n10k.htm
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington
D.C. 20549
FORM
10-K
(Mark
One)
x
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ANNUAL REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
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For the
fiscal year ended December 31, 2008
OR
¨
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TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
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For the
Transition Period from
to
Commission
File Number: 000-50838
NETLOGIC
MICROSYSTEMS, INC.
(Exact
name of registrant as specified in its charter)
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Delaware
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77-0455244
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(State
or Other Jurisdiction of Incorporation)
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(I.R.S.
Employer Identification No.)
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1875
Charleston Road, Mountain View, California
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94043
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(Address
of principal executive office)
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(Zip
Code)
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(650)
961-6676
(Registrant’s
telephone number, including area code)
Securities
registered pursuant to Section 12(b) of the Act:
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Common
Stock, $0.01 par value per share
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The
NASDAQ Stock Market LLC
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Securities
registered pursuant to Section 12(g) of the Act: None
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act. Yes ¨ No x
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the
Act. Yes ¨ No x
Indicate
by check mark whether the registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes x
No ¨
Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.
x
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of “large
accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule
12b-2 of the Exchange Act. (Check one.)
Large
accelerated filer ¨ Accelerated
filer x Non-accelerated
filer (Do not check if a smaller reporting company) ¨
Smaller
reporting company ¨
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act.): Yes ¨ No x
The
aggregate market value of the voting stock held by non-affiliates of the
registrant as of June 30, 2008, the last business day of the registrant’s
most recently completed second fiscal quarter, was approximately $588,857,975
(based on the last reported sale price of $33.20 on June 30,
2008).
21,895,133 shares
of the Registrant’s common stock, par value $0.01 per share, were outstanding as
of January 31, 2009.
DOCUMENTS
INCORPORATED BY REFERENCE
Portions
registrant’s proxy statement to be delivered to stockholders in connection with
the registrant’s 2009 Annual Meeting of Stockholders to be held on or about
May 15, 2009 are incorporated by reference into Part III of this Form 10-K.
The registrant intends to file its proxy statement within 120 days after its
fiscal year end.
FISCAL
2008 FORM 10-K
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Forward-looking
Statements
This
report contains 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, which include, without
limitation, statements about our future business operations and results, the
market for our technology, our strategy and competition. Such statements are
based upon current expectations that involve risks and uncertainties. Any
statements contained herein that are not statements of historical fact may be
deemed forward-looking statements. For example, the words “believes”,
“anticipates”, “plans”, “expects”, “intends” and similar expressions are
intended to identify forward-looking statements. Our actual results and the
timing of certain events may differ significantly from the results discussed in
the forward-looking statements. Factors that might cause such a discrepancy
include, but are not limited to, those discussed in “Business”, “Risks Factors”,
“Management’s Discussion and Analysis of Financial Condition and Results of
Operations” and “Quantitative and Qualitative Disclosures About Market Risk”
below. All forward-looking statements in this report are based on information
available to us as of the date of this report, and we assume no obligation to
update any such forward-looking statements. The information contained in this
report should be read in conjunction with our condensed financial statements and
the accompanying notes contained in this report. Unless expressly stated or the
context otherwise requires, the terms “we”, “our”, “us” and “NetLogic
Microsystems” refer to NetLogic Microsystems, Inc.
Overview
We are a
semiconductor company that designs, develops and sells proprietary
high-performance processors and high-speed integrated circuits that are used by
original equipment manufacturers (OEMs) in routers, switches, wireless
infrastructure equipment, network security appliances, datacenter servers,
network access equipment and network storage devices to accelerate the delivery
of voice, video, data and multimedia content for advanced enterprise,
datacenter, communications and mobile wireless networks. Our knowledge-based
processors, physical layer products and network search engine products are
incorporated in systems used throughout multiple types of networks that comprise
the global Internet infrastructure, including the enterprise, datacenter, metro,
access, edge and core networking markets, and are designed into systems offered
by leading networking OEMs such as AlaxalA Networks Corporation, Alcatel-Lucent,
ARRIS Group, Inc., Brocade Communications Systems, Inc., Cisco
Systems, Inc., Huawei Technologies Co., Ltd., and Juniper Networks,
Inc.
The
products and technologies we have developed and acquired are targeted to enable
our customers to develop systems that support the increasing speeds and
complexity of the Internet infrastructure. We believe there is a growing need to
include knowledge-based processors and high speed integrated circuits in a
larger number of such systems as networks transition to all Internet Protocol
(IP) packet processing at increasing speeds.
The
equipment and systems that use our products are technically complex. As a
result, the time from our initial customer engagement design activity to volume
production can be lengthy and may require considerable support from our design
engineering, research and development, sales, and marketing personnel in order
to secure the engagement and commence product sales to the customer. Once the
customer’s equipment is in volume production, however, it generally has a life
cycle of three to five years and requires less ongoing support.
In
general, we recognize revenue from sales of our products upon shipment to our
customers or our international stocking sales representatives. Usually, we sell
the initial shipments of a product for a new design engagement directly to the
OEM customer. Once the design enters volume production, the OEM frequently
outsources its manufacturing to contract manufacturers who purchase the products
directly from us.
As a
fabless semiconductor company, our business is less capital intensive than
others because we rely on third parties to manufacture, assemble, and test our
products. In general, we do not anticipate making significant capital
expenditures aside from business acquisitions that we might make from time to
time. In the future, as we launch new products or expand our operations,
however, we may require additional funds to procure product mask sets, order
elevated quantities of wafers from our foundry partners, perform qualification
testing and assemble and test those products.
Because
we purchase all wafers from suppliers with fabrication facilities and outsource
the assembly and testing to third party vendors, a significant portion of our
costs of revenue consists of payments to third party vendors. We do not have
long-term agreements with any of our suppliers and rely upon them to fulfill our
orders.
Some of
our challenges in fiscal 2008 and in fiscal 2009 include improving operating
efficiencies in the light of recently deteriorating macroeconomic conditions,
diversifying our product offerings and inventory management. While we achieved a
year-over-year growth in total revenue from $109.0 million for fiscal year 2007
to $139.9 million for fiscal year 2008, we did experience a quarter-over-quarter
decline in revenue from $38.3 million for our third fiscal quarter in 2008 to
$30.9 million for our fourth fiscal quarter in 2008. We believe the decrease in
demand was primarily due to macroeconomic conditions that decreased customer
demand for our products. We also expect revenue for the first quarter of fiscal
2009 to decline further relative to the first quarter of fiscal
2008. In response, we have focused on operating efficiencies and
lowered our operating expenses from $20.8 million for the third quarter of
fiscal 2008 to $20.1 million for our fourth fiscal quarter in 2008. We expect to
remain focused on maintaining our operating expenses at an appropriate level
relative to our revenue during this period of macroeconomic
weakness.
For the
years ended December 31, 2008, 2007, and 2006, our top five customers
accounted for approximately 68%, 79% and 84% of total product revenue,
respectively. Favorable
market trends, such as the increasing number of 10 Gigabit ports as enterprises
and datacenters upgrade their legacy networks to better accommodate the
proliferation of video and virtualization applications, growth in the cable
infrastructure area of our business, and the growing mobile wireless
infrastructure and IPTV markets, have enabled us to broaden our customer base
and increase demand for our knowledge-based processors and network search
engines. Additionally, we have further diversified our customer and product
revenues by expanding our product portfolio to address Layer 7 content
processing with our NETL7™
processor family, the Layer 1 physical layer with our 10 Gigabit Ethernet
products, and entry level equipment with our NETLite™ processors.
As an
integral part of our efforts to diversify our product and customer base, as well
as strengthen our competitive positioning, and broaden our technology portfolio
and research and development capabilities, we have entered into strategic
acquisitions of products and technology, including:
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The
acquisition of the majority of products and assets of the network search
engine business from Cypress Semiconductor Corporation (“Cypress”) in
February 2006, where we obtained the Sahasra™
algorithmic technology that we integrated into our NL9000 knowledge-based
processor which we announced in January
2008;
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The
acquisition of TCAM2 and TCAM2-CR network search engine products from
Cypress in August 2007 that have resulted in immediate revenue expansion,
as well as extension of our market leadership in the desktop switching
market segment; and
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The
acquisition of Aeluros Inc., a privately-held, fabless provider of
industry-leading 10-Gigabit Ethernet physical layer products in October
2007, which extends our product offerings to the physical layer, or Layer
1, of the Open Systems Interconnection reference model, and is consistent
with our strategy to target customer systems that are being built to
handle the increasing speeds of network traffic. This acquisition also
increased our analog design capabilities and our ability to integrate
higher speed, lower power I/O functionality into our next generation
knowledge-based processors.
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Our
Markets
We sell
our products primarily to OEMs that supply networking equipment for the Internet
infrastructure, which consists of various networking systems that process
packets of information to enable communication between the networking systems.
This networking equipment includes routers, switches, application acceleration
equipment, network security appliances, network access equipment and networked
storage devices that are utilized by networking systems such as:
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core
networks, for long-distance city-to-city communications which may span
hundreds or thousands of miles;
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enterprise
networks, for internal corporate communications, including access to
storage environments;
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datacenter
networks, for high-density server
farms;
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metro
networks, for intra-city communications which may span several
miles;
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edge
networks, which link core, metro, enterprise and access networks;
and
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access
networks, which connect individual users to the edge
network.
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Sales of
networking equipment have increased overall during the past five years, as the
Internet has continued to grow and evolve to accommodate the continued growth in
the amount of digital media content available and provide converged support for
the quad-play applications of voice, data, video and mobility over a single
unified Internet Protocol, or IP, infrastructure. These applications
include:
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Internet
Protocol Television, or IPTV;
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Video
on demand, or VoD;
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Voice
transmission over the Internet, or
VoIP;
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Filtering
of malware (e.g., virus, spyware and spam) and intrusion
attempts;
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Music,
picture and video file downloading and
sharing;
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Music,
picture and video file downloading and sharing to mobile devices such as
cell phones and portable music/video devices;
and
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Internet
Web-surfing and video portal viewing, such as You-Tube, delivered over the
IP infrastructure to cell phones and other mobile
devices.
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Due to
the increased usage of the Internet, as well as the greater complexity of
Internet-based infrastructure to support quad-play applications, OEM systems
must increasingly make complex decisions about individual packets of information
using knowledge about the overall network, which includes the method and
manner in which networking systems are interconnected, as well as traffic
patterns and congestion points, connection availability, user-based privileges,
priorities and other attributes. These systems also need knowledge about
the content carried by the network and the applications that use the network.
Using this knowledge of the network to make complex decisions about individual
packets of information involves network awareness, while using knowledge of
packet content to make complex decisions about individual packets of information
involves content awareness, also known as deep-packet inspection. Network
awareness and content awareness include the following:
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Preferential
transmission of packets based upon assigned
priority;
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Restrictions
on access based upon security
designations;
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Changes
to packet forwarding destinations based upon traffic patterns and
bandwidth availability, or packet content;
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Addition
or deletion of information about networks and users and
applications.
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Moreover,
network and content awareness in advanced systems require multiple classes of
packet processing, in addition to forwarding packets in the network. These
additional classes of processing include access control for network security,
prioritization of packets to maintain quality of service (“QoS”) and statistical
measurement of Internet traffic for transaction billing. Compared to the basic
processing task of forwarding, these additional classes of
packet processing require a significantly higher degree of processing of IP
packets to enable network and content awareness, or network-aware and
content-aware processing.
Further,
in designing high performance systems, networking OEMs need to address other
performance issues, such as power dissipation. Minimizing the power dissipated
by integrated circuits is becoming more important for networking systems such as
routers and switches, which are increasingly designed in smaller form factors.
As a result, networking OEMs increasingly seek third party providers of advanced
processing solutions that complement their core competencies to enable network
and content awareness within their systems and meet their escalating performance
requirements for rapid processing speeds, complex decision-processing
capabilities, low power dissipation, small form factor and rapid
time-to-market.
Our
Strategy
Our
objectives are to be the leading provider of network-aware and content-aware
processing solutions, as well as 10 to 100 Gigabit physical layer
solutions, to networking OEMs and to expand into new markets and
applications. To achieve these goals, we are pursuing the following
strategies:
Maintain and Extend
our Market and Technology Leadership Positions. We were the first
supplier of knowledge-based processors to offer a “hybrid” architecture that
integrates our advanced Sahasra algorithmic technology with knowledge-based
processing engines; the first supplier to offer 64Gbps of interconnect
bandwidth, the first supplier to offer approximately 256 thousand Internet
Protocol Version 6 (“IPv6”) database entries and 1 million Internet
Protocol Version 4 (“IPv4”) data entries, the first supplier to achieve 1.0 Volt
operation of knowledge-based processors for lower power dissipation; and the
first supplier to achieve operating frequencies of up to 500 MHz. We were also
the first supplier of knowledge-based processors that are capable
of processing application networking and security functions with a single
10 Gigabit-per-second engine. In addition, we were the first supplier of
quad-port 10 Gigabit and 100 Gigabit PHY solutions targeted at next-generation
carrier optical transport networks and advanced data-center networks. We intend
to expand our market and technology leadership positions by continuing to invest
in the development of successive generations of our knowledge-based processors
and our other products to meet the increasingly high performance needs of
networking OEMs, and as well as potentially acquire such capabilities through
strategic partnerships and purchases of other businesses when we encounter
favorable opportunities. We intend to leverage our engineering capabilities and
continue to invest significant resources in recruiting and developing additional
expertise in the area of high performance circuit design, custom circuit layout,
high performance I/O interfaces, and applications engineering. By utilizing our
proprietary design methodologies, we intend to continue to target the most
demanding, advanced applications for our products.
Focus on Long-Term Relationships
with Industry-Leading OEM Customers. The design and product life
cycles of our OEM customers’ products have traditionally been lengthy, and we
work with our OEM customers at the pre-design and design stages. As a result,
our sales process typically requires us to maintain a long-term commitment and
close working relationship with our existing and potential OEM customers. This
process involves significant collaboration between our engineering team and the
engineering and design teams of our OEM customers, and typically involves the
concurrent development of our processors and the internally-designed packet
processors of our OEM customers. We intend to continue to focus on building
long-term relationships with industry-leading networking OEMs to facilitate the
adoption of our products and to gain greater insight into the needs of our OEM
customers.
Leverage Technologies to Create New
Products and Pursue New Market Opportunities. We intend to leverage
our core design expertise to develop our products for a broader range of
applications to further expand our market opportunities. We plan to address new
market segments that are increasingly adopting network-aware processing, such as
corporate storage networks that use IP-based packet-switching networking
protocols. By utilizing our proprietary design methodologies, we intend to
continue to target the most demanding, advanced applications for our
products.
Capitalize on Highly Focused
Business Model. We are a fabless semiconductor company, utilizing
third parties to manufacture, assemble and test our products. This approach
reduces our capital and operating requirements and enables us to focus greater
resources on product development. We work closely with our wafer foundries
to incorporate advanced process technologies in our solutions to achieve higher
levels of performance and to reduce costs. These technologies include advanced
130, 110, 80 and 55 nanometer complimentary metal oxide semiconductor (“CMOS”)
processing nodes with up to eight layers of copper interconnect and 300
millimeter wafer sizes. Our business model allows us to benefit from the large
manufacturing investment of our wafer foundries which are able to leverage their
investment across many markets.
Expand International
Presence. We sell our products on a worldwide basis and utilize a
network of direct sales and independent sales representatives in the U.S.,
Europe and Asia. We intend to continue to expand our sales and technical support
organization to broaden our customer reach in new markets. We believe that Asia,
in particular China, and Europe, where we have already established customer
relationships, provides the potential for significant additional long-term
growth for our products. Given the continued globalization of OEM supply chains,
particularly with respect to design and manufacturing, we believe that having a
global presence will become increasingly important for securing new customers
and design wins and to support OEMs in bringing their products to
markets.
Our
Products
Our
products include high-performance knowledge-based processors, NETLiteTM
processors, network search engines and physical layer products.
Knowledge-based
Processors
Knowledge-based
processors are integrated circuits that employ an advanced processor
architecture and a large knowledge or signature database containing information
on the network, as well as applications and content that run on the
network, to make complex decisions about individual packets of information
traveling through the network. Our knowledge-based processors significantly
enhance the ability of networking OEMs to supply network service providers with
systems offering more advanced functionality for the Internet, such as support
for IPTV, VoIP, unified threat management, or UTM, virtual private networks, or
VPNs, rich content delivery over mobile wireless networks, and streaming video
and audio.
Our
knowledge-based processors incorporate advanced technologies that enable rapid
processing, such as a superscalar architecture, which uses parallel-processing
techniques, and deep pipelining, which segments processing tasks into smaller
sub-tasks, for higher decision throughput. These technologies enable wireline
and wireless networking systems to perform a broad range of network-aware and
content-aware processing functions, such as application-based routing, UTM
network security, intrusion detection and prevention, virus inspection, access
control for network security, prioritization of traffic flow to maintain quality
of service and statistical measurement of Internet traffic for transaction
billing.
We offer
knowledge-based processors in two main product families: Layer 3-4
knowledge-based processors for use in routers, switches, network access
equipment and networked storage devices; and Layer 7 knowledge-based processors
for use in Layer 7 application switches and routers, UTM appliances, intrusion
detection and prevention systems, and anti-virus
gateways.
Layer 3-4 Knowledge-based
Processors. Layers 3 and 4 refer to the data and transport layers,
respectively, of the OSI reference model. For networking infrastructure that
supports Layer 3-4 routing, decisions on how to handle IP packets are made using
the data that is contained in the packet header. The packet header
information consists of key data regarding the packet, including the IP address
of the system that generated the packet, referred to as the source
IP address, and the IP address of the device to which the packet is to be
transmitted, referred to as the destination IP address. Our proprietary NL5000,
NL6000, NL7000, NL8000 and NL9000 families of knowledge-based processors operate
in conjunction with an OEM-developed custom integrated circuits, programmable
logic devices, and one or more network processing units (NPUs), and feature a
proprietary interface that provides advanced interface technology to enable
networking OEMs to meet their system performance requirements for Layer 3-4
processing. We also provide versions of our proprietary interface
knowledge-based processors that work with proprietary custom integrated circuits
and application software developed by or in collaboration with Cisco
Systems.
Networking
OEMs typically require solutions at different prices in order to target
different market segments with the same design. To satisfy this demand, we offer
knowledge-based processors with a range of knowledge database sizes, and all of
our knowledge-based processors are designed to be connected in groups to
increase the knowledge database available for processing.
In 2008,
we announced initial production shipments of the NL71024XT
knowledge-based processor, which is optimized for Terabit routing and
switching applications. Multiple NL71024XT processor can be clustered together
to increase processing performance, and our customers have incorporated as many
as 30 NL71024XT processors in a system for full Terabit routing
performance.
Also in
2008, we announced production shipments of our NL91024 and NL91024XT
knowledge-based processors, which are capable of processing 1.5 billion
decisions per second. These latest additions to our NL9000 processor family
integrate 128 knowledge-based processing engines, feature our Intelligent Load
Balancing Engine that efficiently allocates multiple tasks and coordinates
communications among processing engines, ands incorporate our advanced Sahasra
technology to lower power consumption.
We also
offer our Sahasra family of knowledge-based processors which use advanced
algorithms to achieve low power dissipation and are particularly well suited for
applications using exact match or longest-prefix match functions. This family of
devices scales up to 1.5 million IPv4 entries in a single
device.
