,490

 

$

(36

)

$

122,000

 

$

(743

)

$

164,490

 

$

(779

)

 

 

 

Less Than 12 Months

 

12 Months or Greater

 

Total

 

As of December 29, 2018

 

Fair
Value

 

Gross
Unrealized
Losses

 

Fair
Value

 

Gross
Unrealized
Losses

 

Fair
Value

 

Gross
Unrealized
Losses

 

Government debt securities

 

$

13,278

 

$

(10

)

$

88,696

 

$

(583

)

$

101,974

 

$

(593

)

Corporate debt securities

 

112,699

 

(273

)

76,310

 

(448

)

189,009

 

(721

)

Auction rate securities

 

 

 

5,759

 

(241

)

5,759

 

(241

)

 

 

$

125,977

 

$

(283

)

$

170,765

 

$

(1,272

)

$

296,742

 

$

(1,555

)

 

The gross unrealized losses as of March 30, 2019 and December 29, 2018 were due primarily to changes in market interest rates and the illiquidity of the Company’s auction-rate securities. The Company’s auction-rate securities have been illiquid since 2008 when auctions for the securities failed because sell orders exceeded buy orders. These securities have a contractual maturity date of 2046. The Company is unable to predict if these funds will become available before their maturity date.

 

The Company considers the declines in market value of its marketable securities investment portfolio to be temporary in nature. When evaluating an investment for other-than-temporary impairment, the Company reviews factors such as the severity and duration of the impairment, changes in underlying credit ratings, forecasted recovery, the Company’s intent to sell or the likelihood that it would be required to sell the investment before its anticipated recovery in market value and the probability that the scheduled cash payments will continue to be made. As of March 30, 2019, the Company has determined that no other-than-temporary impairment losses existed.

 

At March 30, 2019 and December 29, 2018, there were no material unrealized gains associated with the Company’s available-for-sale investments.

 

Level 3 fair value measurements

 

The following summarizes quantitative information about Level 3 fair value measurements.

 

Auction rate securities

 

Fair Value at
March 30, 2019
(000s)

 

Valuation Technique

 

Unobservable Input

 

Weighted Average

 

$

5,761

 

Discounted cash flow

 

Estimated yield

 

3.42%

 

 

 

 

 

 

 

 

 

 

 

 

 

Expected holding period

 

10 years

 

 

 

 

 

 

 

 

 

 

 

 

 

Estimated discount rate

 

3.43%

 

 

13


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

The Company has followed an established internal control procedure used in valuing auction rate securities. The procedure involves the analysis of valuation techniques and evaluation of unobservable inputs commonly used by market participants to price similar instruments, and which have been demonstrated to provide reasonable estimates of prices obtained in actual market transactions. Outputs from the valuation process are assessed against various market sources when they are available, including marketplace quotes, recent trades of similar illiquid securities, benchmark indices and independent pricing services. The technique and unobservable input parameters may be recalibrated periodically to achieve an appropriate estimation of the fair value of the securities.

 

Significant changes in any of the unobservable inputs used in the fair value measurement of auction rate securities in isolation could result in a significantly lower or higher fair value measurement. An increase in expected yield would result in a higher fair value measurement, whereas an increase in expected holding period or estimated discount rate would result in a lower fair value measurement. Generally, a change in the assumptions used for expected holding period is accompanied by a directionally similar change in the assumptions used for estimated yield and discount rate.

 

The following summarizes the activity in Level 3 financial instruments for the three months ended March 30, 2019 (in thousands):

 

Assets

 

Auction Rate Securities

 

Three Months
Ended

 

Beginning balance

 

$

5,759

 

Gain included in other comprehensive income (loss)

 

2

 

Balance at March 30, 2019

 

$

5,761

 

 

Fair values of other financial instruments

 

The Company’s debt is recorded at cost, but is measured at fair value for disclosure purposes. The fair value of the Company’s convertible senior notes is determined using observable market prices. The notes are traded in less active markets and are therefore classified as a Level 2 fair value measurement. As of March 30, 2019 and December 29, 2018, the fair value of the convertible senior notes was $433.8 million and $419.0 million, respectively.

 

The Company’s other financial instruments, including cash, accounts receivable and accounts payable, are recorded at amounts that approximate their fair values due to their short maturities.

 

4. Derivative Financial Instruments

 

The Company uses derivative financial instruments to manage certain exposures to the variability of foreign currency exchange rates. The Company’s objective is to offset increases and decreases in expenses resulting from these exposures with gains and losses on the derivative contracts, thereby reducing volatility of earnings. The Company does not use derivative contracts for speculative or trading purposes. The Company recognizes derivatives, on a gross basis, in the Consolidated Balance Sheet at fair value. Cash flows from derivatives are classified according to the nature of the cash receipt or payment in the Consolidated Statement of Cash Flows.

 

14


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

Cash Flow Hedges

 

Foreign Currency Forward Contracts

 

The Company uses foreign currency forward contracts to reduce the earnings impact that exchange rate fluctuations have on operating expenses denominated in currencies other than the U.S. dollar. Changes in the fair value of the contracts are recorded in accumulated other comprehensive loss in the Consolidated Balance Sheet and subsequently reclassified into earnings in the period during which the hedged transaction is recognized. The reclassified amount is reported in the same financial statement line item as the hedged item. If the foreign currency forward contracts are terminated or can no longer qualify as hedging instruments prior to maturity, the fair value of the contracts recorded in accumulated other comprehensive loss may be recognized in the Consolidated Statement of Income based on an assessment of the contracts at the time of termination.

 

The Company has entered into foreign currency forward contracts for a portion of its forecasted operating expenses denominated in the Norwegian Krone. As of March 30, 2019, the contracts had maturities of one to twelve months and an aggregate notional value of $8.9 million. Losses expected to be reclassified into earnings in the next 12 months were not material. The fair value of the contracts, contract losses recognized in other comprehensive income (loss) and amounts reclassified from accumulated other comprehensive loss into earnings were not material for any of the periods presented.

 

Non-designated Hedges

 

Foreign Currency Forward Contracts

 

The Company uses foreign currency forward contracts to reduce the earnings impact that exchange rate fluctuations have on non-U.S. dollar balance sheet exposures. The Company recognizes gains and losses on the foreign currency forward contracts in interest income and other, net in the Consolidated Statement of Income in the same period as the remeasurement loss and gain of the related foreign currency denominated asset or liability. The Company does not apply hedge accounting to these foreign currency forward contracts.

 

As of March 30, 2019, the Company held one foreign currency forward contract denominated in Singapore Dollars with a notional value of $6.6 million. The fair value of the contract and contract losses recognized in income were not material for any of the periods presented.

 

5. Balance Sheet Details

 

The following shows the details of selected Condensed Consolidated Balance Sheet items (in thousands):

 

Inventories

 

 

 

March 30,
2019

 

December 29,
2018

 

Work in progress

 

$

46,996

 

$

50,983

 

Finished goods

 

23,493

 

23,989

 

 

 

$

70,489

 

$

74,972

 

 

15


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

6.  Debt

 

1.375% Convertible Senior Notes

 

On March 6, 2017, the Company completed a private offering of $400 million principal amount convertible senior notes (the “Notes”). The Notes bear interest semi-annually at a rate of 1.375% per year and will mature on March 1, 2022, unless repurchased, redeemed or converted at an earlier date. The Company used $72.5 million of the proceeds to pay off the then remaining balance under its credit agreement.

 

The Notes are convertible at an initial conversion rate of 10.7744 shares of common stock per $1,000 principal amount of the Notes, or approximately 4.3 million shares of common stock, which is equivalent to a conversion price of approximately $92.81 per share. The conversion rate is subject to adjustment under certain circumstances. Holders may convert the Notes under the following circumstances: during any calendar quarter after the calendar quarter ended on June 30, 2017 if the closing price of the Company’s common stock for at least 20 trading days in the 30 consecutive trading days ending on the last trading day of the preceding calendar quarter is greater than or equal to 130% of the conversion price of the Notes; during the five business day period after any ten consecutive trading day period (the “measurement period”) in which the trading price per $1,000 principal amount of notes for each trading day of the measurement period was less than 98% of the product of the closing sale price of our common stock and the conversion rate on each such trading day; if specified distributions or corporate events occur; if the Notes are called for redemption; or at any time after December 1, 2021. The Company may redeem all or any portion of the Notes, at its option, on or after March 6, 2020, if the last reported sale price of the Company’s common stock has been at least 130% of the conversion price then in effect for at least 20 trading days during any 30 consecutive trading day period. Upon conversion, the Notes may be settled in cash, shares of the Company’s common stock or a combination of cash and shares, at the Company’s election.

 

The principal balance of the Notes was separated into liability and equity components, and was recorded initially at fair value. The excess of the principal amount of the liability component over its carrying amount represents the debt discount, which is amortized to interest expense over the term of the Notes using the effective interest method. The carrying amount of the liability component was estimated by discounting the contractual cash flows of similar non-convertible debt at an appropriate market rate at the date of issuance.

 

The Company incurred debt issuance costs of approximately $10.6 million, which was allocated to the liability and equity components in proportion to the allocation of the proceeds. The costs allocated to the liability component are being amortized as interest expense over the term of the Notes using the effective interest method.

 

The carrying amount of the Notes consisted of the following (in thousands):

 

 

 

March 30,
2019

 

December 29,
2018

 

Liability component

 

 

 

 

 

Principal

 

$

400,000

 

$

400,000

 

Unamortized debt discount

 

(36,412

)

(39,298

)

Unamortized debt issuance costs

 

(5,495

)

(5,931

)

Net carrying amount

 

$

358,093

 

$

354,771

 

 

 

 

 

 

 

Equity component

 

 

 

 

 

Net carrying amount

 

$

57,735

 

$

57,735

 

 

The liability component of the Notes is recorded in convertible debt on the Consolidated Balance Sheet. The equity component of the Notes is recorded in additional paid-in capital. The effective interest rate for the liability component was 4.75%. As of March 30, 2019, the remaining period over which the debt discount and debt issuance costs will be amortized was 2.9 years.

 

16


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

Interest expense related to the Notes was comprised of the following (in thousands):

 

 

 

Three Months Ended

 

 

 

March 30,
2019

 

March 31,
2018

 

Contractual interest expense

 

$

1,390

 

$

1,390

 

Amortization of debt discount

 

2,886

 

2,753

 

Amortization of debt issuance costs

 

435

 

416

 

 

 

$

4,711

 

$

4,559

 

 

Credit Facility

 

In connection with the Company’s offering of the Notes, it and certain of its domestic subsidiaries (the “Guarantors”) amended its existing credit agreement and paid off the then remaining balance of $72.5 million. The amended agreement (the “Credit Facility”) consists of a $300 million revolving credit facility with a maturity date of July 24, 2020. The Credit Facility includes a $25 million letter of credit sublimit and a $10 million swingline loan sublimit. The Company also has an option to increase the size of the borrowing capacity by up to an aggregate of $200 million in additional commitments, subject to certain conditions.

