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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the Fiscal Year Ended December 31, 2001
or
[_] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
for the transition period from ___________ to ___________
Commission File Number 0-25996
TRANSWITCH CORPORATION
(Exact name of Registrant as Specified in its Charter)
Delaware 06-1236189
(State of Incorporation) (I.R.S. Employer Identification Number)
Three Enterprise Drive
Shelton, Connecticut 06484
(Address of principal executive offices, including zip code)
Telephone (203) 929-8810
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.001 per share,
outstanding at March 15, 2002: 89,949,758
Series A Junior Participating Preferred Stock Purchase Rights
4 1/2% Convertible Notes due 2005 outstanding at March 15, 2002: $114,113,000
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. [_]
The aggregate market value of the voting common stock held by
non-affiliates of the Registrant, based upon the closing sale price of common
stock on March 15, 2002, as reported on the Nasdaq National Market, was
approximately $301.3 million. Shares of common stock held by each executive
officer and director and by each person who to the Company's knowledge owns 5%
or more of the outstanding voting common stock have been excluded in that such
persons may be deemed to be affiliates. This determination of affiliate status
is not necessarily a conclusive determination for other purposes.
DOCUMENTS INCORPORATED BY REFERENCE
Parts of the following document are incorporated by reference in Part III
of this Form 10-K Report:
(1) Proxy Statement for Registrant's 2001 Annual Meeting of
Shareholders--Items 10, 11, 12 and 13.
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1
Item 1. Business.
The following description of our business should be read in conjunction
with the information included elsewhere in this document. The description
contains certain forward-looking statements that involve risks and
uncertainties. When used in this document, the word "intend", "believe",
"estimate", "plan", and "expect" and similar expressions as they relate to us
are included to identify forward-looking statements. Our actual results could
differ materially from the results discussed in the forward-looking statements
as a result of certain risk factors set forth elsewhere in this document. See
also, "Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations" and "Certain Factors That May Affect Future Results."
General
We are a Delaware corporation incorporated on April 26, 1988, that
designs, develops, markets and supports highly integrated digital and
mixed-signal (analog and digital) semiconductor system-on-a-chip solutions for
use in building emerging networks for telecommunications and data communications
applications. Our very large-scale integrated (VLSI) semiconductor devices
provide core functionality for communications network equipment. Our
programmable VLSI solutions can be tailored by network equipment manufacturers
to provide high levels of functionality for broadband communication networks and
to implement value-added features, thus differentiating our products from
competitive offerings. Our programmable VLSI solutions also accommodate new
customer application requirements and protocol changes throughout the networking
equipment life cycle. Our VLSI devices are compliant with
Asynchronous/Plesiochronous Digital Hierarchy (Asynchronous/PDH), Synchronous
Optical Network/Synchronous Digital Hierarchy (SONET/SDH) and Asynchronous
Transfer Mode/Internet Protocol (ATM/IP) standards. We also offer products that
combine multi-protocol capabilities on a single chip that can be programmed for
multi-service applications. Our mixed-signal and digital design capability, in
conjunction with our communications systems expertise, enables us to determine
and implement optimal combinations of design elements for enhanced
functionality. We believe that this approach permits our customers to achieve
faster time-to-market and to introduce systems that offer greater functionality,
improved performance, lower power dissipation, reduced system size and cost and
greater reliability relative to discrete solutions.
Our principal customers are Original Equipment Manufacturers (OEMs) that
serve three market segments:
o the worldwide public network infrastructure that supports voice and
data communications;
o the Internet infrastructure that supports the World Wide Web and
other data services; and
o corporate Wide Area Networks (WANs) that support voice and data
information exchange within medium-sized and large enterprises.
We have sold our VLSI devices to more than 400 customers worldwide. We
sell our products through a worldwide direct sales force and a worldwide network
of independent distributors and sales representatives.
Products and Applications
We supply high-speed, broadband VLSI semiconductor devices to network
systems OEMs that serve three market segments: the worldwide public network
infrastructure that supports both voice and data communications, the Internet
infrastructure that supports the World Wide Web and other data services and
corporate WANs. As a system-on-a-chip innovation leader, our core competencies
include:
o an in-depth understanding of SONET/SDH, Asynchronous/PDH and ATM/IP
standards;
o the ability to design complex mixed-signal high-speed VLSI devices;
and
o the capability to verify the design against our customers'
requirements and industry standards through analysis, simulation,
emulation, verification and certification.
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Our three product lines consist of (a) SONET/SDH, (b) Asynchronous/PDH and
(c) ATM/IP VLSI semiconductor devices. We believe that our chip-set approach and
broad product coverage in all three product lines position us as a "one-stop
source" for broadband communications VLSI products. Network equipment OEMs can
mix and match our VLSI devices to optimally configure their specific systems.
Our product lines can be combined to provide a cost-effective communication
systems solution with increased functional integration and features while
providing seamless integration of SONET/SDH, Asynchronous/PDH and ATM/IP for
broadband network applications. In 2001, the prices for our products typically
ranged from approximately $10 to $200 per device, depending on technology,
volume, complexity and functionality.
During the last few years, we extended our product family to provide
seamless integration of Asynchronous/PDH, SONET/SDH and ATM/IP protocols on a
single chip. The mix and match of protocols in these products enables our
telecommunications and data communications OEMs to develop multi-service systems
for access and transport applications.
SONET/SDH Products
In the SONET/SDH area, we offer devices that provide a direct interface
for fiber optic transmission in North America, Europe and Asia. Our mappers,
which bridge the interconnections between SONET/SDH equipment and asynchronous
equipment, allow DS-series and E-series transmission lines to be connected with
SONET/SDH lines. These mappers transparently transport Asynchronous/PDH signals
across the SONET/SDH network.
Our current SONET/SDH products are used to build access equipment,
add/drop multiplexers, digital cross connects and other telecommunication and
data communications equipment. This equipment is configured for use in both
domestic and international fiber-based public networks. Our SONET/SDH products
have applications in Customer Premise Equipment (CPE), such as routers and hubs
and in central offices, adding integrated fiber optic transmission capability to
telephone switches.
Asynchronous/PDH Products
Our Asynchronous/PDH products provide high-bandwidth connections and are
used to configure transmission equipment for use in the public network. This
equipment is used to increase the capacity of the copper-based public network.
Our Asynchronous/PDH VLSI products also enable CPE, such as hubs and routers
used in WANs and Local Area Networks (LANs), to access the public network for
voice and data communications with similar products in other locations.
Our Asynchronous/PDH products provide high levels of integration, as well
as cost, power and performance benefits relative to discrete and competing
integrated circuit solutions. Our Asynchronous/PDH VLSI products include devices
that provide solutions for DS-0 through DS-3 and E-1 through E-3 transmission
lines. This product line includes line interfaces, multiplexers, which combine
multiple low-speed lines to form a higher speed line, as well as demultiplexers,
which perform the reverse function. In addition, we offer framers, which are
devices that identify the starting points of defined bit streams and enable
systems to recognize the remaining bits.
ATM/IP Products
Our ATM/IP family of products targets the core elements of ATM/IP-based
multi-service access multiplexer systems. Our CellBus(R) is a system
architecture for implementing ATM/IP access multiplexers and ATM/IP switching
systems. The first two products incorporating our CellBus Technology were the
CUBIT and CUBIT-Pro VLSI devices. Our CellBus Technology provides single-chip
ATM/IP switching capability in access equipment. These products have been
designed into many network system OEMs' solutions since late 1995, establishing
CellBus as a significant technology in the global broadband network access
market. Our ATM/IP products also include VLSI semiconductor devices for line
interfacing and service adaptation functions.
Technology
We believe that one of our core competencies is our personnels' knowledge
of the telecommunications and data communications landscape. Specifically, our
systems engineering personnel group possess substantial
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telecommunications and data communications design experience, as well as
extensive knowledge of these relevant standards. This includes not only a
thorough understanding of the actual written standards, but also an awareness of
and appreciation for the nuances associated with these standards necessary for
assuring that device designs are fully compliant. To date, we have been very
successful in delivering VLSI devices that are standards compliant as we have
insignificant warranty claims.
Complementing our communications industry expertise is our VLSI design
competence. Our VLSI design personnel have extensive experience in designing
high-speed digital and mixed-signal devices for communications applications.
These designs require a sophisticated understanding of complex technology, as
well as the specifics of the deep submicron manufacturing processes and their
resulting impact on device performance. We have developed a large number of VLSI
blocks and intellectual property (IP) cores that operate under the demanding
requirements of the telecommunications and data communications industries. These
blocks and IP cores have been designed using standard VLSI-oriented programming
languages such as Visic Hardware Descriptive Language (VHDL) and Verilog and
verified with standard verification tools.
We have developed proprietary tool sets, called "Test Benches", that
facilitate on-time development of VLSI products and help assure that our
products meet customer and standards requirements. These Test Benches consist of
behavioral models of all applicable functions in a high level design environment
and also include test signal generators and analyzers such as models of
SONET/SDH signals. Systems engineers use Test Benches to test new architectural
concepts, while VLSI designers use Test Benches to ensure that the device
conforms to product specifications.
We have invested significant resources in developing a multi-million gate
system-on-a-chip architecture, with a high level of software functionality for
our programmable products. Besides our ASPEN family, we have our PHAST
(Programmable High Performance ATM/PPP (Point-to-Point Protocol)/TDM (Time
Division Multiplexing) SONET/SDH Terminator) series of products that target
simultaneous mapping and transport of ATM/PPP and TDM services over fiber optic
networks. In addition, we have introduced the first product in a family of
devices to provide complete channeled services for Access Networks. The T3BwP
VLSI device supports both data and management planes with an on-chip Reduced
Instruction Set Computing (RISC) processor supporting full standards based
management and performance monitoring.
We have enhanced our internal chip layout through the acquisition of
experienced personnel through standard hiring practices and enhanced our design
for test capability through the acquisition of Horizon Semiconductors, Inc.,
both of which have resulted in significant improvements in silicon efficiency
and time-to-market. Our system-on-a-chip definition, architecture, verification
expertise and design methodology ensure that hardware and software architectural
trade-offs yield desired performance from our VLSI solutions. The
system-on-a-chip performance, simulation, emulation, verification and stress
testing, using Test Benches and test equipment, provides customers with wire
speed services.