NETL7™ Layer 7 Knowledge-based
Processors. For networking infrastructure that supports Layer 7 routing,
decisions on how to handle IP packets are made using the information that is
contained in the packet payload or packet content. The packet content contains
the actual data being transmitted between applications using the network. Layer
7 of the OSI reference model, known as the application layer, facilitates
communication between software applications and lower-layer network services.
Our NETL7
TM knowledge-based processors are designed to accelerate Layer
7 content processing and signature recognition tasks for enterprise and
carrier-class networks. In 2008, we announced the availability of the NLS205
NETL7 processor capable of scaling from 250 Megabits per second to 2.5 Gigabits
per second line rates, and the NLS2000 NETL7 processing solution that provides
up to 20 Gigabits per second of deep-packet inspection performance-. This
extends the processing capabilities of our knowledge-based processors into the
packet payload, thereby enabling the design and deployment of next-generation
networking systems that can make packet processing decisions based on an
awareness of the packet content. Typical applications for the NETL7 processors
include Layer 7 application switches and routers, mobile wireless infrastructure
equipment, unified threat management appliances, intrusion detection and
prevention systems and malware protection gateways.
NETLite™
Processors
Our
NETLite™ processor families are specifically designed for cost-sensitive,
high-volume applications such as entry-level switches, routers and access
equipment. The NETLite processor families leverage circuit techniques developed
and refined during the design of our knowledge-based processor families, and
benefit from die size optimization, lower power dissipation and redundant
computing techniques. In addition, the NETLite processors utilize a simplified
pipeline architecture, as compared to our knowledge based processors, that
allows for lower cost manufacturing and assembly in less expensive packages, and
allows for lower cost system designs. As such, the NETLite processors are
ideal for entry-level systems that do not require the advanced parallel
processing and deep pipelining performance of our high-end knowledge-based
processors.
Our
NETLite processors also include the Ayama™10000 and Ayama 20000 processors. We
offer these processors in densities ranging from 128K to 512K IPv4 entries, and
they include differentiated features such as Mini-Key™ power management. The
Ayama 20000 processors incorporate all the features of the Ayama 10000
processors and work seamlessly with industry-leading NPUs. To help reduce
development time and cost, we also offer the Ayama processors with our
Cynapse
TM software platform for customers to more easily integrate
these processors into their systems.
In 2008,
we announced the availability and production shipment of two new NETLite
processors, the NL56615 and NL3380, designed utilizing 55 nanometer process
geometries. These new NETLite processors are targeted to operate in conjunction
with a new generation of merchant silicon switches and network processors to
enable higher performance, lower power and lower system costs for customers
developing next-generation enterprise desktop switches.
Network
Search Engines
We
continue to support our legacy network search engines, which include the NSE1000
through NSE4000, the NSE70000 network search engine families and the NSE3128GLM
network search engines, a device that interfaces directly to certain NPUs from
Applied Micro Circuits Corporation. We introduced our network search engine
products between 1998 and 2001. These products are fabricated by UMC or
TSMC using a range of process technologies from 0.35 micron to 0.15
micron.
In August
2007, we purchased the TCAM2 network search engine products and certain
related assets from Cypress. The acquisition of the TCAM2 products has expanded
our revenue base and extended our market presence in the desktop switching
market segment.
Physical
Layer Products
Our PLP,
or physical layer, family of products provides high-performance, single and
dual-channel low-power interface technology for high-density data communication
and storage systems, and offers comprehensive support for multiple 10-Gigabit
Ethernet standards. The PLP products also integrate advanced electronic
dispersion compensation, technology. We expect our PLP family of products to
benefit from the same market drivers as our knowledge-based processors,
including growth in 10-Gigabit Ethernet ports in switches and routers, upgrades
of the telecom infrastructure to support IPTV, and the deployment of the 10Gbit
Ethernet IP-backbone for advanced mobile wireless networks.
In 2008,
we introduced several new physical layer products, including dual-port 10
Gigabit Ethernet products, the industry’s first quad-port physical layer
products and our NLP10000, the industry’s first 100 Gigabit Ethernet
physical layer solution which is targeted at next-generation core, metro, data
center and access aggregation systems.
Customers
The
markets for networking systems utilizing our products and services are mainly
served by large networking OEMs, such as AlaxalA Networks Corporation,
Alcatel-Lucent, ARRIS Group, Inc., Brocade Communications Systems, Inc., Cisco
Systems, Inc., Extreme Networks, Inc., Fujitsu Limited, Hitachi, Ltd., Huawei
Technologies Co., Ltd., and Juniper Networks, Inc.
We work
with these and other networking OEMs to understand their requirements, and
provide them with solutions that they then qualify and, in some cases, specify
for use within their systems. While we sell directly to some networking OEMs, we
also provide our products and services indirectly to other networking OEMs
through their contract manufacturers, who in turn assemble our products into
systems for delivery to our OEM customers. Sales to contract manufacturers
accounted for 41%, 65% and 78% of total revenue in 2008, 2007 and 2006,
respectively. Sales of our products are made under short-term, cancelable
purchase orders. As a result, our ability to predict future sales in any given
period is limited and subject to change based on demand for our OEM customers’
systems and their supply chain decisions.
We also
provide our products and services indirectly to our OEM customers through our
international stocking sales representatives. Our stocking sales representatives
are independent entities that assist us in identifying and servicing foreign
networking OEMs and generally purchase our products directly from us for resale
to OEMs or contract manufacturers located outside the U.S. These international
stocking sales representatives generally exclusively service a particular
foreign region or customer base, and purchase our products pursuant to
cancelable and reschedulable purchase orders containing our standard warranty
provisions for defects in materials, workmanship and product performance. At our
option, defective products may be returned for their purchase price or for
replacement. To date, our international stocking sales representatives have
returned a small number of defective products to us. Our international stocking
sales representatives may also act as a sales representative and receive
commissions on sales of our products. Our international stocking sales
representatives include Bussan Microelectronics Corporation/Mitsui Comtek
Corporation and Lestina International Limited. Sales through our international
stocking sales representatives accounted for 10%, 11% and 13% of total revenue
in 2008, 2007 and 2006, respectively. While we have purchase agreements with our
international stocking sales representatives, they do not have long-term
contracts with any of our OEM customers that use our products and
services.
On
November 7, 2005, we entered into master purchase agreements with each of
Cisco Systems, Inc. and Cisco Systems International B.V. Cisco, who together
with their contract manufacturers, are our largest customers. Pursuant to these
agreements, we agreed to supply to Cisco (including its subsidiaries and
contract manufacturers) certain of our products for incorporation into Cisco’s
products. These agreements set forth the general business terms and conditions
applicable to our sales to Cisco, including,
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our
obligation to accept all purchase orders from Cisco, unless we are unable
to meet Cisco’s schedule;
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our
obligation to ensure that we have the capacity to increase or decrease
production of our knowledge-based processors based upon Cisco’s demand
forecasts;
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our
obligation to use our best efforts to meet Cisco’s stated cost reduction
targets and to provide to Cisco all price decreases that we
achieve;
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“most
favored nation” pricing and related audit rights in favor of Cisco,
providing that, in any quarter, the prices paid by Cisco for our products
(including progeny and replacements), will be the lowest prices paid for
those products by any of our other customers who purchase as much or less
than Cisco;
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our
obligation to provide Cisco, in the event of any short supply of products
or components, an allocation that is no less favorable than that provided
to our other customers purchasing similar quantities of similar
products;
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Cisco’s
cancellation rights for standard and custom
products;
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Cisco’s
approval and related rights with respect to any proposed changes to, or
discontinuation of, our products purchased by
Cisco;
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Cisco’s
right to purchase our knowledge-based processors directly from our
manufacturers under the following
circumstances;
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· product
discontinuation;
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· bankruptcy,
insolvency and similar situations;
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· transfer
of at least 50% of our voting control to a Cisco competitor that generates
less than 50% of its annual sales from integrated circuit
products;
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in
all cases, subject, among other things, to Cisco’s continuing obligation
to pay us for the product and our obligation to disclose the costs charged
to us by our manufacturers;
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perpetual,
royalty-free, non-exclusive, worldwide license grant to Cisco to use
binary code versions of our software in connection with Cisco’s
manufacture, sale, license, loan or distribution of its products;
and
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Cisco’s
extended product warranties, generally for three years and, in the case of
epidemic failures, for five years and our indemnification obligation for
epidemic failures which will not exceed the greater of (on a per claim
basis) 25% of all amounts paid to us by Cisco during the preceding 12
months (approximately $13.2 million at December 31, 2008) or $9.0 million,
plus replacement costs. The initial term of these agreements is three
years, subject to renewal and termination rights, and which was
automatically renewed through November
2009.
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During
the second half of 2007, at Cisco’s request we transitioned into a just-in-time
inventory model covering substantially all of our product shipments to Cisco and
its contract manufacturers. In conjunction with this transition, in the third
quarter of 2007, we entered into a purchase agreement with Wintec Industries
who, during the second half of 2007, became the primary purchaser of our
products on a consignment basis for resale to Cisco and Cisco’s contract
manufacturers. We generally have provided to Wintec the same terms and
conditions that we provide to Cisco under the master purchase agreement between
us and Cisco, including: our obligations to accept all purchase orders from
Wintec (unless we are unable to meet Wintec’s schedule), ensure that we
have the capacity to increase or decrease production of our products based upon
Wintec’s demand forecasts, use our best efforts to meet Wintec’s stated cost
reduction targets and provide to Wintec all price decreases that we achieve,
cancellation rights for standard and custom products, and extended product
warranties. We also have extended to Wintec a credit limit sufficient to cover
our anticipated annual business with Cisco and Cisco’s contract manufacturers.
Given the volume of business that we have with Wintec, we have received from
Wintic irrevocable letters of credit and reliable guarantees to support the
credit limit we have extended to Wintec. In our discretion, we may accept orders
from Wintec that exceed the credit limit based on our analysis of the
collectability of such orders and Wintec’s payment history. Sales through Wintec
accounted for 35% of total revenue in 2008.
In 2008,
2007 and 2006, Cisco, including its contract manufacturers, accounted for 38%,
50% and 61% of our total revenue, respectively. Cisco accounted for a smaller
portion of our total sales in 2008 as we increased our customer diversification.
Notably, Alcatel-Lucent became a 12% customer, by revenue, in 2008. We expect to
continue to further diversify our customer account base in 2009.
Sales,
Marketing and Distribution
Our sales
and marketing strategy is to achieve design wins with leaders and emerging
participants in the networking systems market and to maintain these design wins
primarily through leading-edge products and superior customer service. We focus
our marketing and sales efforts at a high organizational level of our potential
customers to access key decision makers. In addition, as many networking OEMs
design custom integrated circuits to interface to our products, we believe
that applications support at the early stages of design is critical to reducing
time-to-market and minimizing costly redesigns for our customers.
Our
product sales cycles can take up to 24 months to complete, requiring a
significant investment in time, resources and engineering before realization of
income from product sales, if at all. Such long sales cycles mean that OEM
customers’ vendor selections, once made, are normally difficult to change. As a
result, a design loss to the competition can negatively impact our financial
results for several years. Similarly, design wins can result in an extended
period of revenue opportunities with that customer.
We market
and sell our products through our direct sales force and through independent
sales representatives throughout the world. Our direct sales force is dedicated
to enhancing relationships with our customers. We supplement our direct sales
force with independent sales representatives, who have been selected based on
their understanding of the networking systems market and their level of
penetration at our target OEM customers. We also use application engineers to
provide technical support and design assistance to existing and potential
customers.
Our
marketing group is responsible for market and competitive analyses and defining
our product roadmaps and specifications to take advantage of market
opportunities. This group works closely with our research and development group
to align development programs and product launches with our OEM customers’
schedules. Additionally, this group develops and maintains marketing materials,
training programs and our web site to convey our benefits to networking
OEMs.
We
operate in one business segment and sell our products directly to customers in
the United States, Asia and Europe. Sales for the geographic regions reported
below are based upon the customer headquarter locations. Following is a summary
of the geographic information related to revenues for the years ended
December 31, 2008, 2007 and 2006 (in thousands):
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Year
ended December 31,
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2007
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2006
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Revenue:
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United
States
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$ |
46,287 |
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$ |
48,221 |
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$ |
54,952 |
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Malaysia
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42,435 |
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34,017 |
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21,349 |
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China
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30,378 |
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14,126 |
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3,257 |
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Other
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20,827 |
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12,699 |
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2,201 |
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Total
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$ |
139,927 |
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$ |
109,063 |
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$ |
81,759 |
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Research
and Development
We devote
substantial resources to the development of new products, improvement of
existing products and support of the emerging requirements of networking OEMs.
We have assembled a team of product designers possessing
extensive experience in system architecture, analog and digital circuit design,
hardware reference board design, software architecture and driver design and
advanced fabrication process technologies. In 2005 we opened a design center in
Bangalore, India to accelerate introduction of our product development. As of
December 31, 2008, we had approximately 161 full-time employees
engaged in research and development worldwide. Our research and development
expense was $51.6 million, $45.2 million and $36.6 million for the years
ended December 31, 2008, 2007 and 2006, respectively.
We use a
number of standard design tools in the design, manufacture and verification of
our products. Due to the highly complex design requirements of our products, we
typically supplement these standard tools with our own tools to create a
proprietary design method that allows us to optimize the performance of our
products at the circuit-level.
Manufacturing
and Materials
We design
and develop all of our products and electronically transfer our proprietary
designs to third party wafer foundries to manufacture our products. Wafers
processed by these foundries are shipped to our subcontractors, where they are
assembled into finished products and electronically tested before delivery to
our customers. We believe that this manufacturing model significantly reduces
our capital requirements and allows us to focus our resources on the design,
development and marketing of our products.
Our
principal wafer foundry is TSMC in Taiwan. We are actively involved with product
development on next-generation processes, and are designing products on TSMC’s
most advanced logic processes. The latest generation of our products employs up
to eight layers of copper interconnect and 300 millimeter wafer
sizes.
Our
products are designed to use industry standard packages and be tested using
widely available automatic test equipment. We develop and control product test
programs used by our subcontractors based on our product specifications. We
currently rely on Amkor Technology, Inc., Advanced Semiconductor Engineering,
Inc. in Taiwan, King Yuan Electronics Co., Ltd. in Taiwan, ISE Labs, Inc. and
Viko Test Lab in the U.S. to assemble and test our products. We also have an
office in Taiwan that employs local personnel to work directly with our Asian
wafer manufacturers and assembly and test houses to facilitate manufacturing
operations.
We have
designed and implemented an ISO9001-certified quality management system that
provides the framework for continual improvement of our products, processes and
customer service. We apply well-established design rules and practices for CMOS
devices through standard design, layout and test processes. We also rely on
in-depth simulation studies, testing and practical application testing to
validate and verify our products. We emphasize a strong supplier quality
management practice in which our manufacturing suppliers are pre-qualified by
our operations and quality teams. To ensure consistent product quality,
reliability and yield, we closely monitor the production cycle by reviewing
electrical, parametric and manufacturing process data from each of our wafer
foundries and assembly subcontractors.
We
currently do not have long-term supply contracts with any of our significant
third party manufacturing service providers. We generally place purchase orders
with these providers according to terms and conditions of sale which specify
price and 30-day payment terms and which limit the providers’
liability.
The
markets for our products are highly competitive. We believe that the principal
bases of competition are:
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capacity
of the knowledge or signature database that can be
processed;
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advanced
product features allowing OEM and system customer product
differentiation;
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product
availability and reliability;
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customer
support and responsiveness;
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timeliness
of new product introductions; and
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credibility
in designing and manufacturing
products.
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We
believe that we compete favorably on each of the bases identified above.
However, some of our competitors have greater financial resources and a longer
track record as a semiconductor supplier than we do. We anticipate that the
market for our products will be subject to rapid technological change. As we
enter new markets and pursue additional applications for our products, we expect
to face competition from a larger number of competitors. Within our target
market, we primarily compete with certain divisions of Integrated Device
Technology, Inc. and Renesas Technology, Corp. In the Layer 7 market, we
primarily compete with certain divisions of LSI Corporation. In the 10-Gigabit
Ethernet physical layer market, we primarily compete with certain divisions of
Applied Micro Circuits Corporation, Broadcom Corporation, Marvell Technology
Group Ltd., Cortina Systems, Inc. and Vitesse Semiconductor Corporation. We
expect to face competition in the future from our current competitors, other
manufacturers and designers of semiconductors, including large integrated device
manufacturers, and innovative start-up semiconductor design
companies.
Intellectual
Property
Our
success and future growth will depend, in part, on our ability to protect our
intellectual property. We rely primarily on patent, copyright, trademark and
trade secret laws to protect our intellectual property. We also attempt to
protect our trade secrets and other proprietary information through agreements
with our customers, suppliers, employees and consultants and through security
protection of our computer network and physical premises. However, these
measures may not provide meaningful protection for our intellectual property.
While our patents and other intellectual property rights are important, we
believe that our technical expertise and ability to introduce new products in a
timely manner will also be important factors in maintaining our competitive
position.
As of
February 5, 2009, we held 246 issued U.S. patents and
12 issued foreign patents with expiration dates ranging from 2011 to
2027. We also have numerous patent applications pending in the U.S and
abroad. We may not receive any additional patents as a result of these
applications or future applications. Nonetheless, we continue to pursue the
filing of additional patent applications. Any rights granted under any of our
existing or future patents may not provide meaningful protection or any
commercial advantage to us.
Many
participants in the semiconductor industry have a significant number of patents
and have frequently demonstrated a willingness to commence litigation based on
allegations of patent and other intellectual property infringement. From time to
time, we have received, and expect to continue to receive, notices of claims of
infringement or misappropriation of other parties’ proprietary rights. In the
event any such claims result in legal actions, we cannot assure you that we will
prevail in these actions, or that other actions alleging infringement by us of
third party intellectual property rights, misappropriation or misuse by us of
third party trade secrets, or invalidity or unenforceability of our patents will
not be asserted against us or that any assertions of infringement,
misappropriation, misuse, invalidity or unenforceability will not materially and
adversely affect our business, financial condition and results of
operations.
We intend
to protect our rights vigorously, but there can be no assurance that our efforts
will be successful. Thus, despite our precautions, a third party may copy or
otherwise obtain and use our products, services or technology without
authorization, develop similar technology independently or design around our
patents. In addition, effective patent, copyright, trademark and trade secret
protection may be unavailable or limited in certain foreign countries. Moreover,
we often incorporate the intellectual property of third parties into
our designs, which is subject to certain obligations with respect to the
non-use and non-disclosure of such intellectual property. We cannot assure you
that the steps we have taken to prevent infringement, misappropriation or misuse
of our intellectual property or the intellectual property of third parties will
be successful. Furthermore, enforcement of our intellectual property rights may
divert the efforts and attention of our management team and may be costly to
us.
Employees
As of
December 31, 2008, we had 255 full-time employees worldwide, including 161
in research and development, 46 in operations, 27 in sales and
marketing and 21 in general and administrative. None of our employees are
covered by collective bargaining agreements. We believe our relations with our
employees are good.