 

The revolving credit facility, other than swingline loans, will bear interest at the Eurodollar rate plus an applicable margin or, at the option of the Company, a base rate (defined as the highest of the Wells Fargo prime rate, the Federal Funds rate plus 0.50% and the Eurodollar Base Rate plus 1.00%) plus an applicable margin. Swingline loans accrue interest at the base rate plus the applicable margin for base rate loans. The applicable margins for the Eurodollar rate loans range from 1.25% to 2.00% and for base rate loans range from 0.25% to 1.00%, depending in each case, on the leverage ratio as defined in the Credit Facility.

 

The Credit Facility contains various conditions, covenants and representations with which the Company must be in compliance in order to borrow funds and to avoid an event of default, including financial covenants that the Company must maintain a leverage ratio (funded debt/EBITDA) of no more than 3.00 to 1 and a minimum fixed charge coverage ratio (EBITDA/interest payments, income taxes and capital expenditures) of no less than 1.25 to 1. As of March 30, 2019, the Company was in compliance with all covenants of the Credit Facility. The Company’s obligations under the Credit Facility are guaranteed by the Guarantors and are secured by a security interest in substantially all assets of the Company and the Guarantors.

 

7. Leases

 

The Company leases certain facilities under operating lease agreements that expire at various dates through 2027. Some of these arrangements contain renewal options and require the Company to pay taxes, insurance and maintenance costs. Lease costs under operating leases were $1.5 million during the three months ended March 30, 2019.

 

Supplemental Lease Information

 

Balance Sheet Information (in thousands)

 

March 30,
2019

 

Operating lease right-of-use assets

 

$

19,374

 

Operating lease liabilities

 

$

21,096

 

 

17


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

 

 

Three Months
Ended

 

Cash Flow Information (in thousands)

 

March 30,
2019

 

Cash paid for operating lease liabilities

 

$

1,671

 

Right-of-use assets obtained in exchange for operating lease obligations

 

$

2,488

 

 

Operating Lease Information

 

March 30, 2019

 

Weighted-average remaining lease term

 

5.0 years

 

Weighted-average discount rate

 

5.22%

 

 

The maturities of operating lease liabilities as of March 30, 2019 were as follows (in thousands):

 

Fiscal Year

 

 

 

2019

 

$

4,406

 

2020

 

5,531

 

2021

 

4,401

 

2022

 

3,656

 

2023

 

3,022

 

Thereafter

 

3,609

 

Total lease payments

 

24,625

 

Less imputed interest

 

(3,529

)

Total lease liabilities

 

$

21,096

 

 

8.  Commitments and Contingencies

 

Legal Proceedings

 

The Company is involved in various legal proceedings that have arisen in the normal course of business. While the ultimate results cannot be predicted with certainty, the Company does not expect them to have a material adverse effect on its Consolidated Financial Statements.

 

9. Stockholders’ Equity

 

Common Stock

 

The Company issued 0.4 million shares of common stock during the three months ended March 30, 2019.

 

Share Repurchase Program

 

In October 2018, the Board of Directors increased the authorization amount of the existing share repurchase program from $100 million to $200 million and extended the termination date to December 2019. This program allows for repurchases to be made in the open market or in private transactions, including structured or accelerated transactions, subject to applicable legal requirements and market conditions. The Company repurchased 0.2 million shares of its common stock for $15.0 million during the three months ended March 30, 2019. These shares were retired upon repurchase. The Company did not repurchase any shares of its common stock during the three months ended March 31, 2018.

 

18


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

Reclassifications From Accumulated Other Comprehensive Loss

 

The following table summarizes the effect on net income from reclassifications out of accumulated other comprehensive loss (in thousands):

 

 

 

Three Months Ended

 

Reclassification

 

March 30,
2019

 

March 31,
2018

 

Losses on available-for-sales securities to:

 

 

 

 

 

Interest income and other, net

 

$

 

$

(49

)

 

 

 

 

 

 

Losses on cash flow hedges to:

 

 

 

 

 

Operating expenses

 

(237

)

 

 

 

(237

)

(49

)

 

 

 

 

 

 

Income tax expense

 

50

 

10

 

 

 

 

 

 

 

Total reclassifications

 

$

(187

)

$

(39

)

 

10. Revenues

 

The Company groups its revenues into four categories, based on the markets and applications in which its products may be used. The following disaggregates the Company’s revenue by product category (in thousands):

 

 

 

Three Months Ended

 

 

 

March 30,
2019

 

March 31,
2018

 

Internet of Things

 

$

106,421

 

$

103,091

 

Infrastructure

 

45,823

 

49,420

 

Broadcast

 

26,265

 

36,065

 

Access

 

9,604

 

16,808

 

Revenues

 

$

188,113

 

$

205,384

 

 

A portion of the Company’s sales are made to distributors under agreements allowing certain rights of return and/or price protection related to the final selling price to the end customers. These factors impact the timing and uncertainty of revenues and cash flows. The Company recognized revenue of $11.0 million and $12.7 million during the three months ended March 30, 2019 and March 31, 2018, respectively, from performance obligations that were satisfied in previous reporting periods. The following disaggregates the Company’s revenue by sales channel (in thousands):

 

 

 

Three Months Ended

 

 

 

March 30,
2019

 

March 31,
2018

 

Distributors

 

$

134,129

 

$

150,271

 

Direct customers

 

53,984

 

55,113

 

Revenues

 

$

188,113

 

$

205,384

 

 

19


Table of Contents

 

Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

11. Stock-Based Compensation

 

In fiscal 2009, the stockholders of the Company approved the 2009 Stock Incentive Plan (the “2009 Plan”) and the 2009 Employee Stock Purchase Plan (the “2009 Purchase Plan”). In fiscal 2017, the stockholders of the Company approved amendments to both the 2009 Plan and the 2009 Purchase Plan. These amendments authorized additional shares of common stock for issuance, to comply with changes in applicable law, improve the Company’s corporate governance and to implement other best practices.

 

Stock-based compensation costs are based on the fair values on the date of grant for stock awards and stock options and on the date of enrollment for the employee stock purchase plans. The fair values of stock awards (such as restricted stock units (RSUs), performance stock units (PSUs) and restricted stock awards (RSAs)) are estimated based on their intrinsic values. The fair values of market stock awards (MSUs) are estimated using a Monte Carlo simulation. The fair values of stock options and employee stock purchase plans are estimated using the Black-Scholes option-pricing model.

 

The following table presents details of stock-based compensation costs recognized in the Condensed Consolidated Statements of Income (in thousands):

 

 

 

Three Months Ended

 

 

 

March 30,
2019

 

March 31,
2018

 

Cost of revenues

 

$

318

 

$

296

 

Research and development

 

6,097

 

5,769

 

Selling, general and administrative

 

6,169

 

6,127

 

 

 

12,584

 

12,192

 

Income tax benefit

 

3,320

 

5,219

 

 

 

$

9,264

 

$

6,973

 

 

The Company had approximately $98.8 million of total unrecognized compensation costs related to granted stock options and awards as of March 30, 2019 that are expected to be recognized over a weighted-average period of approximately 2.3 years. There were no significant stock-based compensation costs capitalized into assets in any of the periods presented.

 

12. Income Taxes

 

Provision (benefit) for income taxes includes both domestic and foreign income taxes at the applicable tax rates adjusted for non-deductible expenses, research and development tax credits and other permanent differences. Income tax expense (benefit) was $(2.5) million and $(4.4) million for the three months ended March 30, 2019 and March 31, 2018, resulting in effective tax rates of (85.0)% and (19.8)%, respectively. The effective tax rate for the three months ended March 30, 2019 decreased from the prior period primarily due to a change in the proportion of excess tax benefits from stock-based compensation relative to pre-tax book income. The tax benefit in both periods is the result of the windfall benefit on share-based instruments and the Federal research and development tax credit exceeding the Company’s tax provision.

 

On July 27, 2015, the U.S. Tax Court issued an opinion in Altera Corp. v. Commissioner which concluded that related parties in an intercompany cost-sharing arrangement are not required to share costs related to stock-based compensation. In February 2016, the U.S. Internal Revenue Service appealed the decision to the U.S Court of Appeals for the Ninth Circuit (the “Ninth Circuit”).  The Ninth Circuit reversed the 2015 decision of the U.S. Tax Court on July 24, 2018 but on August 7, 2018, withdrew its decision to allow time for a reconstituted panel to confer on the appeal. On October 16, 2018, a rehearing was held; however the Ninth Circuit has not yet issued its final decision. Although the U.S. Treasury has not withdrawn the requirement to include stock-based compensation from its regulations, based on the facts and circumstances of the Tax Court Case, the Company continues to reflect a tax benefit in its financial statements based on the expectation that the Tax Court decision will be upheld on appeal. The Company will continue to monitor ongoing developments and potential impacts to its financial statements.

 

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Silicon Laboratories Inc.

Notes to Condensed Consolidated Financial Statements (Continued)

(Unaudited)

 

Uncertain Tax Positions

 

As of March 30, 2019, the Company had gross unrecognized tax benefits, inclusive of interest, of $2.1 million which $2.1 million would affect the effective tax rate if recognized. During the three months ended March 30, 2019, the Company released $0.3 million of unrecognized tax benefits.

 

The Company recognizes interest and penalties related to unrecognized tax benefits in the provision for income taxes. These amounts were not material for any of the periods presented.

 

The Norwegian Tax Administration (“NTA”) has completed its examination of the Company’s Norwegian subsidiary for income tax matters relating to fiscal years 2013, 2014, 2015 and 2016. The Company received a final assessment from the NTA in December 2017 concerning an adjustment to its 2013 taxable income related to the pricing of an intercompany transaction. The Company is currently appealing the assessment. The revised adjustment to the pricing of the intercompany transaction results in approximately $16.4 million additional Norwegian income tax.  The Company disagrees with the NTA’s assessment and believes the Company’s position on this matter is more likely than not to be sustained. The Company plans to exhaust all available administrative remedies, and if unable to resolve this matter through administrative remedies with the NTA, the Company plans to pursue judicial remedies.

 

The Company believes that it has accrued adequate reserves related to all matters contained in tax periods open to examination. Should the Company experience an unfavorable outcome in the NTA matter, however, such an outcome could have a material impact on its financial statements.