Marketing and Sales
Our marketing strategy focuses on key customer relationships to promote
early adoption of our VLSI devices in the products of market-leading
communications equipment OEMs. Through our customer sponsorship program, OEMs
collaborate on product specifications and applications while participating in
product testing in parallel with our own certification process. This approach
accelerates our customers' time-to-market delivery while enabling us to achieve
early design wins for our products and derive non-recurring engineering expense
support and volume forecasts for specific products from these sponsors.
Our sales strategy focuses on worldwide suppliers of high-speed
communications and communications-oriented equipment. These customers include
telecommunications, data communications, Internet, customer premise, computing,
process control and defense equipment vendors. In addition, we target emerging
technology leaders in the communications equipment market that are developing
next generation solutions for the telecommunications and data communications
markets. We identify and address sales opportunities through our worldwide
direct sales force and our worldwide network of independent distributors and
sales representatives.
Our worldwide direct sales force, technical support personnel and key
engineers work together in teams to support our customers. We have technical
support capabilities located in key geographical locations throughout the world
as well as a technical support team at our headquarters as a backup to the field
applications engineers.
We have established foreign distributors and sales representative
relationships in Australia, Benelux, Brazil, Canada, China, France, Germany,
Great Britain, Israel, Italy, Japan, Korea, Spain, Sweden, Switzerland and
Taiwan. We also sell our products through domestic distributors and a network of
domestic sales representatives. We have
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regional sales and technical support capabilities in Boston, Massachusetts;
Chicago, Illinois; San Jose, California; Morristown, New Jersey; Raleigh/Durham,
North Carolina; Dallas, Texas; Ottawa, Ontario; Stockholm, Sweden; Paris,
France; Rome, Italy; Berkshire, England; Hilversum, Netherlands; Brussels,
Belgium; Tel Aviv, Israel; New Delhi, India; Singapore, Singapore; and Taipei,
Taiwan, as well as at our headquarters facility in Shelton, Connecticut.
Customers
We have sold our products and services to over 400 customers since
shipping our first product in 1990. Our customers include public network systems
OEMs that incorporate our products into telecommunications systems, WAN and LAN
equipment OEMs, Internet-oriented OEMs, communications test and performance
measurement equipment OEMs and government, university and private laboratories
that use our products in advanced public network and WAN and LAN developments.
Foreign net revenues, consisting primarily of shipments to customers in
Europe and Asia, constituted 69%, 46% and 32% of net revenues in the years 2001,
2000 and 1999, respectively. Refer also to note 6 of our financial statements of
our consolidated financial statements for additional detail about geographic
sales.
We sell our products through a worldwide direct sales force and through a
worldwide network of distributors and sales representatives. The following
tables set forth the percentage of net revenues attributable to all of our major
distributors as well as the significant customers that had total purchases
(either direct or through distributors) of greater than 10% of net revenues for
the three years ended December 31, 2001:
Years ended December 31,
2001 2000 1999
-------------------------------------------
Distributors:
Insight Electronics, Inc.(1)............................................ 24% 32% 33%
Weone Corporation(2).................................................... 10% * *
Unique Memec(3)......................................................... 10% 16% *
Arrow Electronics, Inc.(4).............................................. * * 18%
Significant Customers:
Siemens AG(3)........................................................... 21% * *
Redback Networks, Inc.(1)............................................... 12% * *
Samsung Corporation(2).................................................. 11% * *
Lucent Technologies, Inc.(1)(5)......................................... 11% 11% 16%
Tellabs, Inc.(1)(4)..................................................... * 16% 13%
Nortel Networks Corporation(1)(4)....................................... * * 13%
(1) The end customers of the shipments to Insight Electronics, Inc. include
Redback Networks, Inc. in 2001, Lucent Technologies, Inc. in 2001, 2000
and 1999, a portion of Tellabs, Inc. purchases in 2000 and a portion of
Nortel Networks Corporation's purchases in 1999.
(2) The primary end customer of the shipments to Weone Corporation was Samsung
Corporation in 2001.
(3) A portion of the shipments to Siemens AG were distributed through Unique
Memec.
(4) The end customers of the shipments to Arrow Electronics, Inc. include
Tellabs, Inc. in 1999 and 2000 as well as Nortel Networks Corporation in
1999.
(5) Shipments to Lucent Technologies, Inc. also includes those made to Ascend
Communications, which was acquired by Lucent Technologies, Inc. during
1999.
* Revenues were less than 10% of our net revenues in these years.
A limited number of customers have accounted for a substantial portion of
our net revenues. Shipments in 2001, 2000 and 1999 to our top five customers,
including sales to distributors, accounted for approximately 64%, 66% and 72%
respectively, of our net revenues. We expect that a limited number of customers
may account for a substantial portion of the net revenues for the foreseeable
future.
5
Research and Development
We believe that the continued introduction of new products in our target
markets is essential to our growth. As of December 31, 2001, we had 291
full-time employees engaged in research and development efforts. We have added
98 employees to our research and development staff since December 31, 2000. We
employ designers who have the necessary engineering and systems qualifications
and are experienced in software, mixed-signal, high-speed digital,
telecommunications and data communications technologies. See Item 2
"Properties," for a listing of our design centers that are engaged in product
development.
Research and development expenditures for the years 2001, 2000 and 1999
were $49.3 million, $24.2 million, and $14.5 million, respectively. In 2001 and
2000, we also expensed $22.0 and $2.8 million of purchased in-process research
and development related to the acquisitions of Opal Acquisition Corporation
(formerly known as Onex Communications Corporation) (Onex) and TranSwitch
Silicon Valley, Inc. (formerly known as Alacrity Communications, Inc.)
(Alacrity), respectively.
All development efforts are carried out using ISO 9001 certified design
processes and the design tools and environment are continuously updated to
improve design, fabrication and verification of products. From time to time, we
subcontract design services and acquire products from third parties to enhance
our product lines. Our internal research and development organization thoroughly
reviews the external development processes and the design of these products as
part of its quality assurance process.
Patents and Licenses
We have ninety patents issued and eighty-eight patent applications pending
worldwide. Of the ninety issued patents, one is co-owned by ECI Telecom Ltd. and
one is co-owned by Siemens Telecommunications Systems Ltd. We have thirty-seven
patents issued and nineteen patent applications pending in the United States. We
have nine patents issued and nineteen patent applications pending in Canada. We
have seven patents issued in Taiwan, with one patent being co-owned by Siemens
Telecommunications Systems Ltd. We have four patents issued and twelve patents
pending in the People's Republic of China and one patent pending in Hong Kong.
We have five, two, five, four, three, two, one and one patents issued in the
United Kingdom, Belgium, France, Germany, Italy, Sweden, Spain and Ireland,
respectively. We also have two, seventeen and six patent applications pending in
the United Kingdom, in selected countries in the European Patent Office (EPO)
and under the Patent Cooperation Treaty (PCT). In addition, we have two patents
issued and nine patent applications pending in Japan and eight patents issued
and four patents pending in Israel. None of our domestic or foreign patents that
have been issued will expire in the near future unless we choose not to pay
renewal fees. Our oldest patent is not scheduled to expire for over six years.
We cannot guarantee that our patents will not be challenged or
circumvented by our competitors, and we cannot be sure that pending patent
applications will ultimately be issued as patents. Under current law, patent
applications in the United States filed before November 29, 2000 are maintained
in secrecy until they are issued but applications filed after November 29, 2000
(and foreign applications) are generally published 18 months after their
priority date, which is generally the filing date. The right to a patent in the
United States is attributable to the first to invent, while in most
jurisdictions the right to a patent is obtained by the first to file the patent
application. We cannot be sure that our products or technologies do not infringe
patents that may be granted in the future based upon currently pending
non-published patent applications or that our products do not infringe any
patents or proprietary rights of third parties. From time to time, we receive
communications from third parties alleging patent infringement. If any relevant
claims of third-party patents are upheld as valid and enforceable, we could be
prevented from selling our products or could be required to obtain licenses from
the owners of such patents or be required to redesign our products to avoid
infringement. We cannot be assured that such licenses would be available or, if
available, would be on terms acceptable to us or that we would be successful in
any attempts to redesign our products or processes to avoid infringement. Our
failure to obtain these licenses or to redesign our products would have a
material adverse effect on our business.
6
We also have been granted registration of 14 trade or service marks in the
United States, and we have twelve more U.S. applications for trademarks awaiting
approval. We have also obtained four trademark registrations under the European
Community Trademark (ECT) procedure with three awaiting approvals for the ECT as
well as Canada.
Our ability to compete depends upon our ability to protect our proprietary
information through various means, including ownership of patents, copyrights,
mask work registrations and trademarks. While no intellectual property right of
ours has been invalidated or declared unenforceable, we cannot assure that such
rights will be upheld in the future. We believe that, in view of the rapid pace
of technological change in the communication semiconductor industry, the
technical experience and creative skills of our engineers and other personnel
are the most important factors in determining our future technological success.
We have entered into various license agreements for product or technology
exchange. The purpose of these licenses has, in general, been to obtain second
sources for standard products or to convey or receive rights to certain
proprietary or patented cores, cells or other technology.
We sell our products into the telecommunications and data communications
industries, in which products are subject to various standards that are agreed
upon by recognized industry standards committees. Where applicable, we design
our products to be in conformity with these standards. We have received and
expect to continue to receive, in the normal course of business, communications
from third parties stating that if certain of our products meet a particular
standard, these products may infringe one or more patents of that third party.
We will review the circumstances of each communication, and, in our discretion
and upon the advice of legal counsel, have taken or may take in the future one
of the following courses of action: we may negotiate payment for a license under
the patent or patents that may be infringed, we may use our technology and/or
patents to negotiate a cross-license with the third party or we may decline to
obtain a license on the basis that we do not infringe the claimant's patent or
patents, or that such patents are not valid, or other bases. We cannot assure
that licenses for any of these patents will be available to us on reasonable
terms or that we would prevail in any litigation seeking damages or expenses
from us or to enjoin us from selling our products on the basis of any of the
alleged infringements.
Manufacturing and Quality
Our manufacturing objective is to produce reliable, high-quality devices
cost-competitively. To this end, we seek to differentiate ourselves by:
o maximizing the reliability and quality of our products;
o achieving on-time delivery of our products to our customers;
o minimizing capital and other resource requirements by subcontracting
capital-intensive manufacturing; and
o achieving a gross margin commensurate with the value of our
products.