Available
Information
Our Web
site address is www.netlogicmicro.com. The information in our Web site is not
incorporated by reference into this report. Through a link on the Investor
Relations section of our Web site, we make available our annual report on Form
10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and any
amendments to those reports filed or furnished pursuant to Section 13(a) or
15(d) of the Securities Exchange Act of 1934 as soon as reasonably practicable
after they are filed with, or furnished to, the Securities and Exchange
Commission.
If any of the
following risks actually occur, our business, results of operations and
financial condition could suffer significantly.
We
derive most of our revenue from sales of our knowledge-based processors, and, if
the demand for these products and other products does not grow, we may not
achieve our growth and strategic objectives.
Our
knowledge-based processors are used primarily in networking systems, including
routers, switches, network access equipment and networked storage devices. We
derive a substantial portion of our total revenue from sales of our
knowledge-based processors in the networking market and expect to continue to
derive a substantial portion of our total revenue from this market for the
foreseeable future. We believe our future business and financial success depends
on continued market acceptance and increasing sales of our knowledge-based
processors. In order to meet our growth and strategic objectives, networking
original equipment manufacturers, or OEMs, must continue to incorporate, and
increase the incorporation of, our products into their systems as their
preferred means of enabling network-aware processing of IP packets, and the
demand for their systems must grow as well. We cannot provide assurance that
sales of our knowledge-based processors will increase substantially in the
future or that the demand for our customers’ systems will increase as well. In
addition, a majority of the total increase in our revenue in 2008 came from
sales of TCAM2 and PLP products that we acquired in 2007. Our future revenues
from these products may not increase in accordance with our growth and strategic
objectives if the OEM customers modify their current product designs or select
products sold by our competitors instead. Thus, our future success depends in
large part on factors outside our control, and sales of our knowledge-based
processors and other products may not meet our revenue growth and strategic
objectives. Additionally, due to the high concentration of our sales with a
small number of networking OEMs, we cannot guarantee that the demand for the
systems offered by these customers will increase or that our sales will increase
outside this core customer base, and, accordingly, prior quarterly or
annual results may not be an indication of our future revenue growth or
financial results.
Because
we rely on a small number of customers for a significant portion of our total
revenue, the loss of, or a significant reduction in, orders for our products
from these customers would negatively affect our total revenue and
business.
To date,
we have been dependent upon orders for sales of knowledge-based processors to a
limited number of customers, and, in particular, Cisco, for most of our total
revenue. During the years ended December 31, 2008, 2007 and 2006, Cisco and
its contract manufacturers accounted for 38%, 50% and 61% of our total revenue,
respectively. We expect that our future financial performance will continue to
depend in large part upon our relationship with Cisco and several other
networking OEMs.
We cannot
assure you that existing or potential customers will not develop their own
solutions, purchase competitive products or acquire companies that use
alternative methods in their systems. We do not have long-term purchase
commitments from any of our OEM customers or their contract manufacturers.
Although we entered into master purchase agreements with Cisco, one of Cisco’s
foreign affiliates and a Cisco purchasing agent, these agreements do not include
any long-term purchase commitments. Cisco and our other customers do business
with us currently only on the basis of short-term purchase orders (subject, in
the case of Cisco, to the terms of the master purchase agreements), which often
are cancelable prior to shipment. The loss of orders for our knowledge-based
processors for Cisco products or products of other major users of our
knowledge-based processors would have a significant negative impact on our
business.
We
face additional risks to our business success and financial condition because of
our dependence on a small number of customers for sales of our
products.
Our
dependence on a small number of customers, especially Cisco and its contract
manufacturers, for most of our revenue in the foreseeable future creates
additional risks for our business, including the following:
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we
may face increased pressure to reduce the average selling prices of our
products;
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we
may find it difficult to pass through increases in our manufacturing and
other direct costs;
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the
reputation of our products in the marketplace may be affected adversely if
Cisco or other networking OEMs that represent a significant percentage of
our sales of products reduce or cease their use of our products;
and
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we
may face problems in collecting a substantial portion of our accounts
receivable if any of these companies faces financial difficulties or
dispute payments.
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We
have a history of net losses, may incur significant net losses in the future and
may not be able to sustain profitability.
Although
we reported net income of $3.6 million, $2.6 million and $0.6 million during the
years ended December 31, 2008, 2007 and 2006, we reported net losses in
years prior to fiscal 2005. At December 31, 2008, we had an accumulated
deficit of approximately $76.0 million. To sustain profitability, we will have
to continue to generate greater total revenue and control costs and expenses. We
cannot assure you that we will be able to generate greater total revenue, or
limit our costs and expenses, sufficiently to sustain profitability on a
quarterly or annual basis.
Because
we sell our products on a purchase order basis and rely on estimated forecasts
of our customers’ needs, inaccurate forecasts could adversely affect our
business.
We sell
our products pursuant to individual purchase orders (subject, in the case of
Cisco, to the terms of a master purchase agreement), and not pursuant to
long-term purchase commitments. Therefore, we rely on estimated demand
forecasts, based upon input from our customers, to determine how much product to
manufacture. Because our sales are based on purchase orders, our customers may
cancel, delay or otherwise modify their purchase commitments with little or no
consequence to them and with little or no notice to us. For these reasons, we
generally have limited visibility regarding our customers’ product needs. We
cannot provide assurance as to the quantities or timing required by our
customers for our products. We cannot assure you that we will not experience
subsequent substantial warranty claims or that warranty claims will not result
in cancellation of existing orders or reluctance of customers to place future
orders. In addition, the product design cycle for networking OEMs is
lengthy, and it may be difficult for us to accurately anticipate when they will
commence commercial shipments of products that include our knowledge-based
processors. Whether in response to changes affecting the industry or a
customer’s specific business pressures, any cancellation, delay or other
modification in our customers’ orders could significantly reduce our revenue,
cause our operating results to fluctuate from period to period and make it more
difficult for us to predict our revenue. In the event of a cancellation or
reduction of an order, we may not have enough time to reduce operating expenses
to minimize the effect of the lost revenue on our business, and we may purchase
too much inventory and spend more capital than expected.
We
are dependent on contract manufacturers for a significant portion of our
revenue.
Many of
our OEM customers, including Cisco, use third party contract manufacturers to
manufacture their networking systems. These contract manufacturers represented
41%, 65% and 78% of our total revenue for the year ended December 31, 2008,
2007 and 2006, respectively. Contract manufacturers purchase our products
directly from us on behalf of networking OEMs. Although we work with our OEM
customers in the design and development phases of their systems, these OEM
customers are gradually giving contract manufacturers more authority in product
purchasing decisions. As a result, we depend on a concentrated group of contract
manufacturers for a substantial portion of our revenue. If we cannot compete
effectively for the business of these contract manufacturers or if any of the
contract manufacturers, which work with our OEM customers, experience financial
or other difficulties in their businesses, our revenue and our business could be
adversely affected. In particular, if one of our OEM customer’s contract
manufacturers becomes subject to bankruptcy proceedings, neither we nor our OEM
customer may be able to obtain any of our products held by the contract
manufacturer. In addition, we may not be able to recover any payments owed to us
by the contract manufacturer for products already delivered or recover the
products held in the contract manufacturer’s inventory when the bankruptcy
proceeding is initiated. If we are unable to deliver our products to our OEM
customers in a timely manner, our business would be adversely
affected.
The
average selling prices of our products may decline, which could reduce our
revenue and gross margin.
In our
experience the average selling prices of our products have declined over the
course of their commercial lives, principally due to the supply of competing
products, reduction in demand from customers, pressure from customers to reduce
prices and product cycle changes, we expect these trends to continue. In
addition, under our master purchase agreements with Cisco, we agreed to provide
to Cisco all price decreases that we achieve, and granted to Cisco the right
(under limited circumstances) to purchase our knowledge-based
processors directly from our manufacturers (subject to payments to us, net
of specified costs). Declining average selling prices can adversely affect our
future operating results. To maintain acceptable operating results, we will need
to develop and introduce new products and product enhancements on a timely basis
and continue to reduce our costs. If we are unable to offset any reductions in
our average selling prices by increasing our sales volumes and achieving
corresponding production cost reductions, or if we fail to develop and introduce
new products and enhancements on a timely basis, our revenue and operating
results will suffer.
We
rely on third parties for the manufacture of our products, and a significant
increase in wafer pricing or our failure to secure sufficient capacity could
limit our growth and adversely affect our operating results.
As a
fabless semiconductor company, we rely on third-party wafer foundries to
manufacture our products. We currently do not have long-term supply contracts
with either of our wafer foundries, Taiwan Semiconductor Manufacturing Co.,
Ltd., or TSMC, and United Microelectronics Corporation, or UMC. Neither TSMC nor
UMC is
obligated to perform services or supply products to us for any specific period,
in any specific quantities or at any specific price, except as may be provided
in a particular purchase order. As a result, there are numerous risks associated
with our reliance on these wafer foundries, including the possibilities that
TSMC or UMC may give higher priority to their other customers or that our
relationships with either wafer foundry may deteriorate. We cannot assure you
that TSMC and UMC will continue to provide us with our products at acceptable
yields or in sufficient quantities, for reasonable costs and on a timely
basis to meet our customers’ needs. A failure to ensure the timely fabrication
of our products could cause us to lose customers and could have a material
adverse effect on our operating results.
If either
wafer foundry, and in particular TSMC, ceases to provide us with required
production capacity with respect to our products, we cannot assure you that we
will be able to obtain manufacturing capacity from other wafer foundries on
commercially reasonable terms or that these arrangements, if established, will
result in the successful manufacturing of our products. These arrangements might
require us to share our technology and might be subject to unilateral
termination by the wafer foundries. Even if such capacity is available from
another manufacturer, we would need to convert the production of our integrated
circuits to a new fabrication process and qualify the other manufacturer, which
process could take nine months or longer. Furthermore, we may not be able to
identify or qualify manufacturing sources that would be able to produce wafers
with acceptable manufacturing yields.
We
also rely on third parties for other products and services, including the
assembly, testing and packing of our products, and engineering services, and any
failure by third parties to provide the tools and services we require could
limit our growth and adversely affect our future operating results.
All of
our products are assembled and tested by third-party vendors and require the use
of high performance assembly and test equipment. In addition, in connection with
the design of our products, we use software tools, which we obtain from third
party software vendors, for simulation, layout and other design purposes. Our
reliance on independent assembly, testing, software and other vendors involves a
number of risks, including reduced control over delivery schedules, quality
assurance and costs. We currently do not have long-term supply contracts with
all of these third party vendors. As a result, most of these third party vendors
are not obligated to provide products or perform services to us for any specific
period, in any specific quantities or at any specific price, except as may be
provided in a particular purchase order. The inability of these third party
vendors to deliver high performance products or services of acceptable quality
and in a timely manner, could lengthen our design cycle, result in the loss of
our customers and reduce our revenue.
We also
rely on third party component suppliers to provide custom designed integrated
circuit packages for our products. In some instances, these package designs are
provided by a single supplier. Our reliance on these suppliers involves a number
of risks, including reduced control over delivery schedules, quality assurance
and costs. We currently do not have long-term supply contracts with all of
these package vendors. As a result, most of these third party vendors are not
obligated to provide products or perform services to us for any specific period,
in any specific quantities or at any specific price, except as may be
provided in a particular purchase order. The inability of these third party
vendors to deliver packages of acceptable quality and in a timely manner,
particularly the sole source vendors, could adversely affect our delivery
commitments and adversely affect our operating results or cause them to
fluctuate more than anticipated. Additionally, these packages may require
specialized or high-performance component parts that may not be available in
quantities or in time frames that meet our requirements or the anticipated
requirement of our customers.
In
connection with the design of our products, we have and may license third party
intellectual property, and use third party engineering services. Our reliance on
these third party intellectual property and engineering services providers
involves a number of risks, including reduced control over and quality of the
intellectual property and service deliverables, quality and costs. The inability
of these third party providers to deliver high performance products or services
of acceptable quality and in a timely manner, could lengthen our design cycle,
result in the loss of our customers and reduce our
revenue.
Our
costs may increase substantially if the wafer foundries, assembly and test
vendors that supply and test our products do not achieve satisfactory product
yields, reliability or quality.
The wafer
fabrication process is an extremely complicated process where the slightest
changes in the design, specifications or materials can result in material
decreases in manufacturing yields or even the suspension of production. From
time to time, we and our wafer foundries have experienced, and are likely to
continue to experience manufacturing defects and reduced manufacturing yields
related to errors or problems in our wafer foundries’ manufacturing processes or
the interrelationship of their processes with our designs. In some cases, our
wafer foundries may not be able to detect these defects early in the fabrication
process or determine the cause of such defects in a timely manner, which may
affect the quality or reliability of our products. We may incur substantial
research and development expense for prototype or development stage products as
we qualify the products for production.
Generally,
in pricing our products, we assume that manufacturing, assembly and test yields
will continue to increase, even as the complexity of our products increases.
Once our products are initially qualified with our wafer foundries, minimum
acceptable yields are established. We are responsible for the costs of the
wafers if the actual yield is above the minimum. If actual yields are below the
minimum, we are not required to purchase the wafers. The minimum acceptable
yields for our new products are generally lower at first and increase as we
achieve full production. Whether as a result of a design defect or
manufacturing, assembly or test error, unacceptably low product yields or other
product manufacturing, assembly or test problems could substantially increase
the overall production time and costs and adversely impact our operating results
on sales of our products. Product yield losses will increase our costs and
reduce our gross margin. In addition to significantly harming our operating
results and cash flow, poor yields may delay shipment of our products and
harm our relationships with existing and potential customers.
To
be successful we must continue to develop and have manufactured for us,
innovative products to meet the evolving requirements of networking
OEMs.
To remain
competitive, we devote substantial resources to research and development, both
to improve our existing technology and to develop new technology. We also seek
to improve the manufacturing processes for our products, including the use of
smaller process geometries, which we believe is important for our products to
serve our OEM customers’ requirements for enhanced processing. Our failure to
migrate our products to logic processes at smaller process geometries could
substantially reduce the future competitiveness of our products. In addition,
from time to time, we may have to redesign some of our products or modify the
manufacturing process for them. We cannot give you any assurance that we will be
able to improve our existing technology or develop and integrate new technology
into our products. Even if we design better products, we may encounter problems
during the manufacturing or assembly process, including reduced manufacturing
yields, production delays and increased expenses, all of which could adversely
affect our business and results of operations.
In
addition, given the highly complex nature of these products, even the slightest
change or adjustment to our integrated circuit designs could require substantial
resources to implement them. We may not be able to make these changes or
adjustments to our products or correct any errors or defects arising from their
implementation. Failure to make these changes or adjustments or correct these
errors or defects during the product development stages, or any resulting
delays, could severely harm our existing and potential customer relationships
and could likely increase our development costs, adversely affecting our
operating results. If these changes, adjustments, errors or defects are not
identified or requested until after commercial production has begun or after
products have been delivered to customers, we may be required to re-test
existing inventory, replace products already shipped or re-design the products,
all of which would likely result in significant time delays and additional costs
and expenses.
We
have sustained substantial losses from low production yields in the past and may
incur such losses in the future.
Designing
and manufacturing integrated circuits is a difficult, complex and costly
process. Once research and development has been completed and the foundry begins
to produce commercial volumes of the new integrated circuit, products still may
contain errors or defects that could adversely affect product quality and
reliability. We have experienced low yields and have incurred substantial
research and development expenses in the design and initial production phases of
all of our legacy network search engine products and knowledge-based processors.
We cannot assure you that we will not experience low yields, substantial
research and development expenses, product quality, reliability or design
problems, or other material problems with our products that we have shipped or
may ship in the future.
If
we fail to retain key personnel and hire additional personnel, our business and
growth could be negatively affected.
Our
business has been dependent to a significant degree upon the services of a small
number of executive officers and technical employees. We generally do not have
non-competition agreements or term employment agreements with any of our
executive officers, whom we generally employ at will. We do not maintain key-man
life insurance on the lives of any of our key personnel. The loss of any of
these individuals could negatively impact our technology development efforts and
our ability to service our existing customers and obtain new
customers.
Our
future growth will also depend, in part, upon our ability to recruit and retain
other qualified managers, engineers and sales and marketing personnel. There is
intense competition for these individuals in our industry, and we cannot assure
you that we will be successful in recruiting and retaining these individuals. If
we are unable to recruit and retain these individuals, our technology
development and sales and marketing efforts could be negatively
impacted.
If
we fail to maintain competitive equity compensation packages for our employees,
or if our stock price declines materially for a protracted period of time, we
might have difficulty retaining our employees and our business may be
harmed.
In
today’s competitive technology industry, employment decisions of highly skilled
personnel are influenced by equity compensation packages, which offer incentives
above traditional compensation only where there is a consistent, long-term
upward trend over time of a company’s stock price. If our stock price declines
due to market conditions, investors’ perceptions of the technology industry or
managerial or performance problems we have, our equity compensation incentives,
especially stock options may lose value to key employees, and we may lose these
employees or be forced to grant additional options to retain them. This in turn
could result in:
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immediate
and substantial dilution to investors resulting from the grant of
additional equity awards necessary to retain employees;
and
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potential
compensation charges against the company, which could negatively impact
our operating results.
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A
failure to successfully address the potential difficulties associated with
international business could reduce our growth, increase our operating costs and
negatively impact our business.
We
conduct a significant amount of our business with companies that operate
primarily outside of the United States, and intend to increase sales to
companies operating outside of the United States. For example, our customers
based outside the United States accounted for 67%, 56% and 52% of our total
revenue during the years ended December 31, 2008, 2007 and 2006. Not
only are many of our customers located abroad, but our two wafer foundries are
based in Taiwan, and we outsource the assembly and some of the testing of our
products to companies
based in Taiwan and Hong Kong. We face a variety of challenges in doing business
internationally, including:
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foreign
currency exchange fluctuations;
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unanticipated
changes in local regulations;
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potentially
adverse tax consequences, such as withholding
taxes;
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timing
and availability of export and import
licenses;
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political
and economic instability;
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reduced
or limited protection of our intellectual
property;
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protectionist
laws and business practices that favor local competition;
and
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additional
financial risks, such as potentially longer and more difficult collection
periods.
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Because
we anticipate that we will continue to rely heavily on foreign based customers
for our future growth, the occurrence of any of the circumstances identified
above could significantly increase our operating costs, delay the timing of our
revenue and harm our business and financial condition.
We
must design our products to meet the needs of our OEM customers and convince
them to use our products, or our revenue will be adversely
affected.
In
general, our OEM customers design our products into their equipment during the
early stages of their development after an in-depth technical evaluation of both
our and our competitors’ products. These design wins are critical to the success
of our business. In competing for design wins, if a competitor’s product is
already designed into the product offering of a potential customer, it becomes
very difficult for us to sell our products to that customer. Changing suppliers
involves additional cost, time, effort and risk for the customer. In addition,
our products must comply with the continually evolving specifications of
networking OEMs. Our ability to compete in the future will depend, in large
part, on our ability to comply with these specifications. As a result, we expect
to invest significant time and effort and to incur significant expense to design
our products to ensure compliance with relevant specifications. Even if a
networking OEM designs our products into its systems, we cannot assure you that
its systems will be commercially successful or that we will receive significant
revenue from sales our products for those systems.
Factors
that negatively affect the businesses of the networking OEMs that use or could
use our products could negatively impact our total revenue.