 

Tax years 2015 through 2019 remain open to examination by the major taxing jurisdictions in which the Company operates. The Company is not currently under audit in any major taxing jurisdiction.

 

The Company does not believe gross unrecognized tax benefits will decrease in the next 12 months.

 

Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

The following discussion and analysis of financial condition and results of operations should be read in conjunction with the Condensed Consolidated Financial Statements and related notes thereto included elsewhere in this report. This discussion contains forward-looking statements. Please see the “Cautionary Statement” above and “Risk Factors” below for discussions of the uncertainties, risks and assumptions associated with these statements. Our fiscal year-end financial reporting periods are a 52- or 53-week fiscal year that ends on the Saturday closest to December 31. Fiscal 2019 will have 52 weeks and fiscal 2018 had 52 weeks. Our first quarter of fiscal 2019 ended March 30, 2019. Our first quarter of fiscal 2018 ended March 31, 2018.

 

Overview

 

We are a leading provider of silicon, software and solutions for a smarter, more connected world. Our award-winning technologies are shaping the future of the Internet of Things (IoT), Internet infrastructure, industrial automation, consumer and automotive markets. Our world-class engineering team creates products focused on performance, energy savings, connectivity and simplicity. Our primary semiconductor products are mixed-signal integrated circuits (ICs), which are electronic components that convert real-world analog signals, such as sound and radio waves, into digital signals that electronic products can process.

 

As a fabless semiconductor company, we rely on third-party semiconductor fabricators in Asia, and to a lesser extent the United States and Europe, to manufacture the silicon wafers that reflect our IC designs. Each wafer contains numerous die, which are cut from the wafer to create a chip for an IC. We rely on third parties in Asia to assemble, package, and, in most cases, test these devices and ship these units to our customers. Testing performed by such third parties facilitates faster delivery of products to our customers (particularly those located in Asia), shorter production cycle times, lower inventory requirements, lower costs and increased flexibility of test capacity.

 

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Our expertise in analog-intensive, high-performance, mixed-signal ICs and software enables us to develop highly differentiated solutions that address multiple markets. We group our products into the following categories:

 

·                   Internet of Things products, which include our microcontroller (MCU), wireless and sensor products;

 

·                   Broadcast products, which include our broadcast consumer and automotive products;

 

·                   Infrastructure products, which include our timing products (clocks and oscillators), and isolation devices; and

 

·                   Access products, which include our Voice over IP (VoIP) products, embedded modems and Power over Ethernet (PoE) devices.

 

The sales cycle for our ICs can be as long as 12 months or more. An additional three to six months or more are usually required before a customer ships a significant volume of devices that incorporate our ICs. Due to this lengthy sales cycle, we typically experience a significant delay between incurring research and development and selling, general and administrative expenses, and the corresponding sales. Consequently, if sales in any quarter do not occur when expected, expenses and inventory levels could be disproportionately high, and our operating results for that quarter and, potentially, future quarters would be adversely affected. Moreover, the amount of time between initial research and development and commercialization of a product, if ever, can be substantially longer than the sales cycle for the product. Accordingly, if we incur substantial research and development costs without developing a commercially successful product, our operating results, as well as our growth prospects, could be adversely affected.

 

Because many of our ICs are designed for use in consumer products such as televisions, set-top boxes, radios and wearables, we expect that the demand for our products will be typically subject to some degree of seasonal demand. However, rapid changes in our markets and across our product areas make it difficult for us to accurately estimate the impact of seasonal factors on our business.

 

Current Period Highlights

 

Revenues decreased $17.3 million in the recent quarter compared to the first quarter of fiscal 2018, primarily due to decreased revenues from our Broadcast, Access and Infrastructure products offset by increased revenues from our IoT products. Gross profit decreased $8.3 million during the same period due primarily to decreased product sales. Gross margin increased to 61.6% in the recent quarter compared to 60.5% in the first quarter of fiscal 2018 primarily due to variations in product mix. Operating expenses increased by $10.3 million in the recent quarter compared to the first quarter of fiscal 2018 due primarily to increased personnel-related expenses, amortization of intangible assets and product marketing costs. Operating income in the recent quarter was $5.1 million compared to $23.7 million in the first quarter of fiscal 2018.

 

We ended the first quarter with $613.9 million in cash, cash equivalents and short-term investments. Net cash provided by operating activities was $32.0 million during the recent three-month period. Accounts receivable was $69.9 million at March 30, 2019, representing 33 days sales outstanding (DSO). Inventory was $70.5 million at March 30, 2019, representing 88 days of inventory (DOI). In the first three months of 2019, we repurchased 0.2 million shares of our common stock for $15.0 million. We adopted ASC 842, Leases , on the first day of fiscal 2019. In connection with the adoption, we have recorded $19.4 million of right-of-use assets and $21.1 million of operating lease liabilities as of March 30, 2019.

 

Through acquisitions and internal development efforts, we have continued to diversify our product portfolio and introduce new products and solutions with added functionality and further integration. In the first three months of fiscal 2019, we introduced isolation products designed to provide precise current and voltage measurement with very low temperature drift; new Bluetooth® software for our Wireless Gecko portfolio that increases location services accuracy; and Wi-Fi® modules and transceivers that cut power consumption for IoT applications. We plan to continue to introduce products that increase the content we provide for existing applications, thereby enabling us to serve markets we do not currently address and expand our total available market opportunity.

 

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During the three months ended March 30, 2019, we had no customer that represented more than 10% of our revenues. In addition to direct sales to customers, some of our end customers purchase products indirectly from us through distributors and contract manufacturers. An end customer purchasing through a contract manufacturer typically instructs such contract manufacturer to obtain our products and incorporate such products with other components for sale by such contract manufacturer to the end customer. Although we actually sell the products to, and are paid by, the distributors and contract manufacturers, we refer to such end customer as our customer. Two of our distributors who sell to our customers, Arrow Electronics and Edom Technology, each represented more than 10% of our revenues during the three months ended March 30, 2019. There were no contract manufacturers that accounted for more than 10% of our revenues during the three months ended March 30, 2019.

 

The percentage of our revenues derived from outside of the United States was 83% during the three months ended March 30, 2019.  All of our revenues to date have been denominated in U.S. dollars. We believe that a majority of our revenues will continue to be derived from customers outside of the United States.

 

Results of Operations

 

The following describes the line items set forth in our Condensed Consolidated Statements of Income:

 

Revenues.   Revenues are generated predominately by sales of our products. Our revenues are subject to variation from period to period due to the volume of shipments made within a period, the mix of products we sell and the prices we charge for our products.

 

Cost of Revenues.   Cost of revenues includes the cost of purchasing finished silicon wafers processed by independent foundries; costs associated with assembly, test and shipping of those products; costs of personnel and equipment associated with manufacturing support, logistics and quality assurance; costs of software royalties, other intellectual property license costs and certain acquired intangible assets; and an allocated portion of our occupancy costs. Our gross margin fluctuates depending on product mix, manufacturing yields, inventory valuation adjustments, average selling prices and other factors.

 

Research and Development.   Research and development expense consists primarily of personnel-related expenses, including stock-based compensation, as well as new product masks, external consulting and services costs, equipment tooling, equipment depreciation, amortization of intangible assets, and an allocated portion of our occupancy costs. Research and development activities include the design of new products, refinement of existing products and design of test methodologies to ensure compliance with required specifications.

 

Selling, General and Administrative.   Selling, general and administrative expense consists primarily of personnel-related expenses, including stock-based compensation, as well as an allocated portion of our occupancy costs, sales commissions to independent sales representatives, applications engineering support, professional fees, legal fees and promotional and marketing expenses.

 

Interest Income and Other, Net.   Interest income and other, net reflects interest earned on our cash, cash equivalents and investment balances, foreign currency remeasurement adjustments and other non-operating income and expenses.

 

Interest Expense.   Interest expense consists of interest on our short and long-term obligations, including our convertible senior notes and credit facility. Interest expense on our convertible senior notes includes contractual interest, amortization of the debt discount and amortization of debt issuance costs.

 

Provision (Benefit) for Income Taxes.   Provision (benefit) for income taxes includes both domestic and foreign income taxes at the applicable tax rates adjusted for non-deductible expenses, research and development tax credits and other permanent differences.

 

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The following table sets forth our Condensed Consolidated Statements of Income data as a percentage of revenues for the periods indicated:

 

 

 

 

Three Months Ended

 

 

 

March 30,
2019

 

March 31,
2018

 

 

 

 

 

 

 

Revenues

 

100.0

%

100.0

%

Cost of revenues

 

38.4

 

39.5

 

Gross margin

 

61.6

 

60.5

 

 

 

 

 

 

 

Operating expenses:

 

 

 

 

 

Research and development

 

32.7

 

26.7

 

Selling, general and administrative

 

26.2

 

22.3

 

Operating expenses

 

58.9

 

49.0

 

 

 

 

 

 

 

Operating income

 

2.7

 

11.5

 

 

 

 

 

 

 

Other income (expense):

 

 

 

 

 

Interest income and other, net

 

1.5

 

1.6

 

Interest expense

 

(2.6

)

(2.4

)

Income before income taxes

 

1.6

 

10.7

 

Provision (benefit) for income taxes

 

(1.3

)

(2.1

)

Net income

 

2.9

%

12.8

%

 

Revenues

 

 

 

Three Months Ended

 

(in millions)

 

March 30,
2019

 

March 31,
2018

 

Change

 

%
Change

 

Internet of Things

 

$

106.4

 

$

103.1

 

$

3.3

 

3.2

%

Infrastructure

 

45.8

 

49.4

 

(3.6

)

(7.3

)%

Broadcast

 

26.3

 

36.1

 

(9.8

)

(27.2

)%

Access

 

9.6

 

16.8

 

(7.2

)

(42.9

)%

Revenues

 

$

188.1

 

$

205.4

 

$

(17.3

)

(8.4

)%

 

The change in revenues in the recent three month period was due primarily to:

 

·                   Increased revenues of $3.3 million for our IoT products, due primarily to the addition of revenues from an acquisition offset by decreased demand for our MCU products.

·                   Decreased revenues of $3.6 million for our Infrastructure products, due primarily to decreased demand for our isolation and timing products.

·                   Decreased revenues of $9.8 million for Broadcast products, due primarily to decreases in the demand and the market for our consumer products and decreased demand for our automotive products.

·                   Decreased revenues of $7.2 million for our Access products, due primarily to decreased demand for our products and decreases in the market for such products.