Established independent foundries manufacture all of our VLSI devices.
This approach permits us to focus on our design strengths, minimize fixed costs
and capital expenditures and access diverse manufacturing technologies.
Currently, we utilize seven foundries to process our wafers of which four are
governed by foundry agreements: Texas Instruments Incorporated (TI), LSI Logic
Corporation (LSI), IBM Microelectronics (a division of IBM) and Taiwan
Semiconductor Manufacturing Company Limited (TSMC). Foundries are required to
have qualified and reliable processes. The selection of a foundry for a specific
device is based on availability of the required process technology and the
foundry's capability to support the particular set of tools used by us for that
device. Currently, TI manufactures all of our Bipolar Complementary Metal Oxide
Semiconductor (BiCMOS) devices. We have no agreements with any other foundries.
Various independent subcontractors and foundry suppliers perform assembly
and testing functions. Additionally, certain testing and inspection functions
are performed at our facility in Shelton, Connecticut.
TUV Rheinland of North America, Inc. registers us as complying with the
requirements of ISO 9001.
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Acquisitions
While some of the next generation products we introduce are based on
technologies that we develop ourselves, we have filled some of our technology
gaps through acquisitions. The following is a table that summarizes technology
and skills we obtained through acquisitions of stand-alone companies during the
three years ended December 31, 2001.
Acquired Company Date Acquired Technology / Skill Acquired
- ---------------------------------------------------------------------------------------------------------------------------------
Easics NV May 2000 Design methodology/design resources
TranSwitch Silicon Valley, Inc. August 2000 ATM Switching, design resources, Astrix and Sertopia
(formerly known as Alacrity products
Communications, Inc.)
ADV Engineering S.A. January 2001 Telecom VLSI design/software resources
Horizon Semiconductors, Inc. February 2001 Built-in self-test technology/CAD resources
Opal Acquisition Corporation September 2001 Multi-protocol, high-speed switching products/design
(formerly known as Onex resources
Communication Corporation)
Investments in Non-Publicly Traded Companies
We will, from time-to-time, make investments of less than 20% in early
stage venture-backed, start-up companies that develop technologies that are
complementary to our product roadmap. The following is a table that summarizes
the investments we have made and their related technologies during the three
years ended December 31, 2001.
Initial
Investment
Investee Company Date Technology
- ------------------------------------------------------------------------------------------------------------------------------
OptiX Networks, Inc. February 2000 10 Gb/s and 40 Gb/s SONET/SDH framing devices
Intellectual Capital for December 2000 Next generation wireless base station VLSI devices
Integrated Circuits, Inc.
Systems On Silicon, Inc. January 2001 Integrated access products with voice over packet capability
TeraOp (USA), Inc. May 2001 Optical switching devices based on MEMS technology
Accordion Networks, Inc. December 2001 Carrier class broadband multi-service access systems
A summary of each of these businesses including their locations and our
ownership percentage follows. We are including our direct ownership, which is
comprised of TranSwitch, and indirect ownership which is comprised of employees
and directors of TranSwitch or held by GTV Capital, L.P., an limited partnership
in which we have an investment.
Systems On Silicon, Inc. (SOSi) is a Delaware corporation with offices in
Monmouth Junction, New Jersey. The company is developing highly integrated
VLSI solutions leveraging its proprietary Voice over Packet technology
into highly integrated, systems level solutions that address the
requirements of converged networks with an initial focus on the
intelligent integrated access device. TranSwitch Corporation owns directly
and indirectly an aggregate of 10.2% of the outstanding shares of Systems
On Silicon, Inc.
OptiX Networks, Inc. is a Delaware corporation with offices in Weston,
Massachusetts and a research and development center in Kfar Saba, Israel.
OptiX Networks is developing VLSI devices in advanced technologies for the
broadband optical backbone, interoffice and metro area communications.
Initial products will focus on 10 Gb/s and 40 Gb/s SONET/SDH framing.
TranSwitch Corporation directly and indirectly owns an aggregate of 19.0%
of the outstanding shares of OptiX Networks, Inc.
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TeraOp (USA), Inc. is a Delaware corporation with a research and
development center in Magshimim, Israel. TeraOp designs Micro Electro
Mechanical Systems (MEMS) based optical crossbars for next generation
core, metro, storage switches and routers. TranSwitch Corporation directly
and indirectly owns an aggregate of 12.1% of the outstanding shares of
TeraOp (USA), Inc.
Accordion Networks, Inc. is a California corporation with offices in
Milpitas, California. Accordion designs and supplies broadband services
platforms designed to allow service providers to remotely activate,
personalize and manage bandwidth-intensive applications. Accordion's
target market is metro area telecommunications and data communications
providers. TranSwitch Corporation directly and indirectly owns an
aggregate of 9.5% of the outstanding shares of Accordion Networks, Inc.
Intellectual Capital for Integrated Circuits, Inc. (IC4IC) is a Delaware
corporation with offices in Yokneam Illit, Israel. IC4IC specializes in
the designing, developing and marketing of VLSI solutions serving the
wireless Internet market segment for multi-access platform. TranSwitch
Corporation directly and indirectly owns an aggregate of 17.8% of the
outstanding shares of IC4IC.
We do not have any obligation to participate in future rounds of financing
of the above companies although we do have a right of first refusal to purchase
additional securities offered by the above companies. We do not have any
commitments to acquire or merge with any of the companies that we have
investments in. Additionally, we do not have a right of first refusal to acquire
these companies. Our rights are consistent with the rights of all shareholders
in the class of stock that we have purchased.
In fiscal 2001, we also invested in GTV Capital, L.P., which is a
partnership in the business of making, supervising and disposing of capital
investments in equity or equity-related securities in companies engaged in
high-technology industries. The partnership focuses on seed and early-stage
investments in communication infrastructure technology companies including
wireless and optical systems technology, storage and related semiconductor
technology, and media convergence technology. We have a 48% ownership interest
in this partnership and we account for it under the equity method.
Competition
The communication semiconductor industry is intensely competitive and is
characterized by the following:
o rapid technological change in design tools, wafer-manufacturing
technologies, process tools and alternate networking technologies;
o availability of fabrication capacity;
o price erosion;
o unforeseen manufacturing yield problems; and
o heightened international competition in many markets.
The telecommunications and data communications industries, which are our
primary target markets, are also intensely competitive due to deregulation and
heightened international competition.
Our competition consists of specialized semiconductor companies from the
United States as well as other countries and semiconductor divisions of
vertically integrated companies, such as IBM Corporation, Lucent Technologies,
Inc., NEC Corporation and Siemens Corporation. New entrants are also likely to
attempt to obtain a share of the market for our current and future products.
Our principal competitors in the Asynchronous/PDH and SONET/SDH areas are
Applied Micro Circuits Corporation, Conexant Systems, Inc., Cirrus Logic, Inc.,
Maxim Integrated Products Inc., Infineon Technologies, Exar Corporation, Agere
Systems, PMC-Sierra Inc., Texas Instruments, Inc., TriQuint Semiconductor, Inc.,
Vitesse Semiconductor Corporation and Broadcom Corporation. In addition, there
are a number of ASIC vendors, including AMI Semiconductor, LSI Logic Corp. and
STM Microelectronics Group, that compete with us by supplying customer-specific
products to OEMs. In the ATM market, the principal competitors include all the
vendors
9
mentioned above and, in addition, Advanced Micro Devices, Inc. and Intel
Corporation. Numerous other domestic and international vendors have announced
plans to enter into this market.
We believe that the principal bases of competition include:
o product functionality;
o product definition;
o product design;
o test capabilities;
o reliability/quality;
o technical support;
o price;
o time-to-market;
o reputation for quality; and
o financial stability.
We believe that we compete favorably with respect to these factors. We
also believe that our competitive strengths include the distribution channels we
have established, our workforce of highly experienced digital and mixed-signal
circuit designers with strong system architecture skills, and our proprietary
design and development tools, including our proprietary simulation and testing
software, our library of analog and digital blocks and cells and our high
quality worldwide technical support.
Backlog
As of December 31, 2001, our backlog was $4.0 million, as compared to
$66.5 million as of December 31, 2000. Backlog represents firm orders
anticipated to be shipped within the next 12 months. Our business and, to a
large extent, that of the entire communication semiconductor industry, is
characterized by short-term order and shipment schedules. Since orders
constituting our current backlog are subject to changes in delivery schedules or
to cancellation at the option of the purchaser without significant penalty,
backlog is not necessarily an indication of future revenue. During 2001, many of
our customers experienced decreased demand, order cancellations or postponements
and had accumulated significant inventories of our products.
10
Item 2. Properties.
Our headquarters are located in a suburban office park in Shelton,
Connecticut. We have additional sales offices and design centers located
throughout the world. The following is a summary of our offices and locations
for which we have lease commitments of greater than one year:
Location Business Use Square Footage Lease Expiration Dates
- --------------------------------------------------------------------------------------------------------------------------
Shelton, Connecticut(1) Corporation Headquarters, Product 181,711 October 2007 -
Development, Operations, Sales, April 2117
Marketing and Administration
Raleigh, North Carolina Product Development 6,604 October 2005
Stoneham, Massachusetts(2) Product Development and Sales Support 8,924 September 2005
Bedford, Massachusetts Product Development 17,907 September 2003
Milpitas, California Product Development, Sales and Sales Support 8,800 July 2003
Taipei, Taiwan Sales Support 2,500 Less then 1 Year
New Delhi, India Product Development 14,000 Less then 1 Year
Eclubens, Switzerland Product Development 2,640 Less then 1 Year
Leuven, Belgium Product Development, Sales and Sales Support 7,400 Less then 1 Year
Toulouse, France Product Development 4,200 Less then 1 Year
Notes
Refer to note 13 of our consolidated financial statements for additional
disclosures regarding our commitments under lease obligations. Also, refer
to note 11 of our consolidated financial statements regarding our
restructuring charges during fiscal 2001 as we have recorded charges
during the year for future rent payments relating to excess office space.
(1) Of the space being leased in Shelton, Connecticut, approximately
114,000 feet is considered excess for which we have taken a restructuring
charge for in 2001. A portion of this space is currently being sublet.
(2) We have exited the facility in Stoneham, Massachusetts effective
December 31, 2001 and have transitioned the staff and business functions
to our Bedford, Massachusetts facility.