The
timing and amount of our revenue depend on the ability of the networking OEMs
who use our knowledge-based processors to market, produce and ship systems
incorporating our technology. Factors that negatively affect a significant
customer or group of customers could negatively affect our results of operations
and financial condition. Many issues beyond our control influence the success of
the networking OEMs that use our products, including, for example, the highly
competitive environment in which they operate, the strength of the markets for
their products, their engineering capabilities, their ability or inability to
obtain other components from other suppliers, the compatibility of any of their
other components with our products, the impact of the worldwide recession on
their capital spending and sales of their networking equipment, and their
financial and other resources. Likewise, we have no control over their product
development or pricing strategies, which directly affect sales of their products
and, in turn, our revenue and the current worldwide recession is likely to
reduce our year over year total revenue in at least the first half of fiscal
2009 as our customers in Japan and the markets for high-end enterprise, cable
and datacenter equipment have reduced their capital expenditures. A decline in
sales of our OEM customers’ systems that use our knowledge-based processors
would reduce our revenue. In addition, seasonal and other fluctuations in demand
for their products could cause our operating results to fluctuate, which could
cause our stock price to fall.
We
have a lengthy sales cycle, which may result in significant expenses that do not
generate significant revenue or delayed revenue generation from our selling
efforts and limits our ability to forecast our revenue.
We expect
that our product sales cycle, which results in our products being designed into
our customers’ products, could take up to 24 months. It can take an additional
nine months to reach volume production of these products. A number of factors
can contribute to the length of the sales cycle, including technical evaluations
of our products by networking OEMs, the design process required to integrate our
products into our OEM customers’ products and the timing of networking OEMs’ new
product announcements. In anticipation of product orders, we may incur
substantial costs before the sales cycle is complete and before we receive any
customer payments. As a result, in the event that a sale is not completed or is
cancelled or delayed, we may have incurred substantial expenses, making it more
difficult for us to become profitable or otherwise negatively impacting our
financial results. Furthermore, because of our lengthy sales cycle, our receipt
of revenue from our selling efforts may be substantially delayed, our ability to
forecast our future revenue may be more limited and our revenue may fluctuate
significantly from quarter to quarter.
Our
operating results could be adversely affected if we have to satisfy product
warranty or liability claims.
If our
products are defective or malfunction, we could be subject to product warranty
or product liability claims that could have significant related warranty charges
or warranty reserves in our financial statements. Further, we may spend
significant resources investigating potential product design, quality and
reliability claims, which could result in additional charges in our financial
statements until such claims are resolved. We cannot guarantee that warranty
reserves will either increase or decrease in future periods. Further, in
connection with the master purchase agreements that we entered into with Cisco
in 2005, we agreed to extended product warranties for the benefit of Cisco.
Specifically, we agreed to general three-year warranties and, in the case of
epidemic failures, to five-year warranties. In addition, under the Cisco
agreements, we have agreed to indemnify Cisco for costs incurred in rectifying
epidemic failures, up to the greater of (on a per claim basis) 25% of all
amounts paid to us by Cisco during the preceding 12 months (approximately, $13.2
million at December 31, 2008) or $9.0 million, plus replacement costs. If we are
required to make payments under this indemnity, our operating results may be
adversely affected. Moreover, these claims in the future, regardless of their
outcome, could adversely affect our business.
Our
revenue and operating results may fluctuate significantly from period to period,
on a quarterly or annual basis, causing volatility in our stock
price.
Our total
revenue and operating results have fluctuated from quarter to quarter in the
past and are expected to continue to do so in the future. As a result, you
should not rely on quarter-to-quarter comparisons of our operating results as an
indication of our future performance. Fluctuations in our total revenue and
operating results could negatively affect the trading price of our stock. In
addition, our total revenue and results of operations may, in the future, be
below the expectations of analysts and investors, which could cause our stock
price to decline. Factors that are likely to cause our revenue and operating
results to fluctuate include, for example, the periodic costs associated with
the generation of mask sets for new products and product improvements and the
risk factors discussed throughout this section. Additional factors that could
cause our revenue and operating results to fluctuate from period to period
include:
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the
timing and volume of orders received from our
customers;
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market
demand for, and changes in the average selling prices of, our
products;
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the
rate of qualification and adoption of our products by networking
OEMs;
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fluctuating
demand for, and lengthy life cycles of, the products and systems that
incorporate our products;
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the
market success of the OEMs’ networking systems that incorporate our
products;
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the
ability of our wafer foundries to supply us with production capacity and
finished products to sell to our OEM
customers;
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changes
in the level of our costs and operating
expenses;
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our
ability to receive our manufactured products from our wafer foundries and
ship them within a particular reporting
period;
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deferrals
or cancellations of customer orders in anticipation of the development and
commercialization of new technologies or for other
reasons;
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changes
in our product lines and revenue
mix;
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the
timing of the introduction by others of competing, replacement or
substitute products technologies;
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our
ability or the ability of networking OEM customers that use our products
to procure required components or fluctuations in the cost of such
components;
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our
ability to enforce our intellectual property rights or to defend claims
that we infringe the intellectual property rights of others, and the
significant costs to us of related
litigation;
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cyclical
fluctuations in semiconductor or networking markets;
and
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general
economic conditions that may affect end-user demand for products that use
our products.
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We
have grown rapidly, and a failure to manage any continued growth could reduce
our potential revenue and could negatively impact our future operating
results.
In order
to successfully implement our overall growth strategies, we will need to
carefully and efficiently manage our planned expansion. Among other things, this
will require us to continue to:
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improve
our products technology and develop new
technologies;
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implement
and manage new marketing and distribution channels to penetrate different
and broader markets for our
products;
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manage
an increasing number of complex relationships with our customers, wafer
foundries and other third parties;
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monitor
and improve our operating systems, procedures and financial controls on a
timely basis;
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retain
existing, and hire additional, key management and technical personnel;
and
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expand,
train and manage our workforce and, in particular, our development, sales,
marketing and support
organizations.
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We may
not be able to adequately manage our growth or meet the foregoing objectives. A
failure to do so could jeopardize our future revenue and cause our stock price
to decline. Also, our ability to execute our business plan and grow our business
will be heavily dependent on our management team’s ability to work effectively
together.
We
have recently implemented a new enterprise resource planning system, which could
disrupt our ability to timely and accurately process transactions, report our
financial position, and complete evaluation of our internal
controls.
We may
experience difficulties with our new enterprise resource planning (“ERP”) system
implemented as of January 2008 that could disrupt our ability to timely and
accurately process and report key components of the results of our consolidated
operations, our financial position and cash flows. Any disruptions or
difficulties that may occur in connection with this new ERP system or any future
systems also could adversely affect our ability to maintain effective
internal control over financial reporting and to complete the evaluation of our
internal controls and pursuant to Section 404 of the Sarbanes-Oxley Act of
2002, resulting in delayed reporting of material financial information and
filing of required reports with the SEC. In addition, system failure or
malfunctioning may result in disruption of operations and the inability to
process transactions and could adversely affect our financial results. Any
of these events could cause our operating results to be misstated, our
reputation to be harmed and the trading price of our common stock to be
adversely affected.
The
cyclical nature of the semiconductor industry and the networking markets could
adversely affect our operating results and our business.
We expect
our business to be subject to the cyclicality of the semiconductor industry,
especially the market for communications integrated circuits. Historically,
there have been significant downturns in this industry segment, characterized by
reduced demand for integrated circuits and accelerated erosion of average
selling prices. At times, these downturns have lasted for prolonged periods of
time. Furthermore, from time to time, the semiconductor industry also has
experienced periods of increased demand and production constraints, in which
event we may not be able to have our products produced in sufficient quantities,
if at all, to satisfy our customers’ needs. It is likely that the communications
integrated circuit business will experience similar downturns in the future and
that, during such times, our business could be affected adversely. It is also
likely that the semiconductor industry will experience periods of strong demand.
We may have difficulty in obtaining enough products to sell to our
customers or may face substantial increases in the wafer prices charged by our
foundries.
In
addition, the networking industry from time to time has experienced and may
experience a pronounced downturn. To respond to a downturn, many networking
service providers may be required to slow their research and development
activities, cancel or delay new product developments, reduce their workforces
and inventories and take a cautious approach to acquiring new equipment and
technologies from networking OEMs, which would have a significant negative
impact on our business. In the future, a downturn in the networking industry may
cause our operating results to fluctuate significantly from year to year, which
also may tend to increase the volatility of the price of our common stock. For
example, the worldwide recession that commenced in fiscal 2008 has reduced
capital spending and sales of some of our larger customers, particularly those
customers in Japan and those that sell high-end enterprise, cable and datacenter
equipment, which reduced our quarter-over-quarter revenues in the fourth fiscal
quarter of 2008 and is likely to reduce our year-over-year total
revenue in at least the first half of fiscal 2009.
We
may not be able to protect and enforce our intellectual property rights, which
could impair our ability to compete and reduce the value of our
technology.
Our
success and future revenue growth depend, in part, on our ability to protect our
intellectual property. We rely primarily on patent, copyright, trademark and
trade secret laws, as well as confidentiality procedures, to protect our
proprietary technologies and processes. However, these measures may not provide
meaningful protection for our intellectual property.
We cannot
assure you that any patents will issue from any of our pending applications. Any
rights granted under any of our existing or future patents may not provide
meaningful protection or any commercial advantage to us. For example, such
patents could be challenged or circumvented by our competitors or declared
invalid or unenforceable in judicial or administrative proceedings. The failure
of any patents to adequately protect our technology would make it easier for our
competitors to offer similar products. We do not have foreign patents or pending
applications corresponding to many of our U.S. patents and patent applications,
including in some foreign countries where our products are sold or may be sold
in the future. Even if foreign patents are granted, effective enforcement
in foreign countries may not be available.
With
respect to our other proprietary rights, it may be possible for third parties to
copy or otherwise obtain and use our proprietary technology or marks without
authorization or to develop similar technology independently. Monitoring
unauthorized use of our proprietary technology or marks is difficult and costly,
and we cannot be certain that the steps we have taken will prevent
misappropriation or unauthorized use of our technology or marks. In addition,
effective patent, copyright, trademark and trade secret protection may not be
available or may be limited in certain foreign countries. Many companies based
in the U.S. have encountered substantial
infringement problems in foreign countries, including countries in which we sell
products. Our failure to effectively protect our intellectual property could
reduce the value of our technology and could harm our business, financial
condition and operating results.
Furthermore,
we have in the past and may in the future initiate claims or litigation against
third parties to determine the validity and scope of proprietary rights of
others. In addition, we may in the future initiate litigation to enforce our
intellectual property rights or the rights of our customers or to protect
our trade secrets. Litigation by us could result in significant expense and
divert the efforts of our technical and management personnel and could
materially and adversely affect our business, whether or not such litigation
results in a determination favorable to us.
Any
claim that our products or our proprietary technology infringe third party
intellectual property rights could increase our costs of operation and distract
management and could result in expensive settlement costs.
The
semiconductor industry is characterized by vigorous protection and pursuit of
intellectual property rights or positions, which have resulted in often
protracted and expensive litigation. From time to time, we are involved in
litigation relating to intellectual property rights. In addition, we have
received notices from time to time that claim we have infringed upon or
misappropriated intellectual property rights owned by others. We typically
respond when appropriate and as advised by legal counsel. We cannot assure you
that parties will not pursue litigation with respect to those allegations. We
may, in the future, receive similar notices, any of which could lead to
litigation against us. For example, parties may initiate litigation based
on allegations that we have infringed their intellectual property rights or
misappropriated or misused their trade secrets or may seek to invalidate or
otherwise render unenforceable one or more of our patents. Litigation against us
can result in significant expense and divert the efforts of our management,
technical, marketing and other personnel, whether or not the litigation results
in a determination adverse to us. We cannot assure you that we will be able to
prevail or settle any such claims or that we will be able to do so at a
reasonable cost. In the event of an adverse result in any such litigation, we
could be required to pay substantial damages for past infringement and royalties
for any future use of the technology. In addition, we may be required to cease
the sale of certain products, recall certain products from the market, redesign
certain products offered for sale or under development or cease the use of
certain marks or names. We cannot assure you that we will be able to
successfully redesign our products or do so at a reasonable cost. Additionally,
we have in the past sought and may in the future seek to obtain a license to a
third party’s intellectual rights and have granted and may in the future grant a
license to certain of our intellectual property rights to a third party in
connection with a cross-license agreement or a settlement of claims or actions
asserted against us. However, we cannot assure you that we would be able to
obtain a license on commercially reasonable terms, or at all.
Our
customers could also become the target of litigation relating to the patent and
other intellectual property rights of others. This could trigger technical
support and indemnification obligations in some of our license or customer
agreements. These obligations could result in substantial expenses, including
the payment by us of costs and damages related to claims of patent infringement.
In addition to the time and expense required for us to provide support or
indemnification to our customers, any such litigation could disrupt the
businesses of our customers, which in turn could hurt our relations with our
customers and cause the sale of our products to decrease. We cannot assure you
that claims for indemnification will not be made or that if made, such claims
would not have a material adverse effect on our business, operating results or
financial condition. We do not have any insurance coverage for intellectual
property infringement claims for which we may be obligated to provide
indemnification. If we are obligated to pay damages in excess of, or otherwise
outside of, our insurance coverage, or if we have to settle these claims, our
operating results could be adversely affected.
If
we are unable to compete effectively, our revenue and market share may be
reduced.
Our
business is extremely competitive, especially during the design-in phase of
networking OEMs’ design cycles. We compete with the enterprise and networking
divisions of large semiconductor manufacturers, many of which have more
established reputations, more diverse customer bases and greater financial and
other resources than we do. In addition, our OEM customers may design their own
integrated circuits to address their needs for network-aware processing. As we
develop new applications for our products and expand into new markets, we
expect to face even greater competition. Our present and future competitors may
be able to better anticipate customer and industry demands and to respond more
quickly and efficiently to those demands, such as with product offerings,
financial discounts or other incentives. Furthermore, our OEM customers may be
able develop or acquire integrated circuits that satisfy their needs faster or
most cost effectively than we can. We cannot assure you that we will be able to
compete effectively against these and our other competitors. If we do not
compete effectively, our revenue and market share may decline.
Any
acquisitions we make could disrupt our business, and harm our financial
condition and dilute our stockholders.
In the
future, we may consider opportunities to acquire other businesses or
technologies that would complement our current offerings, expand the breadth of
our markets or enhance our technical capabilities. Acquisitions present a
significant number of potential challenges that could, if not met, disrupt our
business operations, increase our operating costs, reduce the value to us of the
acquired company or business, including:
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integration
of the acquired employees, operations, technologies and products with our
existing business and products;
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focusing
management’s time and attention on our existing core
business;
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retention
of business relationships with suppliers and customers of the acquired
company;
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entering
markets in which we may lack prior
experience;
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retention
of key employees of the acquired company or
business;
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amortization
of intangible assets, write-offs, stock-based compensation and other
charges relating to the acquired business and our acquisition costs;
and
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dilution
to our existing stockholders from the issuance of additional shares of
common stock or reduction of earnings per outstanding share in connection
with an acquisition that fails to increase the value of our
company.
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We cannot
provide assurances, however, that this acquisition or future acquisitions that
we might make will achieve our business objectives or increase our value or the
price of our common stock.
Our
success may depend on our ability to comply with new or evolving industry
standards applicable to our products or our business.
Our
ability to compete in the future may depend on our ability to ensure that our
products comply with evolving industry standards affecting the networking
equipment and other markets in which we compete. In addition, from time to time,
new industry standards may emerge which could render our products incompatible
with the products of our customers or suppliers. In order to ensure compliance
with the relevant standards, we may be required to devote significant time,
capital and other resources to modify or redesign our existing products or to
develop new products. We cannot assure you that we will be able to develop
products which comply with prevailing standards. If we are unable to develop
these products in a timely manner, we may miss significant business
opportunities, and our revenue and operating results could suffer.
If
an earthquake or other natural disaster disrupts the operations of our third
party wafer foundries or other vendors located in high risk regions, we could
experience significant delays in the production or shipment of our
products.
TSMC and
UMC, which manufacture our products, along with most of our vendors who handle
the assembly and testing of our products, are located in Asia. The risk of an
earthquake in the Pacific Rim region is significant due to the proximity of
major earthquake fault lines. In September 1999, a major earthquake in Taiwan
affected the facilities of several of these third party vendors, as well as
other providers of these services. As a result of this earthquake, these vendors
suffered power outages and disruptions that impaired their production capacity.
In March 2002 and September 2003, additional earthquakes occurred in Taiwan. The
occurrence of additional earthquakes or other natural disasters could result in
the disruption of the wafer foundry or assembly and test capacity of the third
parties that supply these services to us. We may not be able to obtain alternate
capacity on favorable terms, if at all.
Our
stock price could drop, and there could be significantly less trading activity
in our stock, if securities or industry analysts downgrade our stock or do not
publish research or reports about our business.
Our stock
price and the trading market for our stock are likely to be affected
significantly by the research and reports concerning our company and our
business which are published by industry and securities analysts. We do not have
any influence or control over these analysts, their reports or their
recommendations. Our stock price and the trading market for our stock could be
negatively affected if any analyst downgrades our stock, publishes a report
which is critical of our business, or discontinues coverage of us.
Our
common stock has experienced substantial price volatility.
Our
common stock has experienced substantial price volatility. Such volatility may
occur in the future, particularly because of quarter-to-quarter variations in
our actual or anticipated financial results, or the reported financial results
of other semiconductor companies or our customers. Stock price volatility may
also result from product announcements by us or our competitors, or from changes
in perceptions about the various types of products we manufacture and sell.
In addition, our stock price may fluctuate due to price and volume fluctuations
in the stock market, especially in the technology sector.
A
limited number of stockholders will have the ability to influence the outcome of
director elections and other matters requiring stockholder
approval.
Our
executive officers, directors and entities affiliated with them will, in the
aggregate, beneficially own a significant portion of our outstanding common
stock. These stockholders acting together will have the ability to exert
substantial influence over all matters requiring the approval of our
stockholders, including the election and removal of directors and any proposed
acquisition, consolidation or sale of all or substantially all of our assets. In
addition, they could dictate the management of our business and affairs. This
concentration of ownership could have the effect of delaying, deferring or
preventing a change in control, or impeding an acquisition, consolidation,
takeover or other business combination, which might otherwise involve the
payment of a premium for your shares of our common stock.
Provisions
of our certificate of incorporation and bylaws, Delaware law and customer
agreements might delay or prevent a change of control transaction and depress
the market price of our stock.
Various
provisions of our certificate of incorporation and bylaws might have the effect
of making it more difficult for a third party to acquire, or discouraging a
third party from attempting to acquire, control of us. These provisions could
limit the price that certain investors might be willing to pay in the future for
shares of our common stock. Certain of these provisions eliminate cumulative
voting in the election of directors, limit the right of stockholders to call
special meetings and establish specific procedures for director nominations by
stockholders and the submission of other proposals for consideration at
stockholder meetings.
We are
also subject to provisions of Delaware law which could delay or make more
difficult a merger, tender offer or proxy contest involving us. In particular,
Section 203 of the Delaware General Corporation Law prohibits a Delaware
corporation from engaging in any business combination with any interested
stockholder for a period of three years unless specific conditions are met.
Any of these provisions could have the effect of delaying, deferring or
preventing a change in control, including, without limitation, discouraging a
proxy contest or making more difficult the acquisition of a substantial
block of our common stock.