 

Unit volumes of our products decreased by 16.7% and average selling prices increased by 9.6% compared to the three months ended March 31, 2018. The average selling prices of our products may fluctuate significantly from period to period due to changes in product mix and other factors. In general, as our products become more mature, we expect to experience decreases in average selling prices. We anticipate that newly announced, higher priced, next generation products and product derivatives will offset some of these decreases.

 

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Gross Profit

 

 

 

Three Months Ended

 

(in millions)

 

March 30,
2019

 

March 31,
2018

 

Change

 

Gross profit

 

$

115.9

 

$

124.2

 

$

(8.3

)

Gross margin

 

61.6

%

60.5

%

1.1

%

 

Gross profit decreased during the recent period due primarily to decreased product sales. The change in gross profit in the recent three month period was due to decreases in gross profit of $5.4 million for our Broadcast products, $4.8 million for our Infrastructure products and $3.6 million for our Access products, offset by an increase in gross profit of $5.5 million for our Internet of Things products. Gross margin increased primarily due to variations in product mix.

 

We may experience declines in the average selling prices of certain of our products. This creates downward pressure on gross margin and may be offset to the extent we are able to introduce higher margin new products and gain market share with our products; reduce costs of existing products through improved design; achieve lower production costs from our wafer suppliers and third-party assembly and test subcontractors; achieve lower production costs per unit as a result of improved yields throughout the manufacturing process; or reduce logistics costs.

 

Research and Development

 

 

 

Three Months Ended

 

(in millions)

 

March 30,
2019

 

March 31,
2018

 

Change

 

%
Change

 

Research and development

 

$

61.6

 

$

54.8

 

$

6.8

 

12.3

%

Percent of revenue

 

32.7

%

26.7

%

 

 

 

 

 

The increase in research and development expense in the recent three month period was primarily due to increases of $2.9 million for the amortization of intangible assets, $2.1 million for personnel-related expenses, including costs associated with increased headcount and an acquisition, and $0.7 million for occupancy costs. We expect that research and development expense will increase in absolute dollars in the second quarter of fiscal 2019.

 

Selling, General and Administrative

 

 

 

Three Months Ended

 

(in millions)

 

March 30,
2019

 

March 31,
2018

 

Change

 

%
Change

 

Selling, general and administrative

 

$

49.2

 

$

45.7

 

$

3.5

 

7.7

%

Percent of revenue

 

26.2

%

22.3

%

 

 

 

 

 

The increase in selling, general and administrative expense in the recent three month period was primarily due to an increase of $1.9 million for personnel-related expenses, including costs associated with increased headcount and an acquisition, $1.0 million for the amortization of intangible assets and $0.7 million for product marketing costs. We expect that selling, general and administrative expense will remain relatively stable in absolute dollars in the second quarter of fiscal 2019.

 

Interest Income and Other, Net

 

Interest income and other, net for the three months ended March 30, 2019 was $2.8 million compared to $3.2 million for the three months ended March 31, 2018.

 

Interest Expense

 

Interest expense for the three months ended March 30, 2019 was relatively flat at $5.0 million compared to $4.9 million for the three months ended March 31, 2018.

 

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Provision (Benefit) for Income Taxes

 

 

 

Three Months Ended

 

(in millions)

 

March 30,
2019

 

March 31,
2018

 

Change

 

Provision (benefit) for income taxes

 

$

(2.5

)

$

(4.4

)

$

1.9

 

Effective tax rate

 

(85.0

)%

(19.8

)%

 

 

 

The effective tax rate for the three months ended March 30, 2019 decreased from the prior period primarily due to a change in the proportion of excess tax benefits from stock-based compensation relative to pre-tax book income. The tax benefit in both periods is the result of the windfall benefit on share-based instruments and the Federal research and development tax credit exceeding our tax provision.

 

The effective tax rates for each of the periods presented differ from the U.S. federal statutory tax rates of 21% due to the amount of income earned in foreign jurisdictions where the tax rate may be higher or lower than the federal statutory tax rate, as well as other permanent items including research and development tax credits, and the tax effects of stock-based compensation.

 

Business Outlook

 

The following represents our business outlook for the second quarter of fiscal 2019.

 

Income Statement Item

 

Estimate

 

 

 

Revenues

 

$202 million to $212 million

 

 

 

Gross margin

 

60.0%

 

 

 

Operating expenses

 

$112.5 million

 

 

 

Effective tax rate

 

5.0%

 

 

 

Diluted earnings per share

 

$0.16 to $0.26

 

Liquidity and Capital Resources

 

Our principal sources of liquidity as of March 30, 2019 consisted of $613.9 million in cash, cash equivalents and short-term investments, of which approximately $489.5 million was held by our U.S. entities. The remaining balance was held by our foreign subsidiaries. Our cash equivalents and short-term investments consisted of government debt securities, which include agency bonds, municipal bonds, U.S. government securities and variable-rate demand notes; corporate debt securities, which include asset-backed securities, corporate bonds and commercial paper; and money market funds. Our long-term investments consisted of auction-rate securities.

 

Operating Activities

 

Net cash provided by operating activities was $32.0 million during the three months ended March 30, 2019, compared to net cash provided of $22.2 million during the three months ended March 31, 2018. Operating cash flows during the three months ended March 30, 2019 reflect our net income of $5.4 million, adjustments of $26.8 million for depreciation, amortization, stock-based compensation and deferred income taxes, and a net cash outflow of $0.2 million due to changes in our operating assets and liabilities.

 

Accounts receivable decreased to $69.9 million at March 30, 2019 from $73.2 million at December 29, 2018. The decrease in accounts receivable resulted primarily from normal variations in the timing of collections and billings. Our average DSO was 33 days at March 30, 2019 and 31 days at December 29, 2018.

 

Inventory decreased to $70.5 million at March 30, 2019 from $75.0 million at December 29, 2018. Our inventory level is primarily impacted by our need to make purchase commitments to support forecasted demand and variations between forecasted and actual demand. Our DOI was 88 days at March 30, 2019 and 79 days at December 29, 2018.

 

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Investing Activities

 

Net cash provided by investing activities was $31.2 million during the three months ended March 30, 2019, compared to net cash provided of $67.4 million during the three months ended March 31, 2018. The decrease in cash inflows was principally due to a decrease of $40.7 million in net sales and maturities of marketable securities.

 

We anticipate capital expenditures of approximately $18 to $20 million for fiscal 2019. Additionally, as part of our growth strategy, we expect to evaluate opportunities to invest in or acquire other businesses, intellectual property or technologies that would complement or expand our current offerings, expand the breadth of our markets or enhance our technical capabilities.

 

Financing Activities

 

Net cash used in financing activities was $29.1 million during the three months ended March 30, 2019, compared to net cash used of $16.7 million during the three months ended March 31, 2018. The increase in cash outflows was principally due to an increase of $15.0 million for repurchases of our common stock. In October 2018, the Board of Directors increased the authorization amount of the existing share repurchase program from $100 million to $200 million and extended the termination date to December 2019.

 

Our debt facilities include $400 million principal amount convertible senior notes (the “Notes”) and a $300 million revolving credit facility. On March 6, 2017, we completed a private offering of the Notes. The Notes bear interest semi-annually at a rate of 1.375% per year and will mature on March 1, 2022, unless repurchased, redeemed or converted at an earlier date. In connection with our offering of the Notes, we entered into an amendment to our credit agreement and paid off the then remaining balance of $72.5 million. We have an option to increase the size of the borrowing capacity of the revolving credit facility by up to an aggregate of $200 million in additional commitments, subject to certain conditions. See Note 6, Debt , to the Condensed Consolidated Financial Statements for additional information.

 

Our future capital requirements will depend on many factors, including the rate of sales growth, market acceptance of our products, the timing and extent of research and development projects, potential acquisitions of companies or technologies and the expansion of our sales and marketing activities. We believe our existing cash, cash equivalents, investments and credit under our Credit Facility are sufficient to meet our capital requirements through at least the next 12 months, although we could be required, or could elect, to seek additional funding prior to that time. We may enter into acquisitions or strategic arrangements in the future which also could require us to seek additional equity or debt financing.

 

Critical Accounting Policies and Estimates

 

The preparation of financial statements and accompanying notes in conformity with U.S. generally accepted accounting principles requires that we make estimates and assumptions that affect the amounts reported. Changes in facts and circumstances could have a significant impact on the resulting estimated amounts included in the financial statements. We believe the following critical accounting policies affect our more complex judgments and estimates.

 

Inventory valuation — We assess the recoverability of inventories through the application of a set of methods, assumptions and estimates. In determining net realizable value, we write down inventory that may be slow moving or have some form of obsolescence, including inventory that has aged more than 12 months. We also adjust the valuation of inventory when its manufacturing cost exceeds the estimated selling price less costs of completion, disposal and transportation. We assess the potential for any unusual customer returns based on known quality or business issues and write-off inventory losses for scrap or non-saleable material. Inventory not otherwise identified to be written down is compared to an assessment of our 12-month forecasted demand. The result of this methodology is compared against the product life cycle and competitive situations in the marketplace to determine the appropriateness of the resulting inventory levels. Demand for our products may fluctuate significantly over time, and actual demand and market conditions may be more or less favorable than those that we project. In the event that actual demand is lower or market conditions are worse than originally projected, additional inventory write-downs may be required.

 

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Impairment of goodwill and other long-lived assets — We review long-lived assets which are held and used, including fixed assets and purchased intangible assets, for impairment whenever changes in circumstances indicate that the carrying amount of the assets may not be recoverable. Such evaluations compare the carrying amount of an asset to future undiscounted net cash flows expected to be generated by the asset over its expected useful life and are significantly impacted by estimates of future prices and volumes for our products, capital needs, economic trends and other factors which are inherently difficult to forecast. If the asset is considered to be impaired, we record an impairment charge equal to the amount by which the carrying value of the asset exceeds its fair value determined by either a quoted market price, if any, or a value determined by utilizing a discounted cash flow technique.

 

We test our goodwill for impairment annually as of the first day of our fourth fiscal quarter and in interim periods if certain events occur indicating that the carrying value of goodwill may be impaired. The goodwill impairment test is a two-step process. The first step of the impairment analysis compares our fair value to our net book value. In determining fair value, the accounting guidance allows for the use of several valuation methodologies, although it states quoted market prices are the best evidence of fair value. If the fair value is less than the net book value, the second step of the analysis compares the implied fair value of our goodwill to its carrying amount. If the carrying amount of goodwill exceeds its implied fair value, we recognize an impairment loss equal to that excess amount.