Item 3. Legal Proceedings
We are not party to any material litigation proceedings.
Item 4. Submission of Matters to a Vote of Security-Holders.
We did not submit any matters to a vote of our security-holders during the
three months ended December 31, 2001.
11
PART II
Item 5. Market for Registrants' Common Equity and Related Stockholder Matters
Our common stock is traded on the Nasdaq National Market under the symbol
"TXCC". The following table sets forth, for the periods indicated, the range of
high and low closing prices for our common stock on the Nasdaq National Market.
The prices set forth below reflect a 3-for-2 stock split in the form of a
dividend effected on June 8, 1999, a 3-for-2 stock split in the form of a
dividend effected on January 11, 2000, and 2-for-1 stock split in the form of a
dividend effected on August 10, 2000.
High Low
---- ---
Year Ended December 31, 2000:
First Quarter..................................... $67.25 $19.21
Second Quarter.................................... $48.75 $22.56
Third Quarter..................................... $67.86 $33.19
Fourth Quarter.................................... $74.69 $24.50
Year Ended December 31, 2001:
First Quarter..................................... $55.75 $12.00
Second Quarter.................................... $20.35 $6.69
Third Quarter..................................... $10.75 $2.80
Fourth Quarter.................................... $6.38 $2.15
As of March 15, 2002 there were approximately 557 holders of record and
approximately 41,000 beneficial shareholders of our common stock.
We have never paid cash dividends on our common stock. We currently intend
to retain earnings for use in our business and do not anticipate paying any cash
dividend in the foreseeable future. Any future declaration and payment of
dividends will be subject to the discretion of our Board of Directors, will be
subject to applicable law and will depend upon our results of operations,
earnings, financial condition, contractual limitations, cash requirements,
future prospects and any other factors deemed relevant by our Board of
Directors.
12
Item 6. Selected Financial Data
The following selected consolidated financial data should be read in
conjunction with the consolidated financial statements and related notes thereto
and "Management's Discussion and Analysis of Financial Condition and Results of
Operations" appearing in Item 7 of this Form 10-K. The selected statement of
operations data as well as the selected balance sheet data presented below are
derived from our consolidated financial statements, which have been audited by
KPMG LLP, our independent auditors, and together with their report thereon are
included in Item 8 of this Form 10-K. Historical periods have been restated to
reflect the share-for-share exchange accounted for as a pooling of interests
with Easics NV in May 2000.
Amounts presented in thousands, except per share data Years ended December 31,
--------------------------------------------------
2001 2000 1999 1998 1997
-------- -------- ------- ------- -------
Selected Statement of Operations Data:
Net revenues ................................................ $ 58,682 $155,083 $73,533 $45,993 $28,802
Gross (loss) profit ......................................... (1,799) 108,936 48,323 28,719 17,000
Income (loss) before extraordinary gain ..................... (99,557) 38,355 25,334 6,157 (1,722)
Extraordinary gain from repurchase of 4 1/2% convertible
notes due 2005, net of income taxes of $13,214 ............ 22,093 -- -- -- --
--------------------------------------------------
Net income (loss)(1) ........................................ $(77,464) $ 38,355 $25,334 $ 6,157 $(1,722)
==================================================
Basic earnings (loss) per share before extraordinary gain
(1)(2)(3)(4) .............................................. $ (1.14) $ .47 $ .33 $ .10 $ (.03)
Basic earnings (loss) per share(1)(2)(4) .................... $ (.89) $ .47 $ .33 $ .10 $ (.03)
Diluted earnings (loss) per share(1)(2)(3)(4) ............... $ (.89) $ .44 $ .31 $ .09 $ (.03)
Shares used in calculation of basic earnings (loss) per
Share(2)(4) ............................................... 86,904 81,681 76,676 63,174 55,190
Shares used in calculation of diluted earnings (loss) per
Share(2)(3)(4) ............................................ 86,904 87,559 81,596 67,482 55,190
December 31,
--------------------------------------------------
2001 2000 1999 1998 1997
-------- -------- -------- ------- -------
Selected Balance Sheet Data:
Cash, cash equivalents and short-term investments ... $409,592 $564,124 $ 75,802 $27,903 $22,169
Working capital ..................................... $402,007 $592,934 $ 92,439 $34,286 $26,313
Long-term investments ............................... $ 26,582 $ 54,183 $ 36,003 -- --
Total assets ........................................ $618,711 $741,630 $162,067 $50,175 $38,125
4 1/2% Convertible Notes due 2005 ................... $314,050 $460,000 -- -- --
Total stockholders' equity .......................... $252,440 $257,739 $152,138 $41,255 $30,584
(1) Net loss for fiscal 2001 includes one-time charges for excess inventories
of $39.2 million, restructuring of $32.5 million and asset impairments of
$1.7 million. In fiscal 2001, we recorded a valuation allowance on certain
deferred tax credit carryforwards from which we expect to no longer
realize a future tax benefit. This resulted in a deferred tax expense for
the year ended December 31, 2001 of $3.2 million. In fiscal 1999, we
reversed a valuation allowance for deferred tax assets, which contributed
to the recognition of a tax benefit of $2.8 million for the year ended
December 31, 1999.
(2) Revised to reflect a 3-for-2 stock split in the form of a dividend on June
8, 1999, a 3-for-2 stock split in the form of a dividend on January 11,
2000 and a 2-for-1 stock split in the form of a dividend on August 10,
2000.
(3) For purposes of calculating diluted earnings (loss) per share in 2000 and
2001, the assumed conversion of 4 1/2% Convertible Notes due 2005 is not
taken into consideration as it is anti-dilutive.
(4) Diluted loss per share amounts for the years ended December 31, 2001 and
1997 are the same as basic. Because we recorded a net loss in each of
these years, the assumed exercise of dilutive securities would be
anti-dilutive.
13
Computation of Ratio of Earnings to Fixed Charges:
Years ended December 31,
---------------------------------------------------
Amounts presented in thousands 2001 2000 1999 1998 1997
--------- ------- ------- ------ -------
Earnings:
Income (loss) before income taxes and extraordinary gain(1) ... ($138,407) $62,738 $22,522 $6,544 $(1,621)
Add:
Fixed charges as described below .............................. 23,994 8,988 380 395 439
---------------------------------------------------
($114,413) $71,726 $22,902 $6,939 $(1,182)
===================================================
Ratio of earnings to fixed charges ............................... (4.8) 8.0 60.3 17.6 (2.7)
===================================================
Fixed charges:
Interest expense .............................................. $ 20,613 $ 7,472 $ 35 $ 143 $ 208
Amortization of costs related to indebtedness ................. $ 2,647 $ 1,088 -- -- --
Estimated interest factor in rent expense(2) .................. 734 428 345 252 231
---------------------------------------------------
$ 23,994 $ 8,988 $ 380 $ 395 $ 439
===================================================
(1) The deficiency in earnings to fixed charges is $162.4 million for the year
ended December 31, 2001 and $2.1 million for the year ended December 31,
1997.
(2) The interest factor in rent expense is estimated as one-third of rental
expense.
14
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
The following Management's Discussion and Analysis of Financial Condition
and Results of Operations contains forward-looking statements that involve risks
and uncertainties. When used in this report, the words, "intend", "anticipate",
"believe", "estimate", "plan" and "expect" and similar expressions as they
relate to us are included to identify forward-looking statements. Our actual
results could differ materially from those anticipated in these forward-looking
statements as a result of certain factors, including those set forth under
"Certain Factors That May Affect Future Results" and elsewhere in this report.
You should read this discussion in conjunction with the consolidated financial
statements and the notes thereto included in this report.
Significant Accounting Policies and Use of Estimates
Our financial statements and related disclosures, which are prepared to
conform with accounting principles generally accepted in the United States of
America, require us to make estimates and assumptions that affect the reported
amounts of assets, liabilities, revenues and expenses during the period
reported. We are also required to disclose amounts of contingent assets and
liabilities at the date of the financial statements. Our actual results in
future periods could differ from those estimates. Estimates and assumptions are
reviewed periodically, and the effects of revisions are reflected in the
consolidated financial statements in the period they are determined to be
necessary.
We consider the most significant estimates in our consolidated financial
statements to be those surrounding: (1) revenues, cost of revenues and gross
profit; (2) reserves for excess inventories; (3) valuation of deferred tax
assets; (4) valuation and impairment of goodwill, other intangibles and
long-lived assets; and (5) estimated restructuring reserves. The accounting
policies, basis for these estimates and potential impact to our consolidated
financial statements, should any of these estimates change, are further
described as follows:
Revenues, Cost of Revenues and Gross Profit. Net revenues are comprised of
product shipments, principally to domestic and international telecommunications
and data communications OEMs and to distributors. Net revenues from product
sales are recognized at the time of product shipment when the following criteria
are met: (1) title and risk of loss transfers to the customer; (2) the selling
price is fixed or determinable; and (3) collectibility is reasonably assured.
Agreements with certain distributors provide price protection and return and
allowance rights. With respect to revenues to our distributors the: (1) prices
are fixed at the date of shipment from our facilities; (2) payment is not
contractually or otherwise excused until the product is resold; (3) we do not
have any obligations for future performance relating to the resale of the
product; and (4) the amount of future returns, allowances, refunds and costs to
be incurred can be reasonably estimated and are accrued at the time of shipment.
At the time of shipment, we record a liability against our gross revenues
for price protection, sales allowances and potential returns. This liability is
established based on historical experience, contractually agreed to provisions
and future shipment forecasts. As of December 31, 2001, we had established
liabilities totaling $2.3 million for future returns, price protection and
allowances related to sales which were recorded during fiscal 2001. Should our
actual experience differ from our estimated liabilities, there could be
adjustments (either favorable or unfavorable) to our net revenues, cost of sales
and gross margins.
We warranty our products for up to one year from the date of shipment. A
liability is recorded for estimated claims to be incurred under product
warranties and is based primarily on historical experience. Estimated warranty
expense is recorded as cost of revenues when products are shipped. As of
December 31, 2001, we had a warranty liability established in the amount of $0.2
million, which is included in accrued expenses on the consolidated balance
sheet. Should future warranty claims differ from our estimated current
liability, there could be adjustments (either favorable or unfavorable) to our
cost of sales. Any adjustments to cost of sales could also impact future gross
margins.