Our board
of directors might issue up to 50,000,000 shares of preferred stock without
stockholder approval on such terms as the board might determine. The rights of
the holders of common stock will be subject to, and might be adversely affected
by, the rights of the holders of any preferred stock that might be issued in the
future.
Under our
master purchase agreements with Cisco, in the event of, among other things, the
transfer of at least 50% of our voting control to a Cisco competitor that
generates less than 50% of its annual sales from integrated circuit products,
Cisco may exercise rights to purchase our knowledge-based processors directly
from our manufacturers, subject to payments to us. This provision may discourage
or complicate attempts by some third parties to acquire us.
The
price of our stock could decrease as a result of shares being sold in the
market, including sales by directors, officers and other significant
stockholders.
Sales of
a substantial number of shares of common stock in the public market could
adversely affect the prevailing market price of our common stock from time to
time. Substantially all the shares of our common stock currently outstanding are
eligible for sale in the public market but sales by our affiliates will be
subject to conditions of Rule 144 (other than holding period requirements)
including the volume restrictions set forth in SEC Rule 144(e). As of February
5, 2009, several of our executive officers and one board member have entered
into plans for selling a portion of their shares of common stock in the manner
described under Rule 10b5-1 of the Securities Exchange Act of 1934. Each plan is
non-discretionary and is administered by an independent brokerage firm. Their
individual plans provide for total sales of between 8,600 and 200,000
shares per plan pursuant to limit orders at specified prices, with total
potential sales by all of these plans amounting to 440,000 shares of common
stock combined during 2009. Sales of the shares are further subject to the
volume restrictions set forth in SEC Rule 144(e). Each plan provides for
termination upon the completion of the specified trading program, the
instruction of the stockholder, or the occurrence of other specified events,
whichever is earliest. All of the shares will be sold through broker-dealers in
ordinary market transactions. Pre-designated trading under these plans may cause
unexpected declines in the market price of our common stock. In addition,
subject to compliance with applicable securities laws, each of these
executive officers may sell shares of common stock outside of these
plans.
Our
stockholder rights plan could prevent stockholders from receiving a premium over
the market price for their shares from a potential acquirer.
We
adopted a stockholder rights plan that generally entitles our stockholders to
rights to acquire additional shares of our common stock when a third party
acquires 15.0% of our common stock or commences or announces its intent to
commence a tender offer for at least 15.0% of our common stock, other than for
certain stockholders that were stockholders prior to our initial public offering
as to whom this threshold is 20.0%. This plan could delay, deter or prevent an
investor from acquiring us in a transaction that could otherwise result in
stockholders receiving a premium over the market price for their shares of
common stock.
We
may need to obtain financing in order to fund our growth strategy.
We
believe that we have or will have access to capital sufficient to satisfy our
working capital requirements for at least the next 12 months. After that time,
it may be necessary for us to raise additional funds to support our growth. We
cannot assure you that we will be able to obtain financing when needed or that,
if available to us, the terms
will be acceptable to us. If we issue equity securities in any financing, the
new securities may have rights and preferences senior to our shares of common
stock, and the ownership interest in us of our current stockholders will be
proportionately reduced. If we issued debt securities, they will rank senior to
all equity securities. If we are unable to raise additional capital, we may not
be able to implement our growth strategy, and our business could be harmed
significantly. Our future capital requirements will depend on many factors,
including the amount of revenue we generate, the timing and extent of spending
to support product development efforts, the expansion of sales and marketing
activities, the timing of introductions of new products, the costs to ensure
access to adequate manufacturing capacity, and the continuing market acceptance
of our products, and any future business acquisitions that we might undertake.
However, if we do not meet our plan, we could be required, or might elect, to
seek additional funding through public or private equity or debt financing and
additional funds may not be available on terms acceptable to us or at all. We
also might decide to raise additional capital at such times and upon such
terms as management considers favorable and in the interests of the Company. For
this purpose, we have a current effective universal shelf registration statement
on Form S-3 under which we may sell up to $150 million of our debt and/or equity
securities (before reductions for expenses, underwriting discounts and
commissions), which may result in an increase in the number of shares and
decline in earnings per share. We may sell these securities from time-to-time
without prior announcement.
If
the recent credit market conditions worsen, it could have a material impact on
our investment portfolio.
Although
we manage our investment portfolio by purchasing only highly rated securities
and diversifying our investments across various money market funds, investment
types, and underlying issuers, recent volatility in the short-term financial
markets has been unprecedented. In addition, the current credit and
liquidity crisis has substantially reduced both the liquidity and asset
transparency for many funds holding investment securities. Further
deterioration, in the financial condition of the funds in which we have invested
or of the issuers whose paper we have purchased remains possible. If
such deterioration occurs, the value of our investments could be materially
adversely affected.
EXECUTIVE
OFFICERS OF THE REGISTRANT
The
following table provides the names, ages and offices of each of our executive
officers as of February 13, 2009:
Title
|
|
Age
|
|
Position
|
Ronald
Jankov
|
|
50
|
|
Director,
Chief Executive Officer and President
|
Michael
Tate
|
|
43
|
|
Vice
President and Chief Financial Officer
|
Dimitrios
Dimitrelis
|
|
51
|
|
Vice
President of Engineering
|
Ibrahim
Korgav
|
|
60
|
|
Senior
Vice President of Worldwide Buiness Operations
|
Mozfar
Maghsoudnia
|
|
42
|
|
Vice
President of Worldwide Manufacturing
|
Varadarajan
Sirnivasan
|
|
58
|
|
Vice
President of Product Development and Chief Technical
Officer
|
Marcia
Zander
|
|
46
|
|
Senior
Vice President of Worldwide Sales
|
Chris
O'Reilly
|
|
36
|
|
Vice
President of Marketing
|
Roland
Cortes
|
|
44
|
|
Vice
President, General Counsel and
Secretary
|
Ronald Jankov has served as
our President, Chief Executive Officer and as a member of our board of directors
since April 2000.
Michael Tate has served as
our Vice President of Finance and Chief Financial Officer since July 2007. Prior
to joining us, Mr. Tate was interim chief financial officer, vice
president, corporate controller, and treasurer at Marvell Technology Group
Ltd. He joined Marvell in January 2001 as part of
Marvell’s acquisition of Galileo Technology Ltd.
Dimitrios Dimitrelis has
served as our Vice President of Engineering since July 2002. From July 1999 to
March 2002, Mr. Dimitrelis was Director of Engineering for Vitesse
Semiconductor Corp., a communications integrated circuit company, where he was
primarily responsible for the development of a 10G network
processor.
Ibrahim Korgav has served as
our Senior Vice President of Worldwide Business Operations since January 2007
and as our Senior Vice President of Manufacturing and Business Operations from
March 2002 to January 2007.
Mozafar Maghsoudnia has served as our Vice
President of Worldwide Manufacturing since January 2007, as Vice President of
Manufacturing since August 2006, and Director of Technology since June 2003.
From June 1988 to June 2003, Mr. Maghsoudnia was employed by Analog
Devices, Inc., where he was responsible for wafer fabrication and technology in
his last assignment.
Varadarajan Srinivasan has
served as our Vice President of Product Development since March 1996, as our
Chief Technical Officer since August 2000.
Marcia Zander has served as our
Senior Vice President of Worldwide Sales since January 2006 and Vice President
of Sales since July 1999.
Chris O’Reilly has served as our Vice
President of Marketing since August 2007. Prior to August 2007,
Mr. O’Reilly served as our senior director of marketing, director of sales
for the Asia Pacific region and senior marketing manager since
1999.
Roland Cortes has served as
our Vice President, General Counsel and Secretary since April 2007. Prior to
April 2007, Mr. Cortes served as our Secretary since May 2004, as our
Senior Director of Legal Affairs and IP Management since July 2002, and as our
Director of Legal Affairs and IP Management since April 1999.
|
UNRESOLVED
STAFF COMMENTS.
|
Not
applicable.
Our main
executive, administrative and technical offices occupy approximately 42,000
square feet in Mountain View, California, under a lease that expires in July
2011. We also lease approximately 7,500 square feet in Bangalore, India
under a lease that expires in February 2012, and approximately 2,000 square feet
in Mumbai, India under a lease that expires in August 2010. We believe that
these facilities are adequate for our current needs and that suitable additional
or substitute space will be available as needed to accommodate foreseeable
expansion of our operations.
We are
not involved in any legal proceedings that management believes will have a
material adverse effect our business, results of operations, financial position
or cash flows.
|
SUBMISSION
OF MATTERS TO A VOTE OF SECURITY
HOLDERS.
|
Not
applicable.
|
MARKET
FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER
PURCHASES OF EQUITY SECURITIES
|
Market
Information for Common Stock
Our
common stock is traded on the Global Select Market of the NASDAQ Stock Market
under the symbol “NETL”. The following table sets forth, for the periods
indicated, the intra-day high and low per share sale prices of our common stock,
as reported on the Global Select Market.
|
Price
Range Per Share
|
|
High
|
Low
|
Fiscal
2008
|
|
Fourth
quarter
|
$30.45
|
$14.42
|
Third
quarter
|
$39.10
|
$26.98
|
Second
quarter
|
$40.26
|
$23.44
|
First
quarter
|
$32.90
|
$20.15
|
|
|
|
Fiscal
2007
|
|
Fourth
quarter
|
$38.69
|
$27.46
|
Third
quarter
|
$37.25
|
$26.76
|
Second
quarter
|
$35.17
|
$26.08
|
First
quarter
|
$28.61
|
$20.00
|
Holders
As of
January 31,2009, there were approximately 117 holders of record (not
including beneficial holders of stock held in street names) of our common
stock.
Dividend
Policy
We have
not declared or paid cash dividends on our common stock and do not anticipate
paying any cash dividends in the foreseeable future. We expect to retain future
earnings, if any, to fund the development and growth of our business. Our board
of directors will determine future dividends, if any.
Securities
Authorized for Issuance Under Equity Compensation Plans
See
Item 12 of Part III of this Report regarding information about securities
authorized for issuance under our equity compensation plans.
Performance
Graph
The
following graph shows the 54 month cumulative total stockholder return (change
in stock price plus reinvested dividends) assuming the investment of $100 on
July 9, 2004 (the day of the Company’s initial public offering) in each of
the Company’s common stock, the S&P 500 Index and the Philadelphia
Semiconductor Index. The comparisons in the table are required
by the SEC and are not intended to forecast or be indicative of
possible future performance of the Company’s common stock.
COMPARISON
OF 54 MONTH CUMULATIVE TOTAL RETURN*
Among
NetLogic Microsystems, Inc., the S&P 500 Index
and the
Philadelphia Semiconductor Index
|
|
Cumulative
Total Return
|
|
|
|
7/9/2004
|
|
|
12/31/2004
|
|
|
12/31/2005
|
|
|
12/31/2006
|
|
|
12/31/2007
|
|
|
12/31/2008
|
|
NetLogic
Microsystems, Inc.
|
|
$ |
100.00 |
|
|
$ |
83.33 |
|
|
$ |
227.00 |
|
|
$ |
180.75 |
|
|
$ |
268.33 |
|
|
$ |
183.42 |
|
S&P
500 Index
|
|
$ |
100.00 |
|
|
$ |
108.91 |
|
|
$ |
112.17 |
|
|
$ |
127.45 |
|
|
$ |
131.95 |
|
|
$ |
81.17 |
|
Philadelphia
Semiconductor Index
|
|
$ |
100.00 |
|
|
$ |
96.05 |
|
|
$ |
106.28 |
|
|
$ |
103.52 |
|
|
$ |
90.45 |
|
|
$ |
47.03 |
|
|
SELECTED
CONSOLIDATED FINANCIAL DATA
|
The
following selected consolidated financial data are qualified by reference to,
and should be read in conjunction with, “Management’s Discussion and Analysis of
Financial Condition and Results of Operations” and the Financial Statements and
related Notes included in Item 8 of this report, which discusses factors
affecting the comparability of such financial data.
The
selected balance sheet data as of December 31, 2008 and 2007 and selected
statements of operations data for the years ended December 31, 2008, 2007
and 2006 are derived from our audited financial statements included elsewhere in
this report. The selected balance sheet data as of December 31, 2006, 2005,
and 2004 and the selected statements of operations data for the years ended
December 31, 2005 and 2004 were derived from audited financial statements
not included in this report. Our historical results are not necessarily
indicative of our future results.
|
|
Year
Ended December 31,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in
thousands, except per share data)
|
|
Statements
of Operations Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
|
|
$ |
139,927 |
|
|
$ |
109,033 |
|
|
$ |
96,806 |
|
|
$ |
81,759 |
|
|
$ |
47,833 |
|
Cost
of revenue
|
|
|
61,616 |
|
|
|
44,732 |
|
|
|
36,762 |
|
|
|
33,415 |
|
|
|
26,664 |
|
Gross
profit
|
|
|
78,311 |
|
|
|
64,301 |
|
|
|
60,044 |
|
|
|
48,344 |
|
|
|
21,169 |
|
Operating
expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Research
and development
|
|
|
51,607 |
|
|
|
45,175 |
|
|
|
36,578 |
|
|
|
21,939 |
|
|
|
19,425 |
|
In-process
research and development
|
|
|
- |
|
|
|
1,610 |
|
|
|
10,700 |
|
|
|
- |
|
|
|
- |
|
Selling,
general and administrative
|
|
|
26,567 |
|
|
|
19,672 |
|
|
|
15,455 |
|
|
|
10,936 |
|
|
|
9,932 |
|
Total
operating expenses
|
|
|
78,174 |
|
|
|
66,457 |
|
|
|
62,733 |
|
|
|
32,875 |
|
|
|
29,357 |
|
Income
(loss) from operations
|
|
|
137 |
|
|
|
(2,156 |
) |
|
|
(2,689 |
) |
|
|
15,469 |
|
|
|
(8,188 |
) |
Interest
income
|
|
|
1,595 |
|
|
|
4,431 |
|
|
|
3,737 |
|
|
|
1,568 |
|
|
|
382 |
|
Interest
expense
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
|
|
(203 |
) |
|
|
(4,076 |
) |
Other
income (expense), net
|
|
|
(92 |
) |
|
|
32 |
|
|
|
3 |
|
|
|
(16 |
) |
|
|
(149 |
) |
Income
(loss) before income taxes
|
|
|
1,640 |
|
|
|
2,307 |
|
|
|
1,051 |
|
|
|
16,818 |
|
|
|
(12,031 |
) |
Provision
for (benefit from) income taxes
|
|
|
(1,937 |
) |
|
|
(288 |
) |
|
|
459 |
|
|
|
379 |
|
|
|
- |
|
Net
income (loss)
|
|
$ |
3,577 |
|
|
$ |
2,595 |
|
|
$ |
592 |
|
|
$ |
16,439 |
|
|
$ |
(12,031 |
) |
Net
income (loss) per share - basic
|
|
$ |
0.17 |
|
|
$ |
0.13 |
|
|
$ |
0.03 |
|
|
$ |
0.93 |
|
|
$ |
(1.17 |
) |
Net
income (loss) per share - diluted
|
|
$ |
0.16 |
|
|
$ |
0.12 |
|
|
$ |
0.03 |
|
|
$ |
0.87 |
|
|
$ |
(1.17 |
) |
Shares
used in calculation - basic
|
|
|
21,472 |
|
|
|
20,747 |
|
|
|
19,758 |
|
|
|
17,725 |
|
|
|
10,318 |
|
Shares
used in calculation - diluted
|
|
|
22,314 |
|
|
|
21,938 |
|
|
|
21,107 |
|
|
|
18,992 |
|
|
|
10,318 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December
31,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in
thousands)
|
|
Balance
Sheet Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
and cash equivalents and short-term investments
|
|
$ |
96,541 |
|
|
$ |
50,689 |
|
|
$ |
89,879 |
|
|
$ |
65,788 |
|
|
$ |
41,411 |
|
Working
capital
|
|
|
87,853 |
|
|
|
63,956 |
|
|
|
95,986 |
|
|
|
65,164 |
|
|
|
45,283 |
|
Total
assets
|
|
|
245,771 |
|
|
|
203,151 |
|
|
|
157,769 |
|
|
|
85,529 |
|
|
|
59,454 |
|
Software
licenses and other obligations
|
|
|
1,219 |
|
|
|
2,528 |
|
|
|
2,625 |
|
|
|
687 |
|
|
|
1,317 |
|
Stockholders'
equity
|
|
|
200,267 |
|
|
|
171,888 |
|
|
|
142,524 |
|
|
|
68,658 |
|
|
|
48,102 |
|
Supplemental
Information:
The
tables present financial information including the acquisition of the TCAM2 and
TCAM-CR network search engine products and certain related assets from Cypress
Semiconductor Corp. and the acquisition of Aeluros, Inc. completed in fiscal
2007 and the acquisition of NSE Business from Cypress Semiconductor Corp.
completed in 2006. See Note 2 of Notes to Consolidated Financial Statements
under Item 8 of this Annual Report on Form 10-K for further discussion of
these acquisitions, which may affect the comparability of the data. Effective in
fiscal year 2006, we implemented Statement of Financial Accounting Standards
(“SFAS”) No. 123(R) “Share-Based Payment.” It requires us to measure all
employee stock-based compensation awards using a fair value method and record
such expense in our consolidated financial statements.
|
MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS.
|
Overview
We are a
semiconductor company that designs, develops and sells proprietary
high-performance processors and high-speed integrated circuits that are used by
original equipment manufacturers (OEMs) in routers, switches, wireless
infrastructure equipment, network security appliances, datacenter servers,
network access equipment and network storage devices to accelerate the delivery
of voice, video, data and multimedia content for advanced enterprise,
datacenter, communications and mobile wireless networks. Our knowledge-based
processors, PLPs, and network search engine products are incorporated in systems
used throughout multiple types of networks that comprise the global Internet
infrastructure, including the enterprise, metro, access, edge and core
networking markets, and are designed into systems offered by leading networking
OEMs such as AlaxalA Networks Corporation, Alcatel-Lucent, ARRIS Group, Inc.,
Brocade Communication Systems, Inc., Cisco Systems, Inc., Huawei Technologies
Co., Ltd., and Juniper Networks, Inc.
The
products and technologies we have developed and acquired are targeted to enable
our customers to develop systems that support the increasing speeds and
complexity of the Internet infrastructure. We believe there is a growing need to
include knowledge-based processors and high speed integrated circuits in a
larger number of such systems as networks transition to all Internet Protocol
(IP) packet processing at increasing speeds.
The
equipment and systems that use our products are technically complex. As a
result, the time from our initial customer engagement design activity to volume
production can be lengthy and may require considerable support from our design
engineering, research and development, sales, and marketing personnel in order
to secure the engagement and commence product sales to the customer. Once the
customer’s equipment is in volume production, however, it generally has a life
cycle of three to five years and requires less ongoing support.
In
general, we recognize revenue from sales of our products upon shipment to our
customers or our international stocking sales representatives. Usually, we sell
the initial shipments of a product for a new design engagement directly to the
OEM customer. Once the design enters volume production, the OEM frequently
outsources its manufacturing to contract manufacturers who purchase the products
directly from us.