 

Acquired intangible assets — When we acquire a business, a portion of the purchase price is typically allocated to identifiable intangible assets, such as acquired technology and customer relationships. Fair value of these assets is determined primarily using the income approach, which requires us to project future cash flows and apply an appropriate discount rate. We amortize intangible assets with finite lives over their expected useful lives. Our estimates are based upon assumptions believed to be reasonable but which are inherently uncertain and unpredictable. Assumptions may be incomplete or inaccurate, and unanticipated events and circumstances may occur. Incorrect estimates could result in future impairment charges, and those charges could be material to our results of operations.

 

Revenue recognition — We recognize revenue when control of the promised goods or services is transferred to customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services. In order to achieve this core principle, we apply a five-step process. As part of this process, we analyze the performance obligations in a customer contract and estimate the consideration we expect to receive. The evaluation of performance obligations requires that we identify the promised goods and services in the contract. For contracts that contain more than one promised good and service, we then must determine whether the promises are capable of being distinct and if they are separately identifiable from other promises in the contract. Additionally, for our sales to distributors, we must estimate the impact that price adjustments and rights of return will have on consideration. We make these estimates based on available information, including recent sales activity and pricing data. If our evaluation of performance obligations is incorrect, we may recognize revenue sooner or later than is appropriate. If our estimates of consideration are inaccurate, we may recognize too much or too little revenue in a period.

 

Stock-based compensation — We recognize the fair-value of stock-based compensation transactions in the Consolidated Statements of Income. The fair value of our full-value stock awards (with the exception of market-based performance awards) equals the fair market value of our stock on the date of grant. The fair value of our market-based performance awards is estimated at the date of grant using a Monte-Carlo simulation. The fair value of our stock option and employee stock purchase plan grants is estimated at the date of grant using the Black-Scholes option pricing model. In addition, we are required to estimate the expected forfeiture rate of our stock grants and only recognize the expense for those shares expected to vest. If our actual experience differs significantly from the assumptions used to compute our stock-based compensation cost, or if different assumptions had been used, we may have recorded too much or too little stock-based compensation cost. See Note 11, Stock-Based Compensation , to the Condensed Consolidated Financial Statements for additional information.

 

Income taxes — We are required to calculate income taxes in each of the jurisdictions in which we operate. This process involves calculating the actual current tax liability together with assessing temporary differences in recognition of income (loss) for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included in our Consolidated Balance Sheet. We record a valuation allowance when it is more likely than not that some portion or all of the deferred tax assets will not be realized. In assessing the need for a valuation allowance, we are required to estimate the amount of expected future taxable income. Judgment is inherent in this process and differences between the estimated and actual taxable income could result in a material impact on our Consolidated Financial Statements.

 

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We recognize liabilities for uncertain tax positions based on a two-step process. The first step requires us to determine whether the weight of available evidence indicates that the tax position has met the threshold for recognition. Therefore, we must evaluate whether it is more likely than not that the position will be sustained on audit, including resolution of any related appeals or litigation processes. The second step requires us to measure the tax benefit of the tax position taken, or expected to be taken, in an income tax return as the largest amount that is more than 50% likely of being realized upon ultimate settlement. This measurement step is inherently complex and requires subjective estimations of such amounts to determine the probability of various possible outcomes. We re-evaluate the uncertain tax positions each quarter based on factors including, but not limited to, changes in facts or circumstances, changes in tax law, expirations of statutes of limitation, effectively settled issues under audit, and new audit activity. Such a change in recognition or measurement would result in the recognition of a tax benefit or an additional charge to the tax provision in the period.

 

Although we believe the measurement of our liabilities for uncertain tax positions is reasonable, no assurance can be given that the final outcome of these matters will not be different than what is reflected in the historical income tax provisions and accruals. If additional taxes are assessed as a result of an audit or litigation, they could have a material effect on our income tax provision and net income in the period or periods for which that determination is made. We operate within multiple taxing jurisdictions and are subject to audit in these jurisdictions. These audits can involve complex issues which may require an extended period of time to resolve and could result in additional assessments of income tax. We believe adequate provisions for income taxes have been made for all periods.

 

Recent Accounting Pronouncements

 

Information regarding r ecent accounting pronouncements is provided in Note 1, Significant Accounting Policies , to the Condensed Consolidated Financial Statements. Such information is incorporated by reference herein.

 

Quantitative and Qualitative Disclosures about Market Risk

 

Interest Income

 

Our investment portfolio includes cash, cash equivalents, short-term investments and long-term investments. Our main investment objectives are the preservation of investment capital and the maximization of after-tax returns on our investment portfolio. Our interest income is sensitive to changes in the general level of U.S. interest rates. A 100 basis point decline in yield on our investment portfolio holdings as of March 30, 2019 would decrease our future annual interest income by approximately $5.6 million. We believe that our investment policy, which defines the duration, concentration, and minimum credit quality of the allowable investments, meets our investment objectives.

 

Interest Expense

 

We are exposed to interest rate fluctuations in the normal course of our business, including through our Credit Facility. The interest rate on the Credit Facility consists of a variable-rate of interest and an applicable margin. While we have drawn from the Credit Facility in the past, we have no borrowings as of March 30, 2019. If we borrow from the Credit Facility in the future, we will again be exposed to interest rate fluctuations.

 

Foreign currency exchange rate risk

 

We are exposed to foreign currency exchange rate risk primarily through assets, liabilities and operating expenses of our subsidiaries denominated in currencies other than the U.S. dollar. Our foreign subsidiaries are considered to be extensions of the U.S. parent. The functional currency of the foreign subsidiaries is the U.S. dollar. Accordingly, gains and losses resulting from remeasuring transactions denominated in currencies other than U.S. dollars are recorded in the Consolidated Statements of Income. We use foreign currency forward contracts to manage exposure to foreign exchange risk. Gains and losses on foreign currency forward contracts are recognized in earnings in the same period during which the hedged transaction is recognized.

 

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Investments in Auction-rate Securities

 

As of March 30, 2019, we held $6.0 million par value auction-rate securities, all of which have experienced failed auctions because sell orders exceeded buy orders. We are unable to predict if these funds will become available before their maturity dates. Additionally, if we determine that an other-than-temporary decline in the fair value of any of our available-for-sale auction-rate securities has occurred, we may be required to adjust the carrying value of the investments through an impairment charge.

 

Available Information

 

Our website address is www.silabs.com. Our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 are available through the investor relations page of our website free of charge as soon as reasonably practicable after we electronically file such material with, or furnish it to, the Securities and Exchange Commission (SEC). Our website and the information contained therein or connected thereto are not intended to be incorporated into this Quarterly Report on Form 10-Q.

 

Item 3.  Quantitative and Qualitative Disclosures About Market Risk

 

Information related to quantitative and qualitative disclosures regarding market risk is set forth in Management’s Discussion and Analysis of Financial Condition and Results of Operations under Item 2 above.  Such information is incorporated by reference herein.

 

Item 4.  Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures

 

We have performed an evaluation under the supervision and with the participation of our management, including our Chief Executive Officer (CEO) and Chief Financial Officer (CFO), of the effectiveness of our disclosure controls and procedures, as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the Exchange Act). Based on that evaluation, our management, including our CEO and CFO, concluded that our disclosure controls and procedures were not effective as of March 30, 2019 because of the material weakness in our internal control over financial reporting described below.

 

Following the Public Company Accounting Oversight Board’s inspection of Ernst & Young LLP’s audit of our December 29, 2018 financial statements and internal controls over financial reporting in April 2019, management identified the following material weakness that existed as of December 29, 2018:

 

We did not maintain sufficient design and operating effectiveness of controls over the accounting for business combinations, primarily the maintenance of sufficient contemporaneous documentation of management review controls over certain assumptions used in the valuation of acquired intangible assets and related recording of goodwill.

 

A material weakness is a deficiency, or a combination of deficiencies in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company’s annual or interim consolidated financial statements will not be prevented or detected on a timely basis. This material weakness did not result in a misstatement to the consolidated financial statements for the year ended December 29, 2018.

 

Notwithstanding the material weakness discussed below, our management, including our CEO and CFO, has concluded that the consolidated financial statements included in this report fairly present, in all material respects, our financial condition, results of operations and cash flows for the periods presented in conformity with accounting principles generally accepted in the United States.

 

We have immediately commenced developing a plan to enhance the design and operating effectiveness of our internal controls over financial reporting, including maintaining sufficient contemporaneous documentation of management review controls over assumptions used in the valuation of acquired intangible assets and related recording of goodwill , which we believe will address the material weakness described above. Our remediation plan will include the implementation of procedures that will require enhanced documentation on the use of assumptions in business combinations and additional training. We expect our remediation will be complete prior to the end of the fourth quarter of fiscal 2019.

 

Changes in Internal Control over Financial Reporting

 

During the fiscal quarter ended March 30, 2019, we implemented certain internal controls over financial reporting in connection with our adoption of ASC Topic 842, Leases . There were no other changes in our internal controls during the fiscal quarter ended March 30, 2019 that materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.

 

Part II.  Other Information

 

Item 1.  Legal Proceedings

 

Information regarding legal proceedings is provided in Note 8, Commitments and Contingencies , to the Condensed Consolidated Financial Statements. Such information is incorporated by reference herein.

 

Item 1A. Risk Factors

 

Risks Related to our Business

 

We may not be able to maintain our historical growth and may experience significant period-to-period fluctuations in our revenues and operating results, which may result in volatility in our stock price

 

Although we have generally experienced revenue growth in our history, we may not be able to sustain this growth. We may also experience significant period-to-period fluctuations in our revenues and operating results in the future due to a number of factors, and any such variations may cause our stock price to fluctuate. In some future period our revenues or operating results may be below the expectations of public market analysts or investors. If this occurs, our stock price may drop, perhaps significantly.

 

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A number of factors, in addition to those cited in other risk factors applicable to our business, may contribute to fluctuations in our revenues and operating results, including:

 

·                   The timing and volume of orders received from our customers;

 

·                   The timeliness of our new product introductions and the rate at which our new products may cannibalize our older products;

 

·                   The rate of acceptance of our products by our customers, including the acceptance of new products we may develop for integration in the products manufactured by such customers, which we refer to as “design wins”;

 

·                   The time lag and realization rate between “design wins” and production orders;

 

·                   The demand for, and life cycles of, the products incorporating our mixed-signal solutions;

 

·                   The rate of adoption of mixed-signal products in the markets we target;

 

·                   Deferrals or reductions of customer orders in anticipation of new products or product enhancements from us or our competitors or other providers of mixed-signal ICs;

 

·                   Changes in product mix;

 

·                   The average selling prices for our products could drop suddenly due to competitive offerings or competitive predatory pricing;

 

·                   The average selling prices for our products generally decline over time;

 

·                   Changes in market standards;

 

·                   Impairment charges related to inventory, equipment or other long-lived assets;

 

·                   The software used in our products, including software provided by third parties, may not meet the needs of our customers;

 

·                   Our customers may not be able to obtain other components such as capacitors (which are currently in short supply) that they need to incorporate in conjunction with our products, leading to potential downturn in the demand for our products;

 

·                   Significant legal costs to defend our intellectual property rights or respond to claims against us; and

 

·                   The rate at which new markets emerge for products we are currently developing or for which our design expertise can be utilized to develop products for these new markets.