Reserves for Excess Inventories. We periodically review our inventory levels to
determine if inventory is stated at the lower of cost or our net realizable
value. Due to the severe downturn in the telecommunications and data
communications industry, we evaluated our inventory position based on known
backlog of orders, projected sales and marketing forecasts, shipment activity
and inventory held at our significant distributors. As a result of current
15
and anticipated business conditions, as well as lower than anticipated demand,
we recorded a provision for excess inventories during the year ended December
31, 2001 of approximately $39.2 million. We currently do not anticipate the
excess inventories subject to this provision will be used at a later date based
upon our current demand forecast. Should our future demand exceed the estimates
that we used in reserving for excess inventories, then we will recognize a
favorable impact to cost of sales and gross margin. Should demand fall below our
current expectations, then we may establish additional inventory reserves which
will result in a negative impact to cost of sales and gross margins. Any future
changes to our inventory reserves for excess inventories will be disclosed in
the notes of our consolidated financial statements.
Valuation of Deferred Tax Assets. Income taxes are accounted for under the asset
and liability method. Deferred income tax assets and liabilities are recognized
for the future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and liabilities and
their respective tax bases and operating loss and tax credit carry forwards.
Deferred income tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred
income tax assets and liabilities of a change in tax rates is recognized in
income in the period that includes the enactment date. To the extent that it is
more likely than not that we will not be able to utilize deferred income tax
assets in the future, then a valuation allowance is established. At December 31,
2001, we had deferred income tax assets, net of valuation allowances of $68.6
million. We estimate that we will generate operating income in future periods
and will be able to use our deferred income tax assets before they expire to
offset future income tax liabilities. Should our actual results differ from our
current forecasts then we may need to establish an additional valuation
allowance, thereby reducing future income tax benefits and reducing future net
income or increase in future net loss.
Valuation and Impairment of Goodwill, Other Intangibles and Long-Lived Assets.
We review long-lived assets, goodwill and certain identifiable intangible assets
for impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. When factors indicate that
an intangible or long-lived asset should be evaluated for possible impairment,
an estimate of the related asset's undiscounted future cash flows over the
remaining life of the asset will be made to measure whether the carrying value
is recoverable. Any impairment is measured based upon the excess of the carrying
value of the asset over its estimated fair value which is generally based on an
estimate of future discounted cash flows. A significant amount of management
judgment is used in estimating future discounted cash flows. At December 31,
2001 we had goodwill, other intangibles and long-lived assets on our
consolidated balance sheet totaling $88.2 million. Should our business or market
conditions vary from our current expectations, then we may not be able to
realize the carrying value of these assets and will record an impairment charge
at that time.
Estimated Restructuring Reserves. As mentioned below and in note 11 of our
consolidated financial statements, we recorded restructuring charges totaling
$32.5 million during fiscal 2001. At December 31, 2001 the restructuring
liabilities that remain totaled $29.9 million on our consolidated balance
sheets. Of this amount, $3.0 million is related to employee termination benefits
that we expect to pay in early 2002. The remaining $26.9 is related to estimated
future payments, primarily for rent and related operating expenses, due over the
next fifteen years. Certain assumptions went into this estimate including future
maintenance costs, price escalation and sublease income derived from these
facilities. Should we negotiate additional subleases or reach a settlement with
our landlords to be released from our existing obligations, then we could
realize a favorable benefit to our results of future operations. Should future
lease, maintenance or other costs related to these facilities exceed our
estimates, then we could incur additional expense in future periods.
Overview
We commenced operations in April 1988. Since incorporation, we have
designed, sourced and marketed high-speed VLSI semiconductor devices for public
and private network applications worldwide. We shipped our first product in
1990. We have focused our product development efforts on devices that meet the
needs of public and private network telecommunications and data communications
equipment providers that serve the worldwide public network, Internet and
corporate wide area network markets. Our devices are compliant with established
standards in these markets, including SONET/SDH, Asynchronous/PDH and ATM/IP. We
also offer products that combine multi-protocol capabilities on a single chip
that can be programmed for multi-service applications. Our mixed-signal and
digital design capability, in conjunction with our communications systems
expertise, enables us to determine
16
and implement optimal combinations of design elements for enhanced
functionality. We believe that this approach permits our customers to achieve
faster time-to-market and to introduce systems that offer greater functionality,
improved performance, lower power dissipation, reduced system size and cost and
greater reliability relative to discrete solutions.
Our principal customers are OEMs that serve three market segments:
. the worldwide public network infrastructure that supports voice and
data communications;
. the Internet infrastructure that supports the World Wide Web and
other data services; and
. corporate WANs that support voice and data information exchange
within medium-sized and large enterprises.
We have sold our VLSI devices to more than 400 customers worldwide. We
sell our products through a worldwide direct sales force and a worldwide network
of independent distributors and sales representatives.
We conduct our business in foreign markets with approximately 69% of our
net sales in fiscal 2001 coming from overseas. The countries that account for
the majority of this percentage include Germany, China, United Kingdom, Korea
and Israel.
We work with network equipment OEMs during their system design phase with
the goal of having our products designed into the OEMs' products. Our sales
cycle often extends beyond one year because of the long lead times between an
OEM's design to the start of volume shipments. We incur product research and
development expenses well before the generation of substantial net revenues from
product shipments to OEMs. A significant portion of our net revenues have been,
and are anticipated to be, shipped into foreign markets. Substantially all of
our foreign net revenues are currently denominated in U.S. dollars. Our cost of
revenues consists primarily of the purchase cost of finished VLSI devices
produced by third-party semiconductor manufacturers. We intend to continue to
outsource all of our VLSI device fabrication requirements.
Our operating results are subject to quarterly and annual fluctuations as
a result of several factors that could materially and adversely affect
profitability, as discussed below in "CERTAIN FACTORS THAT MAY AFFECT FUTURE
RESULTS".
17
Results of Operations
The results of operations which follow should be read in conjunction with
our significant accounting policies and estimates summarized above as well as
our consolidated financial statements and notes thereof contained in Item 8 of
this report.
The following table sets forth certain consolidated statements of
operations data as a percentage of net revenues for the periods indicated.
Years ended December 31,
------------------------
2001 2000 1999
---- ---- ----
Net revenues 100% 100% 100%
Cost of revenues 36% 30% 34%
Cost of revenues - provision for excess inventories 67% -- --
---- --- ---
Gross (loss) profit (3%) 70% 66%
Operating expenses:
Research and development 84% 15% 20%
Marketing and sales 38% 13% 16%
General and administrative 15% 4% 5%
Amortization of goodwill and purchased intangible assets 4% -- --
In-process research and development 37% 2% --
EASICS NV merger costs -- 1% --
Restructuring charges 56% -- --
Asset impairments 3% -- --
---- --- ---
Total operating expenses 237% 35% 41%
---- --- ---
Operating (loss) income (240%) 35% 25%
==== === ===
COMPARISON OF FISCAL YEARS 2001 AND 2000
Net Revenues. The following table summarizes our revenue mix by product
line for the three years ended December 31, 2001:
Years ended December 31,
--------------------------------
2001 2000 1999
---- ---- ----
SONET/SDH 56% 59% 57%
Asynchronous/PDH 13% 18% 29%
ATM/IP 31% 23% 14%
--- --- ---
Total 100% 100% 100%
Net revenues for the year ended December 31, 2001 decreased by $96.4
million, or 62%, over fiscal 2000. The decrease in absolute dollars was
distributed across all three of our product lines. The decrease in SONET/SDH was
not as significant as the decrease in Asynchronous/PDH and ATM/IP product lines.
These decreases were primarily related to a decline in volumes shipped over
prior comparable periods. We believe that the significant decline in revenues is
part of an industry wide condition where end-users of our products
(telecommunications and data communications OEMs) found themselves with too much
inventory during a time of declining demand and depressed market conditions. As
a result, the product mix percentage mentioned above is not consistent with
historical trends. Given the lack of visibility in the current market, we cannot
predict when, and to the extent that, historical product mix percentages will
return. Our customer base during the year ended December 31, 2001 has remained
relatively constant compared to the prior year, although our customers are
ordering substantially less product due to market conditions.
18
International net revenues represented approximately 69% of net revenues
for fiscal 2001, compared with approximately 46% in fiscal 2000. The increase in
the percentage of international net revenues to total net revenues during fiscal
2001 is due to the fact that the telecommunication and data communications
markets have experienced a more significant decline in the United States than in
international markets.
Gross Profit. Gross profit for the year ended December 31, 2001 decreased
by $110.7 million, or 102%, over the prior year. The decrease of gross profit
dollars and the percentage of net revenues is the result of lower net revenues
for the comparable period, shift in product mix and the provision for excess
inventories of $39.2 million which was recorded in 2001. Our gross profit,
excluding the excess inventory provision, was $37.4 million, or a 64% gross
margin, for fiscal 2001 compared to $108.9 million, or 70% gross margin, for
fiscal 2000. The decrease in gross margin percentage is due to a change in
product mix sold during 2001 over the previous year.
Research and Development. Research and development expenses for the year
ended December 31, 2001 increased by $25.1 million, or 104%, over the prior year
from $24.2 million to $49.3 million. This increase in absolute dollars is the
result of acquisitions during 2001 and continued investment in personnel,
depreciation, software and related tools to develop next generation
telecommunication and data communication products. As a percentage of net
revenues, our research and development costs increased as we continued investing
in the design and development of future products notwithstanding the fact that
current product shipments have declined due to industry conditions. We have
monitored our sales volumes and expense run rates closely and, as a result, took
two restructuring actions in 2001 which we expect will reduce research and
development costs. We currently believe that the level of personnel and other
fixed costs in the research and development area is appropriate based on our
expectation of sales growth from new products in future periods. We will
continue to closely monitor both our costs and our growth expectations in future
periods and will take actions as market conditions dictate. There can be no
assurances that future acquisitions, market conditions or unforeseen events will
not cause our expenses to rise in future periods.