As a
fabless semiconductor company, our business is less capital intensive than
others because we rely on third parties to manufacture, assemble, and test our
products. In general, we do not anticipate making significant capital
expenditures aside from business acquisitions that we might make from time to
time. In the future, as we launch new products or expand our operations,
however, we may require additional funds to procure product mask sets, order
elevated quantities of wafers from our foundry partners, perform qualification
testing and assemble and test those products.
Because
we purchase all wafers from suppliers with fabrication facilities and outsource
the assembly and testing to third party vendors, a significant portion of our
costs of revenue consists of payments to third party vendors. We do not have
long-term agreements with any of our suppliers and rely upon them to fulfill our
orders.
On
October 24, 2007, we completed the merger and acquisition of Aeluros, Inc
(the “Aeluros Acquisition”). The acquisition was accounted for as a business
combination during the fourth quarter of fiscal 2007. We paid $57.0 million in
cash upon the closing of the transaction in exchange for all of the outstanding
equity securities of Aeluros. We reserved 104,770 shares of common stock for
future issuance upon the exercise of unvested employee stock options of Aeluros
that we assumed and are subject to continued employment vesting requirements. In
addition, under the terms of the definitive agreement, we paid $15.5 million
cash in February 2009 based on the attainment of revenue performance milestones
for the acquired business over the one year period following the close of the
transaction. Approximately $8.5 million of the initial purchase price has been
withheld and placed in escrow as a form of security for certain indemnification
and other obligations of the former Aeluros stockholders.
Some of
our challenges in fiscal 2008 and in fiscal 2009 include improving operating
efficiencies in the light of recently deteriorating macroeconomic conditions,
diversifying our product offerings and inventory management. While we achieved a
year-over-year growth in total revenue from $109.0 million for fiscal year 2007
to $139.9 million for fiscal year 2008, we did experience a quarter-over-quarter
decline in revenue from $38.3 million for our third fiscal quarter in 2008 to
$30.9 million for our fourth fiscal quarter in 2008. We believe the decrease in
demand was primarily due to macroeconomic conditions that decreased customer
demand for our products. We also expect revenue for the first quarter of fiscal
2009 to decline further relative to the first quarter of fiscal
2008. In response, we have focused on operating efficiencies and
lowered our operating expenses from $20.8 million for the third quarter of
fiscal 2008 to $20.1 million for our fourth fiscal quarter in 2008. We expect to
remain focused on maintaining our operating expenses at an appropriate level
relative to our revenue during this period of macroeconomic
weakness.
For the
years ended December 31, 2008, 2007, and 2006, our top five customers
accounted for approximately 68%, 79% and 84% of total product revenue,
respectively. Favorable
market trends, such as the increasing number of 10 Gigabit ports as enterprises
and datacenters upgrade their legacy networks to better accommodate the
proliferation of video and virtualization applications, growth in the cable
infrastructure area of our business, and the growing mobile wireless
infrastructure and IPTV markets, have enabled us to broaden our customer base
and increase demand for our knowledge-based processors and network search
engines. Additionally, we have further diversified our customer and product
revenues by expanding our product portfolio to address Layer 7 content
processing with our NETL7™
processor family, the Layer 1 physical layer with our 10 Gigabit Ethernet
products, and entry level equipment with our NETLite™ processors.
As an
integral part of our efforts to diversify our product and customer base, as well
as strengthen our competitive positioning, and broaden our technology portfolio
and research and development capabilities, we have entered into strategic
acquisitions of products and technology, including the acquisition of the TCAM2
products and Sahasra algorithmic technology from Cypress and the acquisition of
Aeluros and its PLP products.
Cisco and
its contract manufacturers have accounted for a majority of our historical
revenue, although the percentage of our overall revenue attributable to Cisco
and its contract manufacturers declined for 2008. At Cisco’s request, in the
third and fourth quarters of 2007, we transitioned into a just-in-time inventory
arrangement covering substantially all of our product shipments to Cisco and its
contract manufacturers. Pursuant to this arrangement we deliver products to
Wintec Industries (“Wintec”) based on orders they place with us, but we do not
recognize product revenue unless and until Wintec reports that it has delivered
the product to Cisco or its contract manufacturer to incorporate into its end
products. Given this arrangement, unless Cisco or its contract manufacturers
take possession of our products from Wintec in accordance with the schedules
provided to us, our predicted future revenue stream could vary substantially
from our forecasts, and our results of operations could be materially and
adversely affected. Additionally, because we own the inventory physically
located at Wintec until it is shipped to Cisco and its contract manufacturers,
our ability to effectively manage inventory levels may be impaired, causing our
total inventory levels to increase. This, in turn, could increase our
expenses associated with excess and obsolete product and negatively impact our
cash flows.
Critical
Accounting Policies and Estimates
The
preparation of financial statements and related disclosures in conformity with
accounting principles generally accepted in the U.S. requires management to make
fair and reasonable estimates and assumptions that affect reported amounts of
assets, liabilities and operating expenses during the period reported. The
following accounting policies require management to make estimates and
assumptions. These estimates and assumptions are reviewed periodically and the
effects of revisions are reflected in the period that they are determined to be
necessary. If actual results differ significantly from management’s estimates,
our financial statements could be materially impacted. Our estimates are guided
by observing the following critical accounting policies.
Revenue Recognition. We derive revenue
mainly from product sales and, to a lesser extent, from engineering services.
Historically, except for shipments to one distributor, we recognize revenue from
product sales upon shipment when persuasive evidence of an arrangement exists,
legal title and risk of ownership has transferred, the price is fixed or
determinable, and collection of the resulting receivables is reasonably assured.
Our sales agreements do not provide for any customer acceptance provisions. We
have no obligation to provide any modification or customization, upgrades,
enhancements, post-contract customer support, additional products or
enhancements. Customers, generally, have no rights of return unless the product
does not perform according to specifications. Provisions for warranty expenses
are recorded when revenue is recognized.
We
entered into a purchase agreement with Wintec Industries who has become the
primary purchaser of our products on a consignment basis for resale to Cisco and
its contract manufacturers. We generally recognize revenue when Wintec ships our
product to Cisco or its contract manufacturers.
From
time-to-time we perform engineering services for third parties. Engineering
service revenue is recognized as services are performed, agreed-upon milestones
are achieved and customer acceptance, if required, is received from the
customer.
Inventory Valuation and Adverse
Purchase Commitments. We value our inventories at the lower of cost
or market. We record inventory reserves for estimated obsolescence or
unmarketable inventories based upon assumptions about future demand and market
conditions. These estimates are generally based on a 12-month forecast prepared
by management. Once a reserve is established, it is maintained until the product
to which it relates is sold or otherwise disposed of. If actual market
conditions are less favorable than those expected by management, additional
adjustment to inventory valuation may be required. The carrying value of
inventory and the determination of possible adverse purchase commitments are
dependent on our estimate of the yield that will be achieved, or the percent of
good products identified when the product is tested.
Warranty Accrual. Our
products are subject to warranty for a period ranging from one to five years
from the date of sale and we provide for the estimated future costs of
replacement upon shipment of the product in the accompanying statements of
operations. We estimate our warranty accrual based on historical claims compared
to historical revenue and assume that we will have to replace products subject
to a claim.
Allowance for Doubtful
Accounts. In order to determine the collectability of our accounts
receivable, we continually assess factors such as previous customer transactions
and the credit-worthiness of the customer. To date, our accounts receivable
write-offs have been immaterial. We maintain allowances for doubtful accounts
for estimated losses resulting from the inability of certain customers to make
required payments. In general, we establish such allowances for accounts
aged over 90 days from the invoice date, unless specific circumstances indicate
that the balance is collectible.
Accounting for Income Taxes.
We account for income taxes under the provisions of Statement of Financial
Accounting Standards (SFAS) No. 109 “Accounting for Income Taxes.” In
applying SFAS 109, we are required to estimate our current tax exposure together
with assessing temporary differences resulting from differing treatments of
items for tax and accounting purposes. These differences result in deferred tax
assets and liabilities. Significant management judgment is required to assess
the likelihood that our deferred tax assets will be recovered from future
taxable income. During the third fiscal quarter of 2007, we reassessed the
valuation allowance previously recorded against our net deferred tax assets
which consisted primarily of net operating loss carryforwards and research and
development tax credits. Based on our earnings history and projected future
taxable income, management determined that it was more likely than not that the
deferred tax assets would be realized.
In the
first quarter of 2007, we adopted Financial Accounting Standards Board (FASB)
Interpretation No. 48, “Accounting for Uncertainty in Income Taxes—an
interpretation of SFAS No. 109” (FIN 48), and related guidance.
As a result of the implementation of FIN 48, we recognize liabilities for
uncertain tax positions based on the two-step process prescribed in the
interpretation. The first step is to evaluate the tax position for recognition
by determining if the weight of available evidence indicates that it is more
likely than not that the position will be sustained on audit, including
resolution of related appeals or litigation processes, if any. The second step
requires us to estimate and measure the tax benefit as the largest amount that
is more than 50% likely to be realized upon ultimate settlement. It is
inherently difficult and subjective to estimate such amounts, as we have to
determine the probability of various possible outcomes. We reevaluate these
uncertain tax positions on a quarterly basis. This evaluation is based on
factors including, but not limited to, changes in facts or circumstances,
changes in tax law, 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. Refer
to Note 7—Income Taxes, of the “Notes to Consolidated
Financial
Statements ” in Item 8 for further information.
Goodwill. We evaluate
goodwill for impairment at least on an annual basis or whenever events and
changes in circumstances suggest that the carrying amount may not be recoverable
from its estimated future cash flow. Applying the provision of SFAS No. 142,
Goodwill and Other Intangible
Assets, we perform goodwill impairment test for each reporting
unit. If the fair value of the reporting unit exceeds the carrying
value of the reporting unit, goodwill is not impaired. We perform the goodwill
impairment assessment at the Company level, which is the sole reporting unit. We
performed our annual goodwill impairment test in the fourth quarter of fiscal
2008 and there was no impairment of goodwill during the year ended December 31,
2008. Significant management judgment is required in the forecasts of future
operating results that are used in the evaluation of carrying value of goodwill.
If our actual results, or the plans and estimates used in future impairment
analyses, are lower than the original estimates used to assess the
recoverability of these assets, we could incur additional impairment
charges.
Stock-based
Compensation. We estimate the fair value of stock options using the
Black-Scholes-Merton valuation model (the “Black-Scholes Model”), consistent
with the provisions of SFAS 123(R), and SAB 107, as allowed by SAB 110. The
Black-Scholes Model requires the input of highly subjective assumptions,
including the option’s expected life, the price volatility of the underlying
stock and future forfeitures and related tax effects. The expected stock price
volatility assumption was determined using a combination of the historical and
implied volatility of the Company’s common stock. Changes in the subjective
assumptions required in the valuation models may significantly affect the
estimated value of the awards, the related stock-based compensation expense and,
consequently, our results of operations.
Results
of Operations
Comparison
of Year Ended December 31, 2008 to Year Ended December 31,
2007
Revenue,
cost of revenue and gross profit
The table
below sets forth the fluctuations in revenue, cost of revenue and gross profit
data for the years ended December 31, 2008 and 2007 (in thousands, except
percentage data):
|
|
Year
ended
December
31,
2008
|
|
|
Percentage
of
Revenue
|
|
|
Year
ended
December
31,
2007
|
|
|
Percentage
of
Revenue
|
|
|
Year-to-Year
Increase
|
|
|
Increase
Percentage
|
|
Revenue
|
|
$ |
139,927 |
|
|
|
100.0 |
% |
|
$ |
109,033 |
|
|
|
100.0 |
% |
|
$ |
30,894 |
|
|
|
28.3 |
% |
Cost
of revenue
|
|
|
61,616 |
|
|
|
44.0 |
% |
|
|
44,732 |
|
|
|
41.0 |
% |
|
|
16,884 |
|
|
|
37.7 |
% |
Gross
profit
|
|
$ |
78,311 |
|
|
|
56.0 |
% |
|
$ |
64,301 |
|
|
|
59.0 |
% |
|
$ |
14,010 |
|
|
|
21.8 |
% |
Revenue. Revenue for the year
ended December 31, 2008 increased by $30.9 million compared with that of
the year ended December 31, 2007. Revenue from sales to Wintec, Cisco and
Cisco’s contract manufacturers (collectively “Cisco”) represented $52.7 million
of our total revenue for the year ended December 31, 2008, compared to
$55.1 million during the year ended December 31, 2007. The decrease in
sales to Cisco was primarily due to a decrease of $22.4 million from 2007 in
revenue from sales of NL5000 products, although this decline was largely offset
by increased revenue of our new and additional products for Cisco,
including NL7000, NL8000, and TCAM2 products which increased $20.7
million. Revenue from non-Cisco customers represented $87.2 million
of total revenue for the year ended December 31, 2008 compared with $53.9
million during the year end December 31, 2007. The increase in sales
to non-Cisco customers was driven primarily by increased demand for our products
in several emerging new markets, such as 10 Gigabit Ethernet, which we address
with the PLPs that we acquired in the Aeluros acquisition, and IPTV. During
the year ended December 31, 2008, Alcatel-Lucent accounted for 12% of our total
revenue compared with 11% in 2007.
Revenue
for the fourth quarter of fiscal 2008 declined 4% from the fourth quarter of
fiscal 2007. We also expect revenue for the first quarter of fiscal
2009 to decline further relative to the first quarter of fiscal
2008.
Cost of Revenue/Gross Profit/Gross
Margin. Cost of revenue for the year ended December 31, 2008
increased by $16.9 million compared with that of the year ended December 31,
2007. Cost of revenue increased primarily due to the increase in
product sales. Cost of revenue in 2008 also included amortization of
intangible assets, and a provision for excess and obsolete inventory and product
scrap charges. Cost of revenue for the years ended December 31, 2008 and
2007, respectively, included $11.9 million and $5.0 million of amortization of
intangible assets expense, and $2.4 million and $1.0 million of a provision for
excess and obsolete inventory.
Operating
expenses
The table
below sets forth operating expense data for the years ended December 31,
2008 and 2007 (in thousands, except percentage data):
|
|
Year
ended
December
31,
2008
|
|
|
Percentage
of
Revenue
|
|
|
Year
ended
December
31,
2007
|
|
|
Percentage
of
Revenue
|
|
|
Year-to-Year
Increase
(Decrease)
|
|
|
Increase
(Decrease)
Percentage
|
|
Operating
expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Research
and development
|
|
$ |
51,607 |
|
|
|
36.9 |
% |
|
$ |
45,175 |
|
|
|
41.4 |
% |
|
$ |
6,432 |
|
|
|
14.2 |
% |
In-process
research and development
|
|
|
- |
|
|
|
0.0 |
% |
|
|
1,610 |
|
|
|
1.5 |
% |
|
|
(1,610 |
) |
|
|
-100.0 |
% |
Selling,
general and administrative
|
|
|
26,567 |
|
|
|
19.0 |
% |
|
|
19,672 |
|
|
|
18.0 |
% |
|
|
6,895 |
|
|
|
35.0 |
% |
Total
operating expenses
|
|
$ |
78,174 |
|
|
|
55.9 |
% |
|
$ |
66,457 |
|
|
|
60.9 |
% |
|
$ |
11,717 |
|
|
|
17.6 |
% |
Research and Development
Expenses. Research and development expenses increased during the year
ended December 31, 2008, as compared to fiscal 2007, primarily due to
increases in payroll related expenses of $3.8 million, product development and
qualification expenses of $2.1 million, and consulting and outside vendor
expenses of $1.0 million, which were partially offset by a decrease of
stock-based compensation expense of $0.5 million. The increase in payroll
related expenses resulted primarily from increases in engineering headcount in
India to support our new product development efforts, and in the U.S. as a
result of the Aeluros Acquisition. The increase in product
development and qualification expense was primarily due to the production
qualification and characterization of our newly introduced knowledge-based
processors. The remainder of the increase in research and development expenses
was caused by individually minor items.
Selling, General and Administrative
Expenses. Selling, general and administrative expenses increased during
the year ended December 31, 2008, as compared with fiscal 2007, primarily
due to increased commission expenses of $1.7 million, payroll related expenses
of $1.7 million, amortization expense of intangible assets – customer
relationships of $1.1 million, consulting and outside vendor expense of $1.0
million, other professional services fess of $0.4 million, stock-based
compensation expense of $0.6 million, and travel expense of $0.1 million. The
increase in commission expenses was primarily a result of our increase in
revenue. The increase in payroll related expenses and stock-based compensation
expense resulted primarily from increased headcount to support our growing
operations in the sales and marketing areas. The remainder of the fluctuation in
selling, general and administrative expenses was caused by individually minor
items.
During
the fourth quarter of fiscal 2008, we focused on lowering operating expenses
which resulted in a decline in expenses in that quarter to $20.1 million from
$20.8 million in the previous quarter. We expect to remain focused on
maintaining our operating expenses at an appropriate level relative to our
revenues during the first quarter of fiscal 2009.
Other
items
The table
below sets forth interest and other income (expense), net for the years ended
December 31, 2008 and 2007 (in thousands, except percentage
data):
|
|
Year
ended
December
31,
2008
|
|
|
Percentage
of
Revenue
|
|
|
Year
ended
December
31,
2007
|
|
|
Percentage
of
Revenue
|
|
|
Year-to-Year
(Decrease)
|
|
|
(Decrease)
Percentage
|
|
Other
income, net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
income
|
|
$ |
1,595 |
|
|
|
1.1 |
% |
|
$ |
4,431 |
|
|
|
4.1 |
% |
|
$ |
(2,836 |
) |
|
|
-64.0 |
% |
Other
income (expense), net
|
|
|
(92 |
) |
|
|
0.0 |
% |
|
$ |
32 |
|
|
|
0.0 |
% |
|
$ |
(124 |
) |
|
|
-387.5 |
% |
Total
other income, net
|
|
$ |
1,503 |
|
|
|
1.1 |
% |
|
$ |
4,463 |
|
|
|
4.1 |
% |
|
$ |
(2,960 |
) |
|
|
-66.3 |
% |
Interest and Other Income
(Expenses), net. Interest and other income, net, decreased by $3.0
million during the year ended December 31, 2008, compared with the same period
in 2007, primarily due to our lower invested balances after paying approximately
$71.7 million in connection with the acquisitions of the TCAM2 Products from
Cypress and the Aeluros Acquisition, and lower yields on our
investments.
|
|
Year
ended
December
31,
2008
|
|
|
Percentage
of
Revenue
|
|
|
Year
ended
December
31,
2007
|
|
|
Percentage
of
Revenue
|
|
|
Year-to-Year
(Decrease)
|
|
|
(Decrease)
Percentage
|
|
Provision
for (benefit from) income taxes
|
|
$ |
(1,937 |
) |
|
|
-1.4 |
% |
|
$ |
(288 |
) |
|
|
-0.3 |
% |
|
$ |
(1,649 |
) |
|
|
572.6 |
% |
Provision for income
taxes. During the year ended December 31, 2008, we recorded
an income tax benefit of $1.9 million. Our effective tax rate of 35%
for the year ended December 31, 2008 was primarily driven by a rate
differential for book income generated in foreign jurisdictions and the tax
impact of non-deductible stock options.