 

The markets for consumer electronics, for example, are characterized by rapid fluctuations in demand and seasonality that result in corresponding fluctuations in the demand for our products that are incorporated in such devices. Additionally, the rate of technology acceptance by our customers results in fluctuating demand for our products as customers are reluctant to incorporate a new IC into their products until the new IC has achieved market acceptance. Once a new IC achieves market acceptance, demand for the new IC can quickly accelerate to a point and then level off such that rapid historical growth in sales of a product should not be viewed as indicative of continued future growth. In addition, demand can quickly decline for a product when a new IC product is introduced and receives market acceptance. Due to the various factors mentioned above, the results of any prior quarterly or annual periods should not be relied upon as an indication of our future operating performance.

 

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If we are unable to develop or acquire new and enhanced products that achieve market acceptance in a timely manner, our operating results and competitive position could be harmed

 

Our future success will depend on our ability to develop or acquire new products and product enhancements that achieve market acceptance in a timely and cost-effective manner. The development of mixed-signal ICs is highly complex, and we have at times experienced delays in completing the development and introduction of new products and product enhancements. Successful product development and market acceptance of our products depend on a number of factors, including:

 

·                   Requirements of customers;

 

·                   Accurate prediction of market and technical requirements;

 

·                   Timely completion and introduction of new designs;

 

·                   Timely qualification and certification of our products for use in our customers’ products;

 

·                   Commercial acceptance and volume production of the products into which our ICs will be incorporated;

 

·                   Availability of foundry, assembly and test capacity;

 

·                   Achievement of high manufacturing yields;

 

·                   Quality, price, performance, power use and size of our products;

 

·                   Availability, quality, price and performance of competing products and technologies;

 

·                   Our customer service, application support capabilities and responsiveness;

 

·                   Successful development of our relationships with existing and potential customers;

 

·                   Technology, industry standards or end-user preferences; and

 

·                   Cooperation of third-party software providers and our semiconductor vendors to support our chips within a system.

 

We cannot provide any assurance that products which we recently have developed or may develop in the future will achieve market acceptance. We have introduced to market or are in development of many products. If our products fail to achieve market acceptance, or if we fail to develop new products on a timely basis that achieve market acceptance, our growth prospects, operating results and competitive position could be adversely affected. The growth of the IoT market is dependent on the adoption of industry standards to permit devices to connect and communicate with each other. If the industry cannot agree on a common set of standards, then the growth of the IoT market may be slower than expected.

 

Our research and development efforts are focused on a limited number of new technologies and products, and any delay in the development, or abandonment, of these technologies or products by industry participants, or their failure to achieve market acceptance, could compromise our competitive position

 

Our products serve as components and solutions in electronic devices in various markets. As a result, we have devoted and expect to continue to devote a large amount of resources to develop products based on new and emerging technologies and standards that will be commercially introduced in the future. Research and development expense during the three months ended March 30, 2019 was $61.6 million, or 32.7% of revenues. A number of companies are actively involved in the development of these new technologies and standards. Should any of these companies delay or abandon their efforts to develop commercially available products based on new technologies and standards, our research and development efforts with respect to these technologies and standards likely would have no appreciable value. In addition, if we do not correctly anticipate new technologies and standards, or if the products that we develop based on these new technologies and standards fail to achieve market acceptance, our competitors may be better able to address market demand than we would.

 

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Furthermore, if markets for these new technologies and standards develop later than we anticipate, or do not develop at all, demand for our products that are currently in development would suffer, resulting in lower sales of these products than we currently anticipate.

 

Significant litigation over intellectual property in our industry may cause us to become involved in costly and lengthy litigation which could adversely affect our business

 

The semiconductor and software industries have experienced significant litigation involving patents and other intellectual property rights. From time to time, third parties, including non-practicing entities, allege intellectual property infringement by our products, our customers’ products, or products using technologies or communications standards used in our industry. We also receive communications from customers or suppliers requesting indemnification for allegations brought against them by third parties. Some of these allegations have resulted, and may result in the future, in our involvement in litigation. We have certain contractual obligations to defend and indemnify our customers from certain infringement claims. We also have been involved in litigation to protect our intellectual property rights in the past and may become involved in such litigation again in the future.

 

Given the unpredictable nature of litigation and the complexity of the technology, we may not prevail in any such litigation. Legal proceedings could subject us to significant liability, invalidate our proprietary rights, or harm our businesses and our ability to compete. Legal proceedings initiated by us to protect our intellectual property rights could also result in counterclaims or countersuits against us. Any litigation, regardless of its outcome or merit, could be time-consuming and expensive to resolve and could divert our management’s time and attention. Intellectual property litigation also could force us to take specific actions, including:

 

·                   Cease using, selling or manufacturing certain products, services or processes;

 

·                   Attempt to obtain a license, which license may require the payment of substantial royalties or may not be available on reasonable terms or at all;

 

·                   Incur significant costs, time delays and lost business opportunities to develop alternative technologies or redesign products; or

 

·                   Pursue legal remedies with third parties to enforce our indemnification rights, which may not adequately protect our interests.

 

Any acquisitions we make could disrupt our business and harm our financial condition

 

As part of our growth and product diversification strategy, we continue to evaluate opportunities to acquire other businesses, intellectual property or technologies that would complement our current offerings, expand the breadth of our markets or enhance our technical capabilities. The acquisitions that we have made and may make in the future entail a number of risks that could materially and adversely affect our business and operating results, including:

 

·                   Problems integrating the acquired operations, technologies or products with our existing business and products;

 

·                   Diversion of management’s time and attention from our core business;

 

·                   Need for financial resources above our planned investment levels;

 

·                   Difficulties in retaining business relationships with suppliers and customers of the acquired company;

 

·                   Risks associated with entering markets in which we lack prior experience;

 

·                   Risks associated with the transfer of licenses of intellectual property;

 

·                   Increased operating costs due to acquired overhead;

 

·                   Tax issues associated with acquisitions;

 

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·                   Acquisition-related disputes, including disputes over earn-outs and escrows;

 

·                   Potential loss of key employees of the acquired company; and

 

·                   Potential impairment of related goodwill and intangible assets.

 

Future acquisitions also could cause us to incur debt or contingent liabilities or cause us to issue equity securities that could negatively impact the ownership percentages of existing shareholders.

 

We may be unable to protect our intellectual property, which would negatively affect our ability to compete

 

Our products rely on our proprietary technology, and we expect that future technological advances made by us will be critical to sustain market acceptance of our products. Therefore, we believe that the protection of our intellectual property rights is and will continue to be important to the success of our business. We rely on a combination of patent, copyright, trademark and trade secret laws and restrictions on disclosure to protect our intellectual property rights. We also enter into confidentiality or license agreements with our employees, consultants, intellectual property providers and business partners, and control access to and distribution of our documentation and other proprietary information. Despite these efforts, unauthorized parties may attempt to copy or otherwise obtain and use our proprietary technology. Monitoring unauthorized use of our technology is difficult, and we cannot be certain that the steps we have taken will prevent unauthorized use of our technology, particularly in foreign countries where the laws may not protect our proprietary rights as fully as in the United States. We cannot be certain that patents will be issued as a result of our pending applications nor can we be certain that any issued patents would protect or benefit us or give us adequate protection from competing products. For example, issued patents may be circumvented or challenged and declared invalid or unenforceable. We also cannot be certain that others will not develop effective competing technologies on their own.

 

Failure to manage our distribution channel relationships could impede our future growth

 

The future growth of our business will depend in large part on our ability to manage our relationships with current and future distributors and sales representatives, develop additional channels for the distribution and sale of our products and manage these relationships. During the three months ended March 30, 2019, 71% of our revenue was derived from distributors. As we execute our indirect sales strategy, we must manage the potential conflicts that may arise with our direct sales efforts. For example, conflicts with a distributor may arise when a customer begins purchasing directly from us rather than through the distributor. The inability to successfully execute or manage a multi-channel sales strategy could impede our future growth. In addition, relationships with our distributors often involve the use of price protection and inventory return rights. This often requires a significant amount of sales management’s time and system resources to manage properly. Because we consolidated our distribution relationships to a single global distributor, Arrow Electronics, in fiscal 2018, termination of the relationship with Arrow Electronics, either by us or by Arrow Electronics, could result in a temporary or permanent loss of revenue. If Arrow Electronics fails to effectively market and sell our products in full compliance with applicable laws, or if we are unable to maintain our existing relationship with Arrow Electronics, we may not be able to find a distributor with the scale and resources of Arrow Electronics, maintain existing levels of international revenue or realize expected long-term international revenue growth. We may not be successful in finding suitable alternative global distributors on satisfactory terms, or at all, and this could adversely affect our ability to effectively sell our solutions in certain geographical locations or to certain end customers.

 

We depend on a limited number of customers for a significant portion of our revenues, and the loss of, or a significant reduction in orders from, any key customer could significantly reduce our revenues

 

The loss of any of our key customers, or a significant reduction in sales to any one of them, would significantly reduce our revenues and adversely affect our business. During the three months ended March 30, 2019, our ten largest customers accounted for 23% of our revenues. Some of the markets for our products are dominated by a small number of potential customers. Therefore, our operating results in the foreseeable future will continue to depend on our ability to sell to these dominant customers, as well as the ability of these customers to sell products that incorporate our IC products. In the future, these customers may decide not to purchase our products at all, purchase fewer products than they did in the past or alter their purchasing patterns, particularly because:

 

·                   We do not have material long-term purchase contracts with our customers;

 

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·                   Substantially all of our sales to date have been made on a purchase order basis, which permits our customers to cancel, change or delay product purchase commitments with little or no notice to us and without penalty;

 

·                   Some of our customers may have efforts underway to actively diversify their vendor base which could reduce purchases of our products; and

 

·                   Some of our customers have developed or acquired products that compete directly with products these customers purchase from us, which could affect our customers’ purchasing decisions in the future.

 

Our customers regularly evaluate alternative sources of supply in order to diversify their supplier base, which increases their negotiating leverage with us and protects their ability to secure these components. We believe that any expansion of our customers’ supplier bases could have an adverse effect on the prices we are able to charge and volume of product that we are able to sell to our customers, which would negatively affect our revenues and operating results.