Marketing and Sales. Marketing and sales expenses for the year ended
December 31, 2001 increased by $1.7 million, or 8%, over the prior year from
$20.5 million to $22.2 million. This increase includes increased provisions for
doubtful customer accounts by approximately $1.0 million during the fiscal year
2001 as we specifically identified customer collection risks that exist in light
of the current general economic weakness in the communication semiconductor
industry. We also added sales and marketing personnel and infrastructure during
fiscal 2001. We have monitored our sales volumes and expense run rates closely
and, as a result, took two restructuring actions in 2001 which we expect will
reduce sales and marketing costs in the future. We currently believe that the
level of personnel and other fixed costs in the sales and marketing area is
appropriate based on our expectation of sales growth from new products in future
periods. We will continue to closely monitor both our costs and our growth
expectations in future periods and will take actions as market conditions
dictate. There can be no assurances that future acquisitions, market conditions
or unforeseen events will not cause our expenses to rise in future periods.
General and Administrative. General and administrative expenses for the
year ended December 31, 2001 increased by $3.4 million, or 60%, over the prior
year from $5.6 million to $9.0 million. The increase in absolute dollars was the
result of acquisitions, and increases in personnel, legal and professional fees
and our continued infrastructure investment in the general and administrative
area. As a percentage of net revenues, our general and administrative costs
increased since the fixed components of these costs do not fluctuate with net
revenues which decreased during fiscal 2001. We have monitored our sales volumes
and expense run rates closely and, as a result, took two restructuring actions
in 2001 which we expect will reduce general and administrative costs in the
future. We currently believe that the level of personnel and other fixed costs
in the general and administrative area is appropriate based on our expectation
of sales growth from new products in future periods. We will continue to closely
monitor both our costs and our growth expectations in future periods and will
take actions as market conditions dictate. There can be no assurances that
future acquisitions, market conditions or unforeseen events will not cause our
expenses to rise in future periods.
Amortization of Goodwill and Purchased Intangible Assets. Amortization of
goodwill and purchased intangible assets for the year ended December 31, 2001
increased by, $2.1 million or 545%, over the prior year. This expense is related
to business combinations of Alacrity, ADV Engineering and Horizon Semiconductors
19
accounted for as purchases in August 2000, January 2001 and February 2001,
respectively. For the comparable period of the prior year the only amortization
was that of Alacrity acquired in August 2000. The increase as a percentage of
net revenues for the year ended December 31, 2001, compared to fiscal 2000, is
due to the increase of goodwill and purchased intangibles during fiscal 2001 and
the decline in net revenues compared to the prior year.
We adopted the recently issued accounting pronouncements SFAS 141,
Accounting for Business Combinations, and adopted SFAS 142, Accounting for
Intangibles, effective January 1, 2002, at which time all future amortization of
goodwill will cease. We will be required to review goodwill and purchased
intangibles for impairment, at a minimum, annually.
Purchased In-Process Research and Development. During the year ended
December 31, 2001, we recorded a charge for in-process research and development
(IPR&D) of $22.0 million related to our purchase of Onex in September 2001.
During the year ended December 31, 2000 we recorded a charge for in-process
research and development of $2.8 million related to our purchase of Alacrity
Communications in August 2000.
We determined the fair value of the existing products as well as the
technology that was currently under development using the income approach. Under
the income approach, expected future after-tax cash flows from each of the
projects under development for the companies acquired (Onex and Alacrity) are
estimated and discounted to their net present value at an appropriate risk-
adjusted rate of return. Revenues were estimated based on relevant market size
and growth factors, expected industry trends, individual product sales cycles
and the estimated life of each product's underlying technology. Estimated
operating expenses, income taxes and charges for the use of contributory assets
were deducted from estimated revenues to determine estimated after-tax cash
flows for each project. These projected future cash flows were further adjusted
for the value contributed by any core technology and development efforts
expected to be completed post acquisition.
These forecasted cash flows were then discounted based on rates derived
from our weighted average cost of capital, weighted average return on assets and
venture capital rates of return adjusted upward to reflect additional risks
inherent in the development life cycle. The risk adjusted discount rates used
involved consideration of the characteristics and applications of each product,
the inherent uncertainties in achieving technological feasibility, anticipated
levels of market acceptance and penetration, market growth rates and risks
related to the impact of potential changes in future target markets. After
considering these factors, we determined the risk adjusted discount rates for
the Onex and Alacrity product portfolios to be 30%.
We believe that the pricing model used for the product portfolios related
to these acquisitions is representative within the telecommunications and data
communications industries and that the estimated IPR&D amounts determined
represent fair value and do not exceed the amounts that a third party would pay
for these projects. When we acquire companies we do not expect to achieve a
material amount of expense reductions or synergies as a result of integrating
the acquired in-process technology. Therefore, the valuation assumptions do not
include anticipated cost savings.
The in-process technology acquired from Onex consisted of two projects:
Switch Processor (SP) and Switch Element (SE). The technology acquired from
Alacrity was 6400 cell-bus switching technology. A description of the IPR&D
projects acquired are set forth below:
The SP technology consists of highly integrated and programmable
silicon that can combine any and all combinations of SONET/SDH
transmission and native support for TDM, ATM and packet processing
on a single chip. Significant features under development of the SP
technology include the fact that SP is a 17 million-gate device. The
portion of in-process research and development allocated to this
project was $14.1 million. It was estimated that the SP project was
approximately 60% complete and the remaining costs to complete the
project were $4.9 million. This project is expected to be completed
in April 2002. The risks associated with the development of SP
product are technical completion, timing, cost, and market risks.
Technical completion must bear the risk that the technology's
backend layout is appropriate. Timing risk of developing the SP is
significant due to the unpredictable nature of technical issues with
such technology. Although a market exists for this type of product,
producing the SP product cost-effectively and gaining general market
acceptance has yet to be proven and presents risk to the success of
the SP product.
20
The SE technology consists of a 30 gigabits per second (Gbps) (12
port OC-48) switch technology capable of switching TDM, ATM or
variable length packet traffic. Significant features under
development of the SE technology include frequency and phase
synchronization. The portion of in-process research and development
allocated to this project was $7.9 million. It was estimated that
the SE technology was approximately 75% complete and the remaining
costs to complete the project were $2.7 million. The initial
development of this project was completed in December 2001 and is
being tested at year end. The risks associated with the development
of SE product are technical completion, timing, cost, and market
risks. Technical completion for the initial prototype lots centers
on the reliability of certain IBM technology. Although a market for
the SE product exists, producing the SE product cost-effectively and
gaining general market acceptance has yet to be proven and presents
risk to the success of the product.
The 6400 cell-bus switch technology utilizes unidirectional,
time-slotted, looped bus and multiple switch interfaces. The
cell-bus switch simultaneously supports prioritized asynchronous and
isochronous cell access. Significant features of this technology
include efficiency, prioritized cell access, fairness, minimal
latency for real time traffic, capacity, simplicity and scalability.
At the date of acquisition we estimated that Alacrity technology was
75% complete and the costs to complete the project to be $2.6
million. This technology was completed in June 2001.
The above estimates were determined by comparing the time and costs spent
to date and the complexity of the technologies achieved to date to the total
costs, time and complexities that were expected to be expended to bring the
technologies to completion.
Restructuring Charges, Asset Impairments and Merger Costs. During fiscal
2001 we announced restructuring plans on July 16, 2001 (the "July Plan") and
November 15, 2001 (the "November Plan") due to current and anticipated business
conditions. These plans resulted in 77 positions being eliminated in North
America and the closing of four locations. The July Plan restructuring charges
consisted of employee termination benefits of approximately $1.3 million related
solely to a workforce reduction of 30 positions throughout the Company. These
employees were terminated during the third quarter of 2001 and were provided
severance and related benefits. The November Plan restructuring charges
consisted of employee termination benefits of approximately $1.9 million related
to a workforce reduction of 47 positions throughout all functional areas of the
Company. These employees were terminated during the fourth quarter of 2001 and
were provided severance and related benefits. The November Plan also consisted
of the closing of facilities in four locations. We are obligated for certain
lease commitments for the facilities which we have exited through fiscal 2017.
We have secured and are in the process of negotiating sub-lease commitments with
interested parties on a portion of the excess space over the next several years.
For the space for which we do not have sub-lease commitments in place as of
December 31, 2001, we have taken a charge of $28.6 million, which represents the
remaining rent and operating cost obligations related to these excess facilities
net of future expected sublease income. Excess furniture, leasehold improvements
and equipment of $0.6 million was written off in conjunction with these facility
closures.
During fiscal 2001, we also reduced the asset carrying value of a
technology product license and certain tooling by approximately $1.7 million as
a result of an impairment analysis performed pursuant to Statement of Financial
Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be disposed of." Refer to note 11 of our
consolidated financial statements for additional detail on the restructuring
plans and asset impairment charges.
During the fiscal year ended December 31, 2000, we expensed merger costs
of $1.2 million related to the EASICS NV transaction completed in May 2000.
There were no such comparable costs for the year ended December 31, 2001.
Interest Income (Expense). Interest income, net of interest expense, for
year ended December 31, 2001 decreased 69% from the prior year. Our 4 1/2%
Convertible Notes due 2005 were issued in September of 2000, thus we recorded
less than four months of interest expense associated with these notes for the
year ended December 31, 2000. These notes were outstanding during the entire
year ended December 31, 2001 which resulted in an additional eight and a half
months interest expense partially offset by lower convertible note balances
compared to the same period in the prior year. During fiscal 2001, we have
experienced declining interest income due to lower cash
21
balances and lower interest rates. At December 31, 2001 and 2000, the effective
interest rate on our interest-bearing securities was approximately 3.52%, and
5.60%, respectively.
During the year ended December 31, 2001, we repurchased $145.9 million,
face value, of our convertible notes. These purchases were made with our
existing cash, cash equivalents, and short-term investments. Subsequent to
year-end, in February 2002, we announced a tender offer to repurchase up to $200
million face value of our outstanding notes. This tender offer was completed in
March 2002. Refer also to note 17 of our consolidated financial statements.
Income Tax Expense (Benefit). Our effective tax rate, before extraordinary
items, for the year ended December 31, 2001 is a benefit of 28.1%, compared to
an effective income tax rate expense of approximately 38.9% for the year ended
December 31, 2000. Excluding the write-off of purchased in-process research and
development, for which there is no income tax benefit, the effective income tax
benefit would have been 33.7% for the year ended December 31, 2001. The income
tax benefit for the year ended December 31, 2001 differed from statutory rates
primarily due to the non tax deductible write-off of purchased in-process
research and development of $22.0 million and a valuation allowance of $3.2
million taken against certain tax credits which we expect will expire
unutilized. The following table summarizes the differences between the U.S.
federal statutory rate and our effective tax rate on continuing operations for
financial statement purposes for the years ended December 31, 2001 and 2000:
Years ended December 31,
------------------------
2001 2000
---- ----
U.S. federal statutory tax rate ............ (35.0)% 35.0%
State taxes ................................ (1.8) 3.4
In-process research and development ........ 5.6 1.6
Foreign sales corporation benefit .......... -- (1.9)
Change in beginning valuation allowance .... 2.4 --
Permanent differences and other ............ 0.7 0.8
------------------
Effective income tax rate .................. (28.1)% 38.9%
==================
In addition to the tax benefit recorded during the year ended December 31,
2001, we recorded income tax expense of $13.2 million on the extraordinary gain
from the repurchase of a portion of the 4 1/2% Convertible Notes due 2005.