Stock-Based
Compensation under SFAS No. 123(R)
On
January 1, 2006, we adopted SFAS 123(R), on the modified prospective
application method, which requires the measurement and recognition of
compensation expense for all share-based awards made to our employees and
directors including employee stock options and employee stock purchases
outstanding as of and awarded after January 1, 2006. The total stock-based
compensation expense recognized for the year ended December 31, 2008, 2007
and 2006 was as follows (in thousands):
|
|
Year
ended December 31,
|
|
|
|
|
|
|
|
|
|
|
|
Cost
of revenue
|
|
$ |
1,030 |
|
|
$ |
747 |
|
|
$ |
548 |
|
Research
and development
|
|
|
9,474 |
|
|
|
9,933 |
|
|
|
7,481 |
|
Selling,
general and administrative
|
|
|
5,988 |
|
|
|
5,366 |
|
|
|
3,878 |
|
Total
stock-based compensation expense
|
|
$ |
16,492 |
|
|
$ |
16,046 |
|
|
$ |
11,907 |
|
In
addition, we capitalized approximately $0.2 million and $0.2 million of
stock-based compensation in inventory as of December 31, 2008 and 2007
which represented indirect manufacturing costs related to our
inventory.
Comparison
of Year Ended December 31, 2007 to Year Ended December 31,
2006
Revenue,
cost of revenue and gross profit
The table
below sets forth the fluctuations in revenue, cost of revenue and gross profit
data for the years ended December 31, 2007 and 2006 (in thousands, except
percentage data):
|
|
Year
ended
December
31,
2007
|
|
|
Percentage
of
Revenue
|
|
|
Year
ended
December
31,
2006
|
|
|
Percentage
of
Revenue
|
|
|
Year-to-Year
Increase
|
|
|
Increase
Percentage
|
|
Revenue
|
|
$ |
109,033 |
|
|
|
100.0 |
% |
|
$ |
96,806 |
|
|
|
100.0 |
% |
|
$ |
12,227 |
|
|
|
12.6 |
% |
Cost
of revenue
|
|
|
44,732 |
|
|
|
41.0 |
% |
|
|
36,762 |
|
|
|
38.0 |
% |
|
|
7,970 |
|
|
|
21.7 |
% |
Gross
profit
|
|
$ |
64,301 |
|
|
|
59.0 |
% |
|
$ |
60,044 |
|
|
|
62.0 |
% |
|
$ |
4,257 |
|
|
|
7.1 |
% |
Revenue. Revenue for the year
ended December 31, 2007 increased by $12.2 million compared with the year
ended December 31, 2006. Revenue from sales to Cisco and its contract
manufacturers represented 50% of our total revenue for the year ended
December 31, 2007, compared with 61% during the year ended
December 31, 2006. The decrease in sales to Cisco and its contract
manufacturers was primarily due to the implementation of Cisco’s vendor managed
inventory program during the second half of 2007 which resulted in lower levels
of inventory at Cisco as well as the implementation of a just-in-time inventory
model the second quarter of 2007 by Solectron Corporation, one of Cisco’s
contract manufacturers. The revenue loss attributable to the implementation of
these new manufacturing models in 2007 was partially offset by increased
revenues of new products to Cisco including the NL6000, NL7000, NL8000 and TCAM2
products which increased $7.9 million from 2006. The decrease in sales to Cisco
and its contract manufacturers was mitigated by an increase in revenue from our
non-Cisco customers, which totaled $54.0 million during the year ended
December 31, 2007, compared with $37.7 million during the year ended
December 31, 2006. The increase in sales to non-Cisco customers was
primarily driven by the increasing demand for our products in several emerging
new markets, such as 10 Gigabit Ethernet, cable infrastructure and IPTV, in
addition to the enterprise networking infrastructure market that has driven the
demand for our products historically. The average selling price of our products
decreased approximately 41% from 2006 primarily due to increased revenues of our
network search engine products into the high volume desktop switching segment.
In addition, we began shipping our newly acquired 10 Gigabit Ethernet PLPs in
the fourth quarter of 2007. During the year ended December 31, 2007,
Alcatel-Lucent accounted for 11% of our total product revenue compared with
10 % in 2006.
Cost of Revenue/Gross Profit/Gross Margin. Cost of
revenue for the year ended December 31, 2007 increased primarily due to the
addition of intangible asset amortization expense and recording of the fair
value inventory adjustments resulting from the acquisition of the TCAM2 Products
from Cypress Semiconductor Corp. and the Aeluros Acquisition, both of which were
completed in 2007. Intangible asset amortization expense for the year ended
December 31, 2007 was $5.0 million compared with $2.0 million for the year
ended December 31, 2006. The fair value inventory adjustments for the year
ended December 31, 2007 totaled $1.8 million compared with $0.3 million for
the year ended December 31, 2006. The intangible asset
amortization expense and fair value inventory adjustment recorded during
the year ended December 31, 2006 related to the acquisition of NSE Business
from Cypress Semiconductor Corp. The remainder of the increase in cost of sales
during the year ended December 31, 2007 was primarily due to the increase
in sales of our products.
Operating
expenses
The table
below sets forth operating expense data for the years ended December 31,
2007 and 2006 (in thousands, except percentage data):
|
|
Year
ended
December
31,
2007
|
|
|
Percentage
of
Revenue
|
|
|
Year
ended
December
31,
2006
|
|
|
Percentage
of
Revenue
|
|
|
Year-to-Year
Increase
(Decrease)
|
|
|
Increase
(Decrease)
Percentage
|
|
Operating
expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Research
and development
|
|
$ |
45,175 |
|
|
|
41.4 |
% |
|
$ |
36,578 |
|
|
|
37.8 |
% |
|
$ |
8,597 |
|
|
|
23.5 |
% |
In-process
research and development
|
|
|
1,610 |
|
|
|
1.5 |
% |
|
$ |
10,700 |
|
|
|
11.1 |
% |
|
$ |
(9,090 |
) |
|
|
-85.0 |
% |
Selling,
general and administrative
|
|
|
19,672 |
|
|
|
18.0 |
% |
|
|
15,455 |
|
|
|
16.0 |
% |
|
|
4,217 |
|
|
|
27.3 |
% |
Total
operating expenses
|
|
$ |
66,457 |
|
|
|
60.9 |
% |
|
$ |
62,733 |
|
|
|
64.9 |
% |
|
$ |
3,724 |
|
|
|
5.9 |
% |
Research and Development
Expenses. Research and development expenses increased during the year
ended December 31, 2007 compared with fiscal 2006, primarily due to
increases in product development and qualification expenses of $3.0 million,
stock-based compensation expense of $2.5 million, payroll related expenses of
$1.8 million, and travel expenses of $0.5 million. The increase in product
development and qualification expense was primarily due to the production
qualification and characterization for the NL7000 and NL8000 processors. The
increase in stock-based compensation expense was primarily due to the issuance
of stock-based compensation options and awards for additional engineering
headcount, including the new employees who joined us through the Aeluros
Acquisition. The increase in payroll related expenses was primarily due to an
increase in our engineering headcount in India to support our new product
development efforts and the incremental employees as a result of the Aeluros
Acquisition. Depreciation expense increased by $0.8 million during the year
ended December 31, 2007 as we purchased software and other tools to support
our research and development efforts. The remainder of the increase in research
and development expenses was caused by individually minor items.
In-Process Research and
Development. During the year ended December 31, 2007, we recorded
$1.6 million of in-process research and development (“IPRD”) charge related to
the Aeluros Acquisition. The value assigned to IPRD was determined by
considering the importance of products under development to the overall
development plan, estimating costs to develop the purchased IPRD into
commercially viable products, estimating the resulting net cash flows from the
projects when completed and discounting the net cash flows to their present
value. The fair values of IPRD were determined using the income approach,
which discounts expected future cash flows to present value. The discount
rate of 24% used in the present value calculations was derived from a
weighted-average cost of capital analysis, adjusted to reflect additional risks
related to the product’s development and success as well as the product’s stage
of completion. At December 31, 2007, we estimated that the aggregate
costs to complete the projects would be $0.3 million. As of December 31,
2008, the projects had been completed.
During
the year ended December 31, 2006, we recorded $10.7 million of IPRD charge
related to our acquisition of the NSE Business from Cypress based upon our
estimate of the fair values of assets acquired. We acquired only one IPRD
project from Cypress, which was related to the acquired Sahasra algorithmic
technology, that had not reached technological feasibility, and had no
alternative use. The Sahasra algorithmic technology complemented our Layer 7
processing initiative and was a beneficial building block in driving towards
low-cost Layer 7 applications acceleration and security processing
solutions. As of December 31, 2007, we had completed the IPRD project and
incurred total post-acquisition costs of approximately $1.9 million. We expect
to benefit from it beginning in fiscal 2008, which is consistent with our
original estimate.
Selling, General and Administrative
Expenses. Selling, general and administrative expenses increased during
the year ended December 31, 2007 compared with fiscal 2006, primarily due
to increases in stock-based compensation expense of $1.5 million, payroll
related expenses of $1.1 million, accounting fees of $0.3 million, legal
expenses of $0.3 million, consulting and outside vendor expenses of $0.3
million, amortization of intangible assets expense of $0.3 million and
recruiting fees expenses of $0.2 million. The increase in stock-based
compensation expense and payroll related expenses was primarily due to an
increase in headcount to support our growing operations. Selling, general and
administrative expenses for 2007 also included $0.3 million of amortization
expense for the customer relationship intangible asset related to the Aeluros
Acquisition. The remainder of the increase in selling, general and
administrative expenses was caused by individually minor items.
Other
items
The table
below sets forth other data for the years ended December 31, 2007 and 2006
(in thousands, except percentage data):
|
|
Year
ended
December
31,
2007
|
|
|
Percentage
of
Revenue
|
|
|
Year
ended
December
31,
2006
|
|
|
Percentage
of
Revenue
|
|
|
Year-to-Year
Increase
|
|
|
Increase
Percentage
|
|
Other
income, net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
income
|
|
$ |
4,431 |
|
|
|
4.1 |
% |
|
$ |
3,737 |
|
|
|
4.6 |
% |
|
$ |
694 |
|
|
|
18.6 |
% |
Other
income (expense), net
|
|
|
32 |
|
|
|
0.0 |
% |
|
$ |
3 |
|
|
|
0.0 |
% |
|
$ |
29 |
|
|
|
966.7 |
% |
Total
other income, net
|
|
$ |
4,463 |
|
|
|
4.1 |
% |
|
$ |
3,740 |
|
|
|
4.6 |
% |
|
$ |
723 |
|
|
|
19.3 |
% |
Interest and Other Income
(Expenses), net. The net interest and other income of $4.5 million
generated during the year ended December 31, 2007 was due to a higher
average cash and investment balance during the period and higher market yields
for our chosen investments.
|
|
Year
ended
December
31,
2007
|
|
|
Percentage
of
Revenue
|
|
|
Year
ended
December
31,
2006
|
|
|
Percentage
of
Revenue
|
|
|
Year-to-Year
(Decrease)
|
|
|
(Decrease)
Percentage
|
|
Provision
for (benefit from) income taxes
|
|
$ |
(288 |
) |
|
|
-0.3 |
% |
|
$ |
459 |
|
|
|
0.5 |
% |
|
$ |
(747 |
) |
|
|
-162.7 |
% |
Provision for income
taxes. During the year ended December 31, 2007, we recorded
income tax benefit of $0.3 million, which included the release of the valuation
allowance previously recorded against our net deferred tax assets and the tax
impact of an intercompany license agreement. During the third fiscal quarter of
2007, we reassessed the valuation allowance previously recorded against our net
deferred tax assets which consisted primarily of net operating loss
carryforwards and research and development tax credits. Based on our earnings
history and projected future taxable income, management determined that it was
more likely than not that the deferred tax assets would be
realized.
Liquidity
and Capital Resources
Financial
Condition
At
December 31, 2008, our principal sources of liquidity were our cash, cash
equivalents, and short-term investments which totaled $96.5 million. In
February 2009, we paid $15.5 million to the former Aeluros stockholders due to
attainment of post-acquisition revenue milestones, subject to certain
adjustments as provided in the Aeluros acquisition agreement
The
Company’s cash, cash equivalents and short-term investments are invested with
financial institutions in deposits that, at times, may exceed federally insured
limits. The Company had not experienced any losses on its deposits of cash and
cash equivalents as of December 31, 2008. However, we believe that the
capital and credit markets have been experiencing unprecedented levels of
volatility and disruption and that recent U.S. sub-prime mortgage defaults have
had a significant impact across various sectors of the financial markets,
causing global credit and liquidity issues. We can provide no assurance
that our cash, cash equivalents, and short-term investments will not be
adversely affected by these matters in the future.
The table
below (in thousands) sets forth the key components of cash flow for the years
ended December 31, 2008, 2007, and 2006:
|
|
Year
ended December 31,
|
|
|
|
|
|
|
|
|
|
|
|
Net
cash provided by operating activities
|
|
$ |
41,856 |
|
|
$ |
24,907 |
|
|
$ |
22,308 |
|
Net
cash used in investing activities
|
|
$ |
(14,252 |
) |
|
$ |
(32,629 |
) |
|
$ |
(41,391 |
) |
Net
cash provided by financing activities
|
|
$ |
5,226 |
|
|
$ |
7,674 |
|
|
$ |
4,053 |
|
Cash
Flows during the Year ended December 31, 2008
Net cash
provided by operating activities was $41.9 million for the year ended
December 31, 2008, which primarily consisted of $3.6 million of net income,
$31.7 million of non-cash operating expenses and $6.6 million in changes in
operating assets and liabilities. Non-cash operating
expenses for the year ended December 31, 2008, included depreciation
and amortization of $17.2 million, stock-based compensation of $16.5 million,
and provision for inventory reserve of $2.4 million, offset by deferred
income taxes, net of $3.9 million, and tax benefit from stock-based awards of
$0.7 million. Changes in operating assets and liabilities were primarily driven
by an increase in deferred margin of $1.3 million, inventory of
$1.4 million, other liabilities of $1.1 million and accounts payable of
$0.5 million on higher product sales, offset by a decrease in accounts
receivables of $6.6 million, accrued liabilities of $2.1 million, which
includes the $15.5 million Aeluros post-acquisition revenue milestone, and
prepaid expenses and other assets of $0.6 million.
Net cash
used in investing activities was $14.3 million during the year ended
December 31, 2008, of which we used $13.0 million for the purchase of
short-term investments, and $1.4 million to purchase computer equipment and
research and development design tools to support our growing operations. We
expect to make capital expenditures of approximately $3.0 million during fiscal
2009. These capital expenditures will be used primarily to support product
development activities. We will use our cash and cash equivalents to fund these
purchases.
Net cash
provided by financing activities was $5.2 million for the year ended
December 31, 2008, primarily from proceeds of stock option exercises of
$7.9 million, and tax benefit from stock-based awards of $0.7 million. Cash
provided by financing activities was offset by repayment of software license and
other obligations of $3.4 million.
Cash
Flows during the Year ended December 31, 2007
During
the year ended December 31, 2007, our operating activities generated net
cash of $24.9 million. During the period, we recorded non-cash items of $22.5
million primarily consisting of stock-based compensation of $16.0 million,
depreciation and amortization of $9.1 million, in-process research and
development charge of $1.6 million related to the Aeluros Acquisition, provision
for inventory reserve of $1.0 million, offset by net impact of deferred tax
asset valuation allowance release of $0.5 million, tax benefit from stock-based
awards of $2.5 million, deferred income taxes, net of $1.7 million, and
accretion of discount on debt securities of $0.7 million. We also generated cash
from a decrease of inventory of $1.5 million, and an increase in accounts
payable and accrued liabilities of $2.9 million, and other long-term liabilities
of $1.0 million. The cash generated was partially offset by the increase in
accounts receivable of $4.5 million on higher sales of our products during
the period, increase in prepaid expenses and other assets of $1.3
million.
Our
investing activities used cash of $32.6 million during the year ended
December 31, 2007, of which we obtained $53.8 million in proceeds from
sales and maturities of short-term investments, and used $13.9 million for the
purchase of short-term investments. We used $2.2 million to purchase computer
equipment and research and development design tools to support our growing
operations. We expect to make capital expenditures of approximately
$4.4 million during fiscal 2008. These capital expenditures will be used
primarily to support product development activities. We will use our cash and
cash equivalents to fund these purchases. We used $70.2 million to purchase the
TCAM2 products and certain related assets from Cypress Semiconductor and for the
Aeluros Acquisition.
Our
financing activities provided net cash of $7.7 million for the year ended
December 31, 2007, primarily from proceeds of stock option exercises of
$8.3 million, and tax benefit from stock-based awards of $2.5 million. Cash
provided by financing activities was offset by repayment of software license and
other obligations of $3.1 million.
Cash
Flows during the Year ended December 31, 2006
During
the year ended December 31, 2006, our operating activities generated net
cash of $22.3 million. During the period, we recorded non-cash items of $29.5
million primarily consisting of an in-process research and development charge of
$10.7 million related to the acquisition of the Cypress NSE assets, stock-based
compensation of $11.9 million, provision for inventory reserve of $2.5 million,
accretion of discount on debt securities of $0.5 million and depreciation and
amortization of intangibles of $4.9 million. The cash generated was offset by
the increase in accounts receivable of $1.7 million on higher sales of our
knowledge-based processors during the period, an increase in inventory of $2.6
million primarily due to the addition of NSE products acquired from Cypress and
a decrease in accounts payable of $3.5 million due to the timing of payments to
our vendors.
Our
investing activities used cash of $41.4 million during the year ended
December 31, 2006, of which $39.1 million was for the purchase of
short-term investments. We used $1.5 million to purchase computer equipment and
research and development design tools to support our growing operations. We
expect to make capital expenditures of approximately $5.1 million during
fiscal 2007. These capital expenditures will be used primarily to support
product development activities. We will use our cash and cash equivalents to
fund these purchases. We paid approximately $0.8 million for expenses directly
associated with the acquisition of the NSE Business from Cypress.
Our
financing activities provided net cash of $4.1 million for the year ended
December 31, 2006, primarily from stock option exercises. Cash provided by
financing activities was offset by repayment of software license and other
obligations.
Capital
Resources
We
believe that our existing cash, cash equivalents, and short-term investment
balance of $96.5 million will be sufficient to meet our anticipated cash needs
for at least the next 12 months. Our future capital requirements will depend on
many factors, including the amount of revenue we generate, the timing and extent
of spending to support product development efforts, the expansion of sales and
marketing activities, the timing of introductions of new products, the costs to
ensure access to adequate manufacturing capacity, and the continuing market
acceptance of our products, and any future business acquisitions that we might
undertake. However, if we do not meet our plan, we could be required, or might
elect, to seek additional funding through public or private equity or debt
financing and additional funds may not be available on terms acceptable to us or
at all. We also might decide to raise additional capital at such times and upon
such terms as management considers favorable and in the interests of the
Company, including, but not limited to, from the sale of up to $150 million of
our debt and/or equity securities (before reductions for expenses, underwriting
discounts and commissions) under our shelf registration statement.