 

We are subject to increased inventory risks and costs because we build our products based on forecasts provided by customers before receiving purchase orders for the products

 

In order to ensure availability of our products for some of our largest customers, we start the manufacturing of our products in advance of receiving purchase orders based on forecasts provided by these customers. However, these forecasts do not represent binding purchase commitments and we do not recognize sales for these products until they are shipped to the customer. As a result, we incur inventory and manufacturing costs in advance of anticipated sales. Because demand for our products may not materialize, manufacturing based on forecasts subjects us to increased risks of high inventory carrying costs, increased obsolescence and increased operating costs. These inventory risks are exacerbated when our customers purchase indirectly through contract manufacturers or hold component inventory levels greater than their consumption rate because this causes us to have less visibility regarding the accumulated levels of inventory for such customers. A resulting write-off of unusable or excess inventories would adversely affect our operating results.

 

Our products are complex and may contain errors which could lead to liability, an increase in our costs and/or a reduction in our revenues

 

Our products are complex and may contain errors, particularly when first introduced and/or when new versions are released. Our products are increasingly designed in more complex processes, including higher levels of software and hardware integration in modules and system-level solutions and/or include elements provided by third parties which further increase the risk of errors. We rely primarily on our in-house testing personnel to design test operations and procedures to detect any errors or vulnerabilities prior to delivery of our products to our customers.

 

Should problems occur in the operation or performance of our products, we may experience delays in meeting key introduction dates or scheduled delivery dates to our customers. These errors could also cause significant re-engineering costs, the diversion of our engineering personnel’s attention from our product development efforts and cause significant customer relations and business reputation problems. Any defects could result in refunds, product replacement, product recall or other liability. Any of the foregoing could impose substantial costs and harm our business.

 

Product liability, data breach or cyber liability claims may be asserted with respect to our products. Many of our products focus on wireless connectivity and the IoT market and such connectivity may make these products particularly susceptible to cyber-attacks. Our products are typically sold at prices that are significantly lower than the cost of the end-products into which they are incorporated. A defect, failure or vulnerability in our product could cause failure in our customer’s end-product, so we could face claims for damages that are disproportionately higher than the revenues and profits we receive from the products involved. Furthermore, product liability risks are particularly significant with respect to medical and automotive applications because of the risk of serious harm to users of these end-products. There can be no assurance that any insurance we maintain will sufficiently protect us from such claims.

 

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We rely on third parties to manufacture, assemble and test our products and the failure to successfully manage our relationships with our manufacturers and subcontractors would negatively impact our ability to sell our products

 

We do not have our own wafer fab manufacturing facilities. Therefore, we rely on third-party vendors to manufacture the products we design. We also currently rely on Asian third-party assembly subcontractors to assemble and package the silicon chips provided by the wafers for use in final products. Additionally, we rely on these offshore subcontractors for a substantial portion of the testing requirements of our products prior to shipping. We expect utilization of third-party subcontractors to continue in the future.

 

The cyclical nature of the semiconductor industry drives wide fluctuations in available capacity at third-party vendors. On occasion, we have been unable to adequately respond to unexpected increases in customer demand due to capacity constraints and, therefore, were unable to benefit from this incremental demand. We may be unable to obtain adequate foundry, assembly or test capacity from our third-party subcontractors to meet our customers’ delivery requirements even if we adequately forecast customer demand.

 

There are significant risks associated with relying on these third-party foundries and subcontractors, including:

 

·                   Failure by us, our customers or their end customers to qualify a selected supplier;

 

·                   Potential insolvency of the third-party subcontractors;

 

·                   Reduced control over delivery schedules and quality;

 

·                   Limited warranties on wafers or products supplied to us;

 

·                   Potential increases in prices or payments in advance for capacity;

 

·                   Increased need for international-based supply, logistics and financial management;

 

·                   Their inability to supply or support new or changing packaging technologies; and

 

·                   Low test yields.

 

We typically do not have long-term supply contracts with our third-party vendors which obligate the vendor to perform services and supply products to us for a specific period, in specific quantities, and at specific prices. Our third-party foundry, assembly and test subcontractors typically do not guarantee that adequate capacity will be available to us within the time required to meet demand for our products. In the event that these vendors fail to meet our demand for whatever reason, we expect that it would take up to 12 months to transition performance of these services to new providers. Such a transition may also require qualification of the new providers by our customers or their end customers.

 

Most of the silicon wafers for the products that we have sold were manufactured either by Taiwan Semiconductor Manufacturing Co. (TSMC) or Semiconductor Manufacturing International Corporation (SMIC). Our customers typically complete their own qualification process. If we fail to properly balance customer demand across the existing semiconductor fabrication facilities that we utilize or are required by our foundry partners to increase, or otherwise change the number of fab lines that we utilize for our production, we might not be able to fulfill demand for our products and may need to divert our engineering resources away from new product development initiatives to support the fab line transition, which would adversely affect our operating results.

 

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Our customers require our products to undergo a lengthy and expensive qualification process without any assurance of product sales

 

Prior to purchasing our products, our customers require that our products undergo an extensive qualification process, which involves testing of the products in the customer’s system as well as rigorous reliability testing. This qualification process may continue for six months or longer. However, qualification of a product by a customer does not ensure any sales of the product to that customer. Even after successful qualification and sales of a product to a customer, a subsequent revision to the product or software, changes in the IC’s manufacturing process or the selection of a new supplier by us may require a new qualification process, which may result in delays and in us holding excess or obsolete inventory. After our products are qualified, it can take an additional six months or more before the customer commences volume production of components or devices that incorporate our products. Despite these uncertainties, we devote substantial resources, including design, engineering, sales, marketing and management efforts, toward qualifying our products with customers in anticipation of sales. If we are unsuccessful or delayed in qualifying any of our products with a customer, such failure or delay would preclude or delay sales of such product to the customer, which may impede our growth and cause our business to suffer.

 

We are a global company, which subjects us to additional business risks including logistical and financial complexity, political instability and currency fluctuations

 

We have established international subsidiaries and have opened offices in international markets to support our activities in Asia, the Americas and Europe. This has included the establishment of a headquarters in Singapore for non-U.S. operations. The percentage of our revenues derived from outside of the United States was 83% during the three months ended March 30, 2019. We may not be able to maintain or increase global market demand for our products. Our international operations are subject to a number of risks, including:

 

·                   Complexity and costs of managing international operations and related tax obligations, including our headquarters for non-U.S. operations in Singapore;

 

·                   Protectionist laws and business practices, including trade restrictions, tariffs, quotas and other trade barriers, particularly with respect to China-U.S. trade policies;

 

·                   Difficulties related to the protection of our intellectual property rights in some countries;

 

·                   Multiple, conflicting and changing tax and other laws and regulations that may impact both our international and domestic tax and other liabilities and result in increased complexity and costs, including the impact of the Tax Cuts and Jobs Act;

 

·                   Longer sales cycles;

 

·                   Greater difficulty in accounts receivable collection and longer collection periods;

 

·                   High levels of distributor inventory subject to price protection and rights of return to us;

 

·                   Political and economic instability;

 

·                   Greater difficulty in hiring and retaining qualified personnel; and

 

·                   The need to have business and operations systems that can meet the needs of our international business and operating structure.

 

To date, substantially all of our sales to international customers and purchases of components from international suppliers have been denominated in U.S. dollars. As a result, an increase in the value of the U.S. dollar relative to foreign currencies could make our products more expensive for our international customers to purchase, thus rendering our products less competitive. Similarly, a decrease in the value of the U.S. dollar could reduce our buying power with respect to international suppliers.

 

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Our inability to manage growth could materially and adversely affect our business

 

Our past growth has placed, and any future growth of our operations will continue to place, a significant strain on our management personnel, systems and resources. We anticipate that we will need to implement a variety of new and upgraded sales, operational and financial enterprise-wide systems, information technology infrastructure, procedures and controls, including the improvement of our accounting and other internal management systems to manage this growth and maintain compliance with regulatory guidelines, including Sarbanes-Oxley Act requirements. To the extent our business grows, our internal management systems and processes will need to improve to ensure that we remain in compliance. We also expect that we will need to continue to expand, train, manage and motivate our workforce. All of these endeavors will require substantial management effort, and we anticipate that we will require additional management personnel and internal processes to manage these efforts and to plan for the succession from time to time of certain persons who have been key management and technical personnel. If we are unable to effectively manage our expanding global operations, including our international headquarters in Singapore, our business could be materially and adversely affected.

 

We have a material weakness in our internal control over financial reporting and if we are unable to implement and maintain effective internal control over financial reporting, or our independent registered public accounting firm is unable to provide an unqualified report thereon, we could be materially adversely effected

 

We have identified a material weakness that existed as of the end of our fiscal 2018 regarding our internal controls over business combinations, primarily the maintenance of sufficient contemporaneous documentation of management review controls over assumptions used in the valuation of acquired intangible assets and related recording of goodwill. As a result of this material weakness, management concluded that our disclosure controls and procedures and internal control over financial reporting were not effective as of December 29, 2018.

 

Unless and until this material weakness has been remediated, or should new material weaknesses arise or be discovered in the future, material misstatements could occur and go undetected in our interim or annual consolidated financial statements and we may be required to restate our financial statements. In addition, we may experience delays in satisfying our reporting obligations or to comply with Securities and Exchange Commission rules and regulations, which could result in investigations and sanctions by regulatory authorities. Any of these results could adversely affect our business and the value of our common stock.

 

Our products incorporate technology licensed from third parties

 

We incorporate technology (including software) licensed from third parties in our products. We could be subjected to claims of infringement regardless of our lack of involvement in the development of the licensed technology. Although a third-party licensor is typically obligated to indemnify us if the licensed technology infringes on another party’s intellectual property rights, such indemnification is typically limited in amount and may be worthless if the licensor becomes insolvent. See Significant litigation over intellectual property in our industry may cause us to become involved in costly and lengthy litigation which could seriously harm our business. Furthermore, any failure of third-party technology to perform properly would adversely affect sales of our products incorporating such technology.

 

We are subject to risks relating to product concentration

 

We derive a substantial portion of our revenues from a limited number of products, and we expect these products to continue to account for a large percentage of our revenues in the near term. Continued market acceptance of these products, is therefore, critical to our future success. In addition, substantially all of our products that we have sold include technology related to one or more of our issued U.S. patents. If these patents are found to be invalid or unenforceable, our competitors could introduce competitive products that could reduce both the volume and price per unit of our products. Our business, operating results, financial condition and cash flows could therefore be adversely affected by:

 

·                   A decline in demand for any of our more significant products;

 

·                   Failure of our products to achieve continued market acceptance;

 

·                   Competitive products;

 

·                   New technological standards or changes to existing standards that we are unable to address with our products;

 

·                   A failure to release new products or enhanced versions of our existing products on a timely basis; and

 

·                   The failure of our new products to achieve market acceptance.