We continue to periodically review the realizability of deferred income
tax assets considering all positive and negative evidence available to us which
includes, among other factors, our specific historical operating results,
changes in our future expectations of revenues and its impact on future
profitability. To the extent that we believe that it is more likely than not
that some or all of our deferred income tax assets will not be realized, we will
establish or adjust established valuation allowances. Such a valuation allowance
adjustment may impact our effective tax rate. We recorded a valuation allowance
in 2001 as noted above.
Extraordinary Gain from Repurchase of 4 1/2% Convertible Notes due 2005.
In April 2001, we announced a repurchase program for our 4 1/2% Convertible
Notes due 2005. During the year ended December 31, 2001, we have repurchased
$145.9 million face value of our outstanding convertible notes for $106.1
million, including a write-off of deferred financing fees of $4.4 million,
realizing a pre-tax gain of $35.3 million. Net of income taxes, this
extraordinary gain was $22.1 million for the year ended December 31 2001. The
timing and amount of any additional repurchases will depend on many factors,
including, but not limited to, the prevailing market price of the convertible
notes and overall market conditions. We intend to fund additional repurchases of
the convertible notes, if any, from available cash, cash equivalents and
short-term investments. Subsequent to year-end, in February 2002, we announced a
tender offer to repurchase up to $200 million face value of our outstanding
convertible notes. This tender offer was completed in March 2002. Refer to the
subsequent events paragraph in this section as well as note 17 to our
consolidated financial statements.
22
COMPARISON OF FISCAL 2000 AND 1999
Net Revenues. In fiscal 2000, we reported net revenues of $155.1 million,
an increase of 110.9% over fiscal 1999. The increase was driven by the strength
in our SONET/SDH and ATM/IP product lines. Foreign net revenues, consisting
primarily of shipments to customers in Europe, the Middle East and the Far East,
constituted 46% and 32% of net revenues in fiscal 2000 and 1999, respectively.
Gross Profit. Gross margin for fiscal 2000 increased to 70.2% from 65.7%
for fiscal 1999. The increase in gross margin in fiscal 2000 was primarily a
result of the continued reduction in the costs of our products, achieved by
meeting higher volume milestones established by our foundries.
During fiscal 2000, gross profit increased to $108.9 million from $48.3
million in 1999. This increase was a function of the continued increase in
overall volume and the improvement in the gross margin on certain product lines.
Research and Development. In fiscal 2000, research and development
expenses were $24.2 million, or 15.6% of net revenues, an increase of 66.5% over
1999 expenditures. The increase was primarily attributable to increases in staff
and in engineering charges related to the introduction of new products during
fiscal 2000. We believe that the continued introduction of new products is
essential to our competitiveness, and we are committed to continuing our
investment in research and development.
Marketing and Sales. In fiscal 2000, marketing and sales expenses
increased 69.6% over 1999, to $20.5 million, which represented 13.2% of net
revenues. The increase was the result of the increase in variable cost of
commissions on the increased net revenues and additional staff during fiscal
2000.
General and Administrative. In fiscal 2000, general and administrative
expenses increased 45.8% over 1999 to $5.6 million, or 3.6% of net revenues. The
increase in overall expenses was the result of our continued investment in the
general and administrative area.
Amortization of Goodwill and Purchased In-Process Research and
Development. We recorded $0.4 million of amortization of goodwill and purchased
intangible assets and a $2.8 million charge to operations for purchased
in-process research and development both related to the acquisition of Alacrity
Communications Inc., completed in August 2000. The expense for purchased IPR&D
was determined in that the underlying project did not reach technological
feasibility, had no alternative future use and successful development was
uncertain. This project was 75% completed at the date of acquisition. It is
anticipated that net cash inflows for this project will commence in 2002,
however, there can be no assurance. To date there have been no shipments of this
product and development efforts are continuing as planned. If the development of
this project is unsuccessful, our sales and profitability may be adversely
affected in future periods. Commercial results are also subject to certain
market events and risks, which are beyond our control.
Merger Costs. During fiscal 2000, we incurred $1.2 million in transaction
costs related to the combination with Easics NV completed in May 2000.
Income Taxes. For fiscal 2000, our effective tax rate was 38.9%. During
the third quarter of 1999, we concluded that it is more likely than not that
substantially all of our net deferred tax assets would be realized. Accordingly,
we reversed our valuation allowance for net deferred tax assets, which
contributed to the resulting net tax benefit of $2.8 million for fiscal 1999.
This resulted in a 1999 effective tax rate benefit of (12.5%).
23
Liquidity and Capital Resources
Cash Inflows and Outflows
During fiscal 2001, the net decrease in cash and cash equivalents was
$137.3 million compared to a net increase of $451.9 million during fiscal 2000.
Details of our cash inflows and outflows are as follows:
Operating Activities: During fiscal 2001, we recorded a net loss of $77.5
million and had a net decrease of $14.4 million in working capital. These uses
of cash were offset by non-cash items of $15.2 million and restructuring
liabilities of $29.9 million, resulting in $46.8 million in cash used in
operating activities.
The more significant changes in our cash flows from operations were:
. accounts receivable, net of allowances, decreased by $24.9
million, or 87.6%, in fiscal 2001 due to the decline in
customer shipments;
. inventories declined by $6.7 million, or 45%, in fiscal 2001
due to lower sales volumes because of industry conditions. In
fiscal 2001, we recorded charges of $39.2 million for excess
inventories; and
. the restructuring liabilities consist of approximately $1.3
million in employee termination benefits to be paid in early
2002 and $28.6 million in rent and operating cost payments due
for excess facilities over the next fifteen years.
Investing Activities: In fiscal 2001, we invested approximately $11.5 million in
capital equipment and product licenses. We also invested $9.0 million to acquire
minority (less than 20%) ownership in non-publicly traded companies and $12.7
million (net of cash acquired) to acquire Onex. These investments were offset by
net proceeds from held-to-maturity investments of $44.8 million.
Financing Activities: In fiscal 2001, we used $102.1 million in financing
activities, which consisted primarily of $106.2 million used to repurchase our 4
1/2% Convertible Notes due 2005 and $4.2 million used to repurchase our common
stock, offset by proceeds from the exercise of stock options of $8.3 million.
Effect of Exchange Rates and Inflation: Exchange rates and inflation have not
had a significant impact on our operations.
Cash, Cash Equivalents and Investments
We have financed our operations and have met our capital requirements
since incorporation in 1988 primarily through private and public issuances of
equity securities, convertible notes, bank borrowings and cash generated from
operations. Our principal sources of liquidity as of December 31, 2001 consisted
of $370.3 million in cash and cash equivalents, $39.3 million in short-term
investments and $26.6 million in long-term investments for a total cash and
investment balance of $436.2 million. Cash and cash equivalents are cash or
instruments with maturities of less than 90 days, short-term investments have
maturities of greater then 90 days but less than one year and long-term
investments have maturities of greater than one year. Our cash investments
consist of U.S. Treasury Bills, corporate debt, taxable municipal securities,
money market instruments, overnight repurchase investments and commercial paper.
We believe that our existing cash, cash equivalents and investments will
be sufficient to fund operating losses, capital expenditures and provide
adequate working capital at least through December 31, 2002. However, there can
be no assurance that events in the future will not require us to seek additional
capital and, if so required, that capital will be available on terms favorable
or acceptable us, if at all.
24
Commitments
We had a line of credit agreement in place with Silicon Valley Bank,
which expired in July of 2001. Since we did not have an outstanding balance on
this obligation and had sufficient cash and investments to fund operations as
well as its investment and financing requirements through the end of fiscal
2002, we did not renew this line of credit and, thus were released from all
obligations, restrictions and financial covenants thereof.
We have outstanding operating lease commitments of approximately $46.6
million payable over the next fifteen years. Some of these commitments are for
space which was not being utilized and, as a result, we recorded a restructuring
charge of $28.6 during fiscal 2001 for excess facilities. We are in the process
of trying to sublease some of this excess space, however, it is unlikely that
any sublease income generated will offset the entire future commitment. We
currently believe that we can fund these lease commitments in the future,
however, there can be no assurances that we will not be required to seek
additional capital or provide additional guarantees or collateral on these
obligations.
We have existing commitments to make future interest payments on our
existing 4 1/2% Convertible Notes due 2005. As of December 31, 2001, we had $4.1
million in accrued interest payable on our consolidated balance sheet. In March
2002, we repurchased $199.9 million of our outstanding 4 1/2% Convertible Notes
due 2005. Over the remaining life of the outstanding notes, we expect to accrue
and pay approximately $20.9 million in interest to the holders. Refer to the
subsequent event disclosure below and note 17 of our consolidated financial
statements regarding our tender offer.
A summary of our significant future commitments (which reflects the impact
of the tender of the 4 1/2% Convertible Notes due 2005 discussed in the
subsequent events paragraph below) and their payments by fiscal year is
summarized as follows (in thousands):
Scheduled payments for the years ended December 31,
---------------------------------------------------
2006 - Total
Commitment 2002 2003 2004 2005 2017 Commitments
- ---------------------------------------------------------------------------------------------------------
Interest on Convertible Notes $ 7,009 $ 5,135 $5,135 $ 3,638 $ -- $ 20,917
Redemption of Convertible Notes 199,937 -- -- 114,113 -- 314,050
Operating Lease Commitments 4,378 4,911 4,534 3,797 28,972 46,592
-----------------------------------------------------------
Total $211,324 $10,046 $9,669 $121,548 $28,972 $381,559
===========================================================
Related Party Transactions
On a limited basis, we conduct certain related party transactions with the
companies in which we have less than 20% ownership interest. During 2001, these
transactions consisted primarily of design work that was performed for us, for
which we paid approximately $0.8 million. In addition to TranSwitch, certain
directors and officers of TranSwitch currently have, or have had, investments in
these companies on the same terms that were available to TranSwitch. As a result
of their investment in Onex, certain directors and officers received cash and
shares of our common stock in exchange for their shares of Onex when this
acquisition was completed in fiscal 2001.