Contractual
Obligations
Our
principal commitments as of December 31, 2008 are summarized below (in
thousands):
|
|
Total
|
|
|
Less
than
1
year
|
|
|
1
- 3
years
|
|
|
4
-5
years
|
|
|
After
5
years
|
|
Operating
lease obligations
|
|
$ |
2,537 |
|
|
$ |
1,000 |
|
|
$ |
1,537 |
|
|
$ |
- |
|
|
$ |
- |
|
Software
license obligations
|
|
|
1,287 |
|
|
|
803 |
|
|
|
484 |
|
|
|
- |
|
|
|
- |
|
Wafer
purchases
|
|
|
2,902 |
|
|
|
2,902 |
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
Other
|
|
|
109 |
|
|
|
109 |
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
Total
|
|
$ |
6,835 |
|
|
$ |
4,814 |
|
|
$ |
2,021 |
|
|
$ |
- |
|
|
$ |
- |
|
In
addition to the enforceable and legally binding obligations quantified in the
table above, we have other obligations for goods and services entered into in
the normal course of business. These obligations, however, either are not
enforceable or legally binding or are subject to change based on our business
decisions.
Other
obligations shown above represent $0.1 million of adverse purchase commitments
for which the inventory is considered unsalable.
In
addition, due to uncertainty with respect to timing of future cash flows
associated with our unrecognized tax benefits at December 31, 2008, we are
unable to make a reasonably reliable estimate of the period of cash settlement
with the respective taxing authority. Therefore, $15.2 million of
unrecognized tax benefits have been excluded from the contractual obligations
table above. See Note 7. – Income Taxes or a discussion on Income
Taxes.
Off-Balance
Sheet Arrangements
As part
of our ongoing business, we do not participate in transactions that generate
relationships with unconsolidated entities or financial partnerships, such as
entities often referred to as structured finance or special purpose
entities, or SPEs, which would have been established for the purpose of
facilitating off-balance sheet arrangements or other contractually narrow or
limited purposes. As of December 31, 2008, we were not involved in any
unconsolidated SPE transactions.
Indemnities,
Commitments and Guarantees
In the
normal course of business, we have made certain indemnities, commitments and
guarantees under which we may be required to make payments in relation to
certain transactions. These include agreements to indemnify our customers with
respect to liabilities associated with the infringement of other parties’
technology based upon our products, obligation to indemnify our lessors under
facility lease agreements, and obligation to indemnify our directors and
officers to the maximum extent permitted under the laws of the state of
Delaware. The duration of such indemnification obligations, commitments and
guarantees varies and, in certain cases, is indefinite. We have not recorded any
liability for any such indemnification obligations, commitments and guarantees
in the accompanying balance sheets. We do, however, accrue for losses for any
known contingent liability, including those that may arise from indemnification
provisions, when future payment is estimable and probable.
Under
master purchase agreements signed with Cisco in November 2005, we have agreed to
indemnify Cisco for costs incurred in rectifying epidemic failures, up to the
greater of (on a per claim basis) 25% of all amounts paid to us by Cisco during
the preceding 12 months (approximately, $13.2 million at December 31, 2008) or
$9.0 million, plus replacement costs. If we are required to make payments under
the indemnity, our operating results may be adversely affected.
Significant
Accounting Pronouncements
Fair
Value Measurement
In
September 2006, the Financial Accounting Standards Board, or FASB, issued SFAS
No. 157, “Fair Value
Measurements” (“SFAS 157”). SFAS 157 defines fair value, establishes a
framework and gives guidance regarding the methods used for measuring fair
value, and expands disclosures about fair value measurements. SFAS 157 is
effective for financial statements issued for fiscal years beginning after
November 15, 2007, and interim periods of those fiscal years. In February
2008, the FASB released a FASB Staff Position (FSP FAS 157-2— Effective Date of FASB Statement
No. 157) which delays the effective date of SFAS 157 for all
non-financial assets and non-financial liabilities, except those that are
recognized or disclosed at fair value in the financial statements on a recurring
basis (at least annually) to fiscal years beginning after November 15,
2008. In October 2008, the FASB released a FASB Staff Position (FSP FAS 157-3
—Determining the fair value of
a financial asset when the market for that asset is not active) which
clarifies the application of SFAS 157 in a market that is not active and
provides an example to illustrate key considerations in determining the fair
value of a financial asset when the market for that financial asset is not
active. The adoption of SFAS 157 for financial assets and liabilities had
no impact on the Company’s consolidated financial position, results of
operations or cash flows. See Note 13 to the Notes to Consolidated
Financial Statements for more information on investments and fair value
measurements.
Business
Combinations
In
December 2007, the FASB issued SFAS No. 141(R), Business Combinations
(“SFAS 141(R)”), which replaces FAS 141. SFAS 141(R) establishes
principles and requirements for how an acquirer in a business combination
recognizes and measures in its financial statements the identifiable assets
acquired, the liabilities assumed, and any controlling interest; recognizes and
measures the goodwill acquired in the business combination or a gain from a
bargain purchase; and determines what information to disclose to enable users of
the financial statements to evaluate the nature and financial effects of the
business combination. SFAS 141(R) is to be applied prospectively to
business combinations for which the acquisition date is on or after an entity’s
fiscal year that begins after December 15, 2008. The Company will apply the
provisions of SFAS 141(R) if and when a future acquisition
occurs.
Noncontrolling
Interests in Consolidated Financial Statements
In
December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in
Consolidated Financial Statements — an amendment of ARB No. 51”
(“SFAS 160”). SFAS 160 establishes new accounting and reporting
standards for the noncontrolling interest in a subsidiary and for the
deconsolidation of a subsidiary. Specifically, this statement requires the
recognition of a noncontrolling interest (minority interest) as equity in the
consolidated financial statements and separate from the parent’s equity. The
amount of net income attributable to the noncontrolling interest will be
included in consolidated net income on the face of the income statement.
SFAS 160 clarifies that changes in a parent’s ownership interest in a
subsidiary that do not result in deconsolidation are equity transactions if the
parent retains it controlling financial interest. In addition, this statement
requires that a parent recognize a gain or loss in net income when a subsidiary
is deconsolidated. Such gain or loss will be measured using the fair value of
the noncontrolling equity investment on the deconsolidation date. SFAS 160
also includes expanded disclosure requirements regarding the interests of the
parent and its noncontrolling interest. SFAS 160 is effective for fiscal
years, and interim periods within those fiscal years, beginning on or after
December 15, 2008. Earlier adoption is prohibited. The Company is currently
assessing SFAS No. 160 and has not yet determined the impact, if any, that
the adoption of SFAS No. 160 will have on its financial position, results
of operations and cashflows.
Useful
Life of Intangible Assets
In April 2008, the FASB issued FASB
Staff Position 142-3, “Determination of the Useful Life of
Intangible Assets” (“FSP 142-3”). FSP 142-3 amends the factors
that should be considered in developing renewal or extension assumptions used to
determine the useful life of a recognized intangible asset under
SFAS Statement No. 142, “Goodwill and Other Intangible
Assets” (“SFAS 142”). The objective of FSP 142-3 is to improve
the consistency between the useful life of a recognized intangible asset under
SFAS 142 and the period of expected cash flows used to measure the fair
value of the asset under SFAS 141(R), “Business Combinations”, and
other U.S. generally accepted accounting principles. FSP 142-3 will be
effective beginning in fiscal year 2010. The Company is currently assessing
FSP142-3 and has not yet determined the impact, if any, that the adoption of FSP
142-3 will have on its consolidated financial statements.
Defensive
Intangible Assets
In November 2008, the FASB ratified
EITF Issue No. 08-7, Accounting for Defensive Intangible
Assets, (“EITF 08-7”). EITF 08-7 applies to defensive
intangible assets, which are acquired intangible assets that the acquirer does
not intend to actively use but intends to hold to prevent its competitors from
obtaining access to them. As these assets are separately identifiable,
EITF 08-7 requires an acquiring entity to account for defensive intangible
assets as a separate unit of accounting, which should be amortized to expense
over the period the asset diminished in value. Defensive intangible assets must
be recognized at fair value in accordance with SFAS 141(R) and
SFAS 157. EITF 08-7 is effective for financial statements issued for
fiscal years beginning after December 15, 2008. The Company is currently
assessing EITF 08-7 and has not yet determined the impact, if any, that the
adoption of EITF 08-7 will have on its consolidated financial
statements.
|
QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK.
|
The
primary objective of our investment activities is to preserve principal while
maximizing the income we receive from our investments without significantly
increasing the risk of loss. Some of the investment securities permitted under
our cash management policy may be subject to market risk for changes in interest
rates. To mitigate this risk, we maintain a portfolio of cash equivalent and
short-term investments in a variety of securities which may include money market
funds, government debt issued by the United States of America, state debt,
certificates of deposit and investment grade corporate debt. Presently, we are
exposed to minimal market risks associated with interest rate changes. We manage
the sensitivity of our results of operations to these risks by maintaining
investment grade short-term investments. Our cash management policy does not
allow us to purchase or hold derivative or commodity instruments or other
financial instruments for trading purposes. Additionally, our policy stipulates
that we periodically monitor our investments for adverse material holdings
related to the underlying financial solvency of the issuer. As of
December 31, 2008, our investments consisted of money market funds. Our
results of operations and financial condition would not be significantly
impacted by either a 10% increase or decrease in interest rates due mainly to
the short-term nature of our investment portfolio.
Our sales
outside the United States are transacted in U.S. dollars; accordingly our
sales are not generally impacted by foreign currency rate changes. Our operating
expenses are denominated primarily in U.S. Dollars, except for expenses incurred
by our wholly owned subsidiaries in India, Taiwan, and China, which are
denominated in the local currency. To date, fluctuations in foreign currency
exchange rates have not had a material impact on our results of
operations.
|
FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA.
|
NETLOGIC
MICROSYSTEMS, INC.
Index
to Financial Statements
REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the
Board of Directors and Stockholders of
NetLogic
Microsystems, Inc.:
In our
opinion, the consolidated financial statements listed in the index appearing
under Item 15(a)(1) present fairly, in all material respects, the financial
position of NetLogic Microsystems, Inc. and its subsidiaries at
December 31, 2008 and 2007, and the results of their operations and their
cash flows for each of the three years in the period ended December 31,
2008 in conformity with accounting principles generally accepted in the United
States of America. In addition, in our opinion, the financial statement schedule
listed in the index appearing under Item 15(a)(2) presents fairly, in all
material respects, the information set forth therein when read in conjunction
with the related consolidated financial statements. Also in our opinion, the
Company maintained, in all material respects, effective internal control over
financial reporting as of December 31, 2008, based on criteria established
in Internal
Control—Integrated
Framework issued by the Committee of Sponsoring Organizations
of the Treadway Commission (COSO). The Company’s management is responsible for
these financial statements and financial statement schedule, for maintaining
effective internal control over financial reporting and for its assessment of
the effectiveness of internal control over financial reporting, included in
Management’s Report on Internal Control Over Financial Reporting appearing under
Item 9A. Our responsibility is to express opinions on these financial
statements, on the financial statement schedule, and on the Company’s internal
control over financial reporting based on our integrated audits. We conducted
our audits in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and
perform the audits to obtain reasonable assurance about whether the financial
statements are free of material misstatement and whether effective internal
control over financial reporting was maintained in all material respects. Our
audits of the financial statements included examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. Our audit of internal
control over financial reporting included obtaining an understanding of internal
control over financial reporting, assessing the risk that a material weakness
exists, and testing and evaluating the design and operating effectiveness of
internal control based on the assessed risk. Our audits also included performing
such other procedures as we considered necessary in the circumstances. We
believe that our audits provide a reasonable basis for our
opinions.
As
discussed in Note 7 to the consolidated financial statements, the Company
changed the manner in which it accounts for uncertainty in income taxes in
fiscal 2007.
A
company’s internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company’s internal control over
financial reporting includes those policies and procedures that
(i) pertain to the maintenance of records that, in reasonable detail,
accurately and fairly reflect the transactions and dispositions of the assets of
the company; (ii) provide reasonable assurance that transactions are
recorded as necessary to permit preparation of financial statements in
accordance with generally accepted accounting principles, and that receipts and
expenditures of the company are being made only in accordance with
authorizations of management and directors of the company; and
(iii) provide reasonable assurance regarding prevention or timely detection
of unauthorized acquisition, use, or disposition of the company’s assets that
could have a material effect on the financial statements.
Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of
compliance with the policies or procedures may deteriorate.
/s/
PricewaterhouseCoopers LLP
San Jose,
California
March 4,
2009
(IN
THOUSANDS)
|
|
December
31,
|
|
|
|
|
|
|
|
|
ASSETS
|
|
|
|
|
|
|
Current
assets:
|
|
|
|
|
|
|
Cash
and cash equivalents
|
|
$ |
83,474 |
|
|
$ |
50,689 |
|
Short-term
investments
|
|
|
13,067 |
|
|
|
- |
|
Accounts
receivables, net
|
|
|
8,382 |
|
|
|
14,838 |
|
Inventories
|
|
|
13,707 |
|
|
|
12,938 |
|
Deferred
income taxes
|
|
|
3,217 |
|
|
|
5,396 |
|
Prepaid
expenses and other current assets
|
|
|
1,937 |
|
|
|
3,320 |
|
Total
current assets
|
|
|
123,784 |
|
|
|
87,181 |
|
Property
and equipment, net
|
|
|
5,513 |
|
|
|
5,745 |
|
Goodwill
|
|
|
68,712 |
|
|
|
55,422 |
|
Intangible
asset, net
|
|
|
39,538 |
|
|
|
52,837 |
|
Other
assets
|
|
|
8,224 |
|
|
|
1,966 |
|
Total
assets
|
|
$ |
245,771 |
|
|
$ |
203,151 |
|
LIABILITIES
AND STOCKHOLDERS' EQUITY
|
|
|
|
|
|
|
|
|
Current
liabilities
|
|
|
|
|
|
|
|
|
Accounts
payable
|
|
$ |
7,618 |
|
|
$ |
7,094 |
|
Accrued
liabilities
|
|
|
25,920 |
|
|
|
13,286 |
|
Deferred
margin
|
|
|
1,638 |
|
|
|
317 |
|
Software
licenses and other obligations, current
|
|
|
755 |
|
|
|
2,528 |
|
Total
current liabilities
|
|
|
35,931 |
|
|
|
23,225 |
|
Software
licenses and other obligations, long-term
|
|
|
464 |
|
|
|
- |
|
Other
liabilities
|
|
|
9,109 |
|
|
|
8,038 |
|
Total
liabilities
|
|
|
45,504 |
|
|
|
31,263 |
|
Commitments
and contingencies (Note 8)
|
|
|
|
|
|
|
|
|
Stockholders'
equity
|
|
|
|
|
|
|
|
|
Preferred
stock; 50,000 shares authorized at December 31, 2008 and 2007; none issued
and outstanding at December 31, 2008 and 2007
|
|
|
- |
|
|
|
- |
|
Common
stock; 200,000 shares authorized at December 31, 2008 and 2007; 21,908 and
21,314 shares issued and outstanding at December 31, 2008 and
2007
|
|
|
219 |
|
|
|
213 |
|
Additional
paid-in capital
|
|
|
276,042 |
|
|
|
251,241 |
|
Accumulated
other comprehensive loss
|
|
|
(13 |
) |
|
|
(8 |
) |
Accumulated
deficit
|
|
|
(75,981 |
) |
|
|
(79,558 |
) |
Total
stockholders' equity
|
|
|
200,267 |
|
|
|
171,888 |
|
Total
liabilities and stockholders' equity
|
|
$ |
245,771 |
|
|
$ |
203,151 |
|
The
accompanying notes are an integral part of these consolidated financial
statements.
(IN
THOUSANDS, EXCEPT FOR PER SHARE AMOUNTS)
|
|
Year
ended December 31,
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
|
|
$ |
139,927 |
|
|
$ |
109,033 |
|
|
$ |
96,806 |
|
Cost
of revenue
|
|
|
61,616 |
|
|
|
44,732 |
|
|
|
36,762 |
|
Gross
profit
|
|
|
78,311 |
|
|
|
64,301 |
|
|
|
60,044 |
|
Operating
expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
Research
and development
|
|
|
51,607 |
|
|
|
45,175 |
|
|
|
36,578 |
|
In-process
research and development
|
|
|
- |
|
|
|
1,610 |
|
|
|
10,700 |
|
Selling,
general and administrative
|
|
|
26,567 |
|
|
|
19,672 |
|
|
|
15,455 |
|
Total
operating expenses
|
|
|
78,174 |
|
|
|
66,457 |
|
|
|
62,733 |
|
Income
(loss) from operations
|
|
|
137 |
|
|
|
(2,156 |
) |
|
|
(2,689 |
) |
Interest
income
|
|
|
1,595 |
|
|
|
4,431 |
|
|
|
3,737 |
|
Other
income (expenses), net
|
|
|
(92 |
) |
|
|
32 |
|
|
|
3 |
|
Income
before income taxes
|
|
|
1,640 |
|
|
|
2,307 |
|
|
|
1,051 |
|
Provision
for (benefit from) income taxes
|
|
|
(1,937 |
) |
|
|
(288 |
) |
|
|
459 |
|
Net
income
|
|
$ |
3,577 |
|
|
$ |
2,595 |
|
|
$ |
592 |
|
Net
income per share-basic
|
|
$ |
0.17 |
|
|
$ |
0.13 |
|
|
$ |
0.03 |
|
Net
income per share-diluted
|
|
$ |
0.16 |
|
|
$ |
0.12 |
|
|
$ |
0.03 |
|
Shares
used in calculation-basic
|
|
|
21,472 |
|
|
|
20,747 |
|
|
|
19,758 |
|
Shares
used in calculation-diluted
|
|
|
22,314 |
|
|
|
21,938 |
|
|
|
21,107 |
|
The
accompanying notes are an integral part of these consolidated financial
statements.
(IN
THOUSANDS)
|
|
Common
Stock
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Additional
Paid-In
Capital
|
|
|
Notes
Receivable
from
Stockholders
|
|
|
Deferred
Stock-based
Compensation
|
|
|
Accumulated
Other
Comprehensive
Income
(Loss)
|
|
|
Accumulated
Deficit
|
|
|
Total
Stockholder's
Equity
|
|
Balance
at December 31, 2005
|
|
|
18,075 |
|
|
$ |
180 |
|
|
$ |
152,379 |
|
|
$ |
(44 |
) |
|
$ |
(1,114 |
) |
|
$ |
- |
|
|
$ |
(82,745 |
) |
|
$ |
68,656 |
|
Issuance
of common stock in connection with the acquisition of Cypress NSE
business
|
|
|
1,653 |
|
|
|
17 |
|
|
|
56,184 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
56,201 |
|
Issuance
of stock under stock compensation plans
|
|
|
697 |
|
|
|
7 |
|
|
|
4,803 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4,810 |
|
Issuance
of stock for warrant exercise
|
|
|
14 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
- |
|
Amortization
of deferred stock-based compensation
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
778 |
|
|
|
|
|
|
|
|
|
|
|
778 |
|
Reversal
of deferred stock-based compensation due to terminations
|
|
|
|
|
|
|
|
|
|
|
(16 |
) |
|
|
|
|
|
|
16 |
|
|
|
|
|
|
|
|
|
|
|
- |
|
Reversal
of deferred stock-based compensation upon adoption of FAS
123R
|
|
|
|
|
|
|
|
|
|
|
(138 |
) |
|
|
|
|
|
|
138 |
|
|
|
|
|
|
|
|
|
|
|
- |
|
Recording
of stock-based compensation expense under SFAS 123R
|
|
|
|
|
|
|
|
|
|
|
11,316 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
11,316 |
|
Repayment
of notes receivable
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
44 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
44 |
|
Tax
benefits of stock options
|
|
|
|
|
|
|
|
|