 

We are subject to credit risks related to our accounts receivable

 

We do not generally obtain letters of credit or other security for payment from customers, distributors or contract manufacturers. Accordingly, we are not protected against accounts receivable default or bankruptcy by these entities. Our ten largest customers or distributors represent a substantial majority of our accounts receivable. If any such customer or distributor, or a material portion of our smaller customers or distributors, were to become insolvent or otherwise not satisfy their obligations to us, we could be materially harmed.

 

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We depend on our key personnel to manage our business effectively in a rapidly changing market, and if we are unable to retain our current personnel and hire additional personnel, our ability to develop and successfully market our products could be harmed

 

We believe our future success will depend in large part upon our ability to attract and retain highly skilled managerial, engineering, sales and marketing personnel. We believe that our future success will be dependent on retaining the services of our key personnel, developing their successors and certain internal processes to reduce our reliance on specific individuals, and on properly managing the transition of key roles when they occur. There is currently a shortage of qualified personnel with significant experience in the design, development, manufacturing, marketing and sales of analog and mixed-signal products. In particular, there is a shortage of engineers who are familiar with the intricacies of the design and manufacturability of analog elements, and competition for such personnel is intense. Our key technical personnel represent a significant asset and serve as the primary source for our technological and product innovations. We may not be successful in attracting and retaining sufficient numbers of technical personnel to support our anticipated growth. The loss of any of our key employees or the inability to attract or retain qualified personnel both in the United States and internationally, including engineers, sales, applications and marketing personnel, could delay the development and introduction of, and negatively impact our ability to sell, our products.

 

Any dispositions could harm our financial condition

 

Any disposition of a product line would entail a number of risks that could materially and adversely affect our business and operating results, including:

 

·                   Diversion of management’s time and attention from our core business;

 

·                   Difficulties separating the divested business;

 

·                   Risks to relations with customers who previously purchased products from our disposed product line;

 

·                   Reduced leverage with suppliers due to reduced aggregate volume;

 

·                   Risks related to employee relations;

 

·                   Risks associated with the transfer and licensing of intellectual property;

 

·                   Security risks and other liabilities related to the transition services provided in connection with the disposition;

 

·                   Tax issues associated with dispositions; and

 

·                   Disposition-related disputes, including disputes over earn-outs and escrows.

 

Our stock price may be volatile

 

The market price of our common stock has been volatile in the past and may be volatile in the future. The market price of our common stock may be significantly affected by the following factors:

 

·                   Actual or anticipated fluctuations in our operating results;

 

·                   Changes in financial estimates by securities analysts or our failure to perform in line with such estimates;

 

·                   Changes in market valuations of other technology companies, particularly semiconductor companies;

 

·                   Announcements by us or our competitors of significant technical innovations, acquisitions, strategic partnerships, joint ventures or capital commitments;

 

·                   Introduction of technologies or product enhancements that reduce the need for our products;

 

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·                   The loss of, or decrease in sales to, one or more key customers;

 

·                   A large sale of stock by a significant shareholder;

 

·                   Dilution from the issuance of our stock in connection with acquisitions;

 

·                   The addition or removal of our stock to or from a stock index fund;

 

·                   Departures of key personnel;

 

·                   The required expensing of stock awards; and

 

·                   The required changes in our reported revenue and revenue recognition accounting policy under ASC Topic 606, Revenue from Contracts with Customers .

 

The stock market has experienced extreme volatility that often has been unrelated to the performance of particular companies. These market fluctuations may cause our stock price to fall regardless of our performance.

 

Most of our current manufacturers, assemblers, test service providers, distributors and customers are concentrated in the same geographic region, which increases the risk that a natural disaster, epidemic, labor strike, war or political unrest could disrupt our operations or sales

 

Most of our foundries and several of our assembly and test subcontractors’ sites are located in Taiwan and most of our other foundry, assembly and test subcontractors are located in the Pacific Rim region. In addition, many of our customers are located in the Pacific Rim region. The risk of earthquakes in Taiwan and the Pacific Rim region is significant due to the proximity of major earthquake fault lines in the area. Earthquakes, tsunamis, fire, flooding, lack of water or other natural disasters, an epidemic, political unrest, war, labor strikes or work stoppages in countries where our semiconductor manufacturers, assemblers and test subcontractors are located, likely would result in the disruption of our foundry, assembly or test capacity. There can be no assurance that alternate capacity could be obtained on favorable terms, if at all.

 

A natural disaster, epidemic, labor strike, war or political unrest where our customers’ facilities are located would likely reduce our sales to such customers. North Korea’s recent geopolitical maneuverings, including nuclear weapons and long-range missile testing, have created unrest. Such unrest could create economic uncertainty or instability, could escalate to war or otherwise adversely affect South Korea and our South Korean customers and reduce our sales to such customers, which would materially and adversely affect our operating results. In addition, a significant portion of the assembly and testing of our products occurs in South Korea. Any disruption resulting from these events could also cause significant delays in shipments of our products until we are able to shift our manufacturing, assembling or testing from the affected subcontractor to another third-party vendor.

 

The semiconductor manufacturing process is highly complex and, from time to time, manufacturing yields may fall below our expectations, which could result in our inability to satisfy demand for our products in a timely manner and may decrease our gross profit due to higher unit costs

 

The manufacturing of our products is a highly complex and technologically demanding process. Although we work closely with our foundries and assemblers to minimize the likelihood of reduced manufacturing yields, we have from time to time experienced lower than anticipated manufacturing yields. Changes in manufacturing processes or the inadvertent use of defective or contaminated materials could result in lower than anticipated manufacturing yields or unacceptable performance deficiencies, which could lower our gross profit. If our foundries fail to deliver fabricated silicon wafers of satisfactory quality in a timely manner, we will be unable to meet our customers’ demand for our products in a timely manner, which would adversely affect our operating results and damage our customer relationships.

 

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We depend on our customers to support our products, and some of our customers offer competing products

 

We rely on our customers to provide hardware, software, intellectual property indemnification and other technical support for the products supplied by our customers. If our customers do not provide the required functionality or if our customers do not provide satisfactory support for their products, the demand for these devices that incorporate our products may diminish or we may otherwise be materially adversely affected. Any reduction in the demand for these devices would significantly reduce our revenues.

 

In certain products, some of our customers offer their own competitive products. These customers may find it advantageous to support their own offerings in the marketplace in lieu of promoting our products.

 

Our convertible senior notes could adversely affect our operating results and financial condition

 

Upon conversion, our convertible senior notes may be settled in cash, shares of our common stock or a combination of cash and shares, at our election. We intend to settle the principal amount of the notes in cash. If we do not have adequate cash available, we may not be able to settle the principal amount in cash. In such case, we will be required to settle the principal amount in stock, which would result in immediate, and likely material, dilution to the ownership interests of our existing stockholders. Any sales in the public market of our common stock issuable upon such conversion could adversely affect prevailing market prices of our common stock.

 

Following any conclusion that we no longer have the ability to settle the convertible senior notes in cash, we will be required on a going forward basis to change our accounting policy for earnings per share from the treasury stock method to the if-converted method. Earnings per share may be lower under the if-converted method as compared to the treasury stock method.

 

The principal balance of the convertible senior notes was separated into liability and equity components, which were recorded initially at fair value. The excess of the principal amount of the liability component over its carrying amount represents the debt discount, which is accreted to interest expense over the term of the notes using the effective interest method. Accordingly, we will report higher interest expense because of the recognition of both the debt discount amortization and the notes’ coupon interest.

 

Our debt could adversely affect our operations and financial condition

 

We believe we have the ability to service our debt, but our ability to make the required payments thereunder when due depends upon our future performance, which will be subject to general economic conditions, industry cycles and other factors affecting our operations, including risk factors described herein, many of which are beyond our control. Our credit facility also contains covenants, including financial covenants. If we breach any of the covenants under our credit facility and do not obtain appropriate waivers, then, subject to any applicable cure periods, our outstanding indebtedness thereunder could be declared immediately due and payable.

 

We could seek to raise additional debt or equity capital in the future, but additional capital may not be available on terms acceptable to us, or at all

 

We believe that our existing cash, cash equivalents, investments and credit under our credit facility will be sufficient to meet our working capital needs, capital expenditures, investment requirements and commitments for at least the next 12 months. However, our ability to borrow further under the credit facility is dependent upon our ability to satisfy various conditions, covenants and representations. It is possible that we may need to raise additional funds to finance our activities or to facilitate acquisitions of other businesses, products, intellectual property or technologies. We believe we could raise these funds, if needed, by selling equity or debt securities to the public or to selected investors. In addition, even though we may not need additional funds, we may still elect to sell additional equity or debt securities or obtain credit facilities for other reasons. However, we may not be able to obtain additional funds on favorable terms, or at all. If we decide to raise additional funds by issuing equity or convertible debt securities, the ownership percentages of existing shareholders would be reduced.

 

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We have limited resources compared to some of our current and potential competitors and we may not be able to compete effectively and increase market share

 

Some of our current and potential competitors have longer operating histories, significantly greater resources and name recognition and a larger base of customers than we have. As a result, these competitors may have greater credibility with our existing and potential customers. They also may be able to adopt more aggressive pricing policies and devote greater resources to the development, promotion and sale of their products than we can to ours. In addition, some of our current and potential competitors have already established supplier or joint development relationships with the decision makers at our current or potential customers. These competitors may be able to leverage their existing relationships to discourage their customers from purchasing products from us or persuade them to replace our products with their products. Our competitors may also offer bundled solutions offering a more complete product despite the technical merits or advantages of our products. These competitors may elect not to support our products which could complicate our sales efforts. These and other competitive pressures may prevent us from competing successfully against current or future competitors, and may materially harm our business. Competition could decrease our prices, reduce our sales, lower our gross profit and/or decrease our market share.

 

Provisions in our charter documents and Delaware law could prevent, delay or impede a change in control of us and may reduce the market price of our common stock

 

Provisions of our certificate of incorporation and bylaws could have the effect of discouraging, delaying or preventing a merger or acquisition that a stockholder may consider favorable. For example, our certificate of incorporation and bylaws provide for:

 

·                   The division of our Board of Directors into three classes to be elected on a staggered basis, one class each year;