We do not have any obligation to participate in future rounds of financing
in the companies which we have less then 20% ownership interest in, although we
do have a right of first refusal to purchase additional securities offered by
the above companies. We do not have any commitments to acquire or merge with any
of the companies that we have investments in. Additionally, we do not have a
right of first refusal to acquire these companies. Our rights are consistent
with the rights of all shareholders in the class of stock that we have
purchased.
In fiscal 2001, we also invested in GTV Capital, L.P., which is a
partnership in the business of making, supervising and disposing of capital
investments in equity or equity-related securities in companies engaged in
high-technology industries. The partnership focuses on seed and early-stage
investments in communication infrastructure technology companies including
wireless and optical systems technology, storage and related semiconductor
technology, and media convergence technology. We have a 48% ownership interest
in this partnership and we account for it under the equity method.
25
Subsequent Events
On January 24, 2002, ADV achieved certain milestones that had been set in
its purchase agreement. As a result, we paid $5.0 million in cash that was
recorded as additional goodwill on the consolidated balance sheets.
In January 2002, we pledged $1.4 million in available cash and cash
equivalents as collateral for a stand-by letter of credit that guarantees
certain long-term property lease obligations.
On February 11, 2002, our Board of Directors approved a tender offer to
purchase up to $200 million (the "Offer Amount") aggregate principal amount of
our outstanding 4 1/2% Convertible Notes due 2005 at a price not greater than
$700 nor less than $650 per $1,000 principal amount, plus accrued and unpaid
interest thereon to, but not including, the date of the purchase. This tender
offer expired at midnight on March 11, 2002 and we repurchased $199.9 million
face value of our convertible notes at the price of $700 per $1,000 principal
amount for a cash payment of $139.9 million. Net of taxes, deferred financing
costs and transaction fees, we expect this transaction to result in an
extraordinary gain of approximately $32.5 million which will be recorded in the
first quarter of 2002. Upon completion of the tender offer, the remaining
outstanding balance of our 4 1/2% Convertible Notes due 2005 is $114.1 million.
Recent Accounting Pronouncements
In June 2001, the FASB issued Statement of Financial Accounting Standards
No. 141, "Business Combinations" (SFAS 141). SFAS 141 requires that the purchase
method of accounting be used for all business combinations initiated after June
30, 2001. SFAS 141 also specifies certain criteria that must be met in order for
intangible assets acquired in a purchase method business combination to be
recognized and reported apart from goodwill, noting that any purchase price
allocable to an assembled workforce may not be accounted for separately. We
adopted the provisions of SFAS 141 as of July 1, 2001.
In June 2001, the FASB issued Statement of Financial Accounting Standards
No. 142, "Goodwill and Other Intangible Assets" (SFAS 142) which is effective
for TranSwitch's fiscal year beginning January 1, 2002. SFAS 142 requires, among
other things, the discontinuance of goodwill amortization. In addition, the
standard includes provisions, upon adoption, for the reclassification of certain
existing recognized intangibles as goodwill, reassessment of the useful lives of
existing recognized intangibles, reclassification of certain intangibles out of
previously reported goodwill and the testing for impairment of existing goodwill
and other intangibles. Upon adoption of SFAS 142, we will cease to amortize
approximately $54.5 million of goodwill and assembled workforce intangible
assets. We had recorded approximately $2.5 million of amortization on these
amounts during 2001 and would have recorded approximately $2.6 million of
amortization during 2002. In lieu of amortization we will be required to perform
an impairment review of our goodwill balance upon the initial adoption of SFAS
142. We expect to complete the initial review during the second quarter of 2002.
We do not expect to record an impairment charge upon completion of the initial
review, however, there can be no assurance that at the time the review is
completed a material impairment loss will not be recorded. Any impairment loss
will be measured as of the date of adoption and recognized as the cumulative
effect of a change in accounting principle.
In August 2001, the FASB issued Statement of Financial Accounting
Standards No. 144 "Accounting for the Impairment or Disposal of Long-Lived
Assets" ("SFAS 144"). SFAS 144 supercedes SFAS 121 "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of".
SFAS 144 applies to all long-lived assets (including discontinued operations)
and consequently amends Accounting Principles Board Opinion No. 30 (APB 30),
Reporting Results of Operations-Reporting the Effects of Disposal of a Division
of a Business. SFAS 144 develops one accounting model for long-lived assets that
are to be disposed of by sale and requires that long-lived assets that are to be
disposed of by sale be measured at the lower of book value or fair value less
cost to sell. Additionally, SFAS 144 expands the scope of discontinued
operations to include all components of an entity with operations that (1) can
be distinguished from the rest of the entity and (2) will be eliminated from the
ongoing operations of the entity in a disposal transaction. SFAS 144 is
effective for TranSwitch's fiscal year beginning January 1, 2002. We do not
expect the adoption of this standard to have a material impact on our financial
position, results of operations, or liquidity.
26
In June 1998, the Financial Accounting Standards Board issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities" (SFAS No.
133), and in June 2000 it issued SFAS No. 138, "Accounting for Certain
Derivative Instruments and Certain Hedging Activities, an Amendment of FASB
Statement No. 133" (SFAS No. 138). SFAS No. 133, as amended by SFAS No. 138,
requires companies to recognize all derivatives as assets or liabilities
measured at their fair value. Gains or losses resulting from changes in the
value of those derivatives would be accounted for depending on the use of the
derivative and whether it qualifies for hedge accounting. The adoption of SFAS
No. 133 as of January 1, 2001, had no material impact on our financial position,
results of operations or liquidity.
CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS
From time to time, information provided by us, statements made by our employees
or information included in our filings with the Securities and Exchange
Commission (including this Form 10-K) may contain statements that are not
historical facts, so-called "forward-looking statements," which involve risks
and uncertainties. Such forward-looking statements are made pursuant to the safe
harbor provisions of Section 21E of the Securities Exchange Act of 1934, as
amended. These statements can be identified by the use of forward-looking
terminology such as "may", "should", "could", "will", "expect", "anticipate",
"estimate", "continue", "believe" or the negative of these terms or other
similar words. These statements discuss future expectations, contain projections
of results of operations or of financial condition or state other
forward-looking information. When considering forward-looking statements, you
should keep in mind the risk factors and other cautionary statements in this
Form 10-K.
Our actual future results may differ significantly from those stated in any
forward-looking statements. Factors that may cause such differences include, but
are not limited to, the factors discussed below. Each of these factors, and
others, are discussed from time to time in our filings with the Securities and
Exchange Commission.
Our operating results may fluctuate because of a number of factors, many of
which are beyond our control. If our operating results are below the
expectations of public market analysts or investors, then the market price of
our common stock could decline. Some of the factors that affect our quarterly
and annual results, but which are difficult to control or predict are:
We recently experienced a significant decline in net revenues.
Our net revenues declined substantially during the twelve months ended December
31, 2001, to $58.7 million from $155.1 million during the twelve months ended
December 31, 2000. Due to declining current economic conditions and slowdowns in
purchases of VLSI semiconductor devices, it has become increasingly difficult
for us to predict the purchasing activities of our customers and we expect that
our net revenues will fluctuate substantially in the future.
We expect that our operating results will fluctuate in the future due to reduced
demand in our markets.
Our business is characterized by short-term orders and shipment schedules, and
customer orders typically can be cancelled or rescheduled without significant
penalty to our customers. Because we do not have substantial non-cancelable
backlog, we typically plan our production and inventory levels based on internal
forecasts of customer demand, which are highly unpredictable and can fluctuate
substantially. Future fluctuations to our operating results may also be caused
by a number of factors, many of which are beyond our control.
In response to anticipated long lead times to obtain inventory and materials
from our foundries, we may order in advance of anticipated customer demand,
which might result in excess inventory levels if the expected orders fail to
materialize. As a result, we cannot predict the timing and amount of shipments
to our customers, and any significant downturn in customer demand for our
products would reduce our quarterly and our annual operating results. During
2001, these conditions occurred and as a result, we recorded a provision for
excess inventories of an aggregate of $39.2 million during fiscal 2001.
Historically, average selling prices in the communication semiconductor industry
have decreased over the life of a product, and, as a result, the average selling
prices of our products may decrease in the future. Decreases in the price of our
products would adversely affect our operating results.
27
In the past, we have incurred significant new product and process development
costs because our policy is to expense these costs, including tooling and
pre-production expenses, at the time that they are incurred. We may continue to
incur these types of expenses in the future. These additional expenses will have
a material and adverse effect on our earnings in future periods. The occurrence
of any of the above mentioned risk factors could have a material adverse effect
on our business and financial results.
Sudden shortages of raw materials or production capacity constraints can lead
producers to allocate available supplies or capacity to larger customers than
us, which could interrupt our ability to meet our production obligations.
We are using our available cash each quarter to fund our operating activities.
During the fourth quarter of fiscal 2001, we used $25.9 million of our available
cash, cash equivalents and investments to fund our operating, investing and
financing activities. We anticipate that we will use a similar amount of our
available cash, cash equivalents and investments to fund our operating,
investing and financing activities in the first quarter of fiscal 2002. We
believe that we will continue to use our available cash, cash equivalents and
investments in the future although we believe that we have sufficient cash for
our needs to last through December 31, 2002. We will continue to experience
losses and to use our cash, cash equivalents and investments if we do not
receive sufficient product orders and our costs are not controlled.
We may have to further restructure our business.
On July 16, 2001, we announced a restructuring plan as a result of current and
anticipated business conditions. We incurred a restructuring charge of
approximately $1.3 million, which was solely related to a workforce reduction of
thirty positions throughout our company. We terminated these employees during
the third quarter of 2001 and provided severance and related benefits. On
November 15, 2001, we announced further restructuring and incurred an additional
restructuring charge of $31.2 million related to a workforce reduction of 47
positions throughout our company and the related consolidation of several of our
leased facilities. We terminated these employees during the fourth quarter of
2001 and provided severance and related benefits. We cannot be sure that these
measures will be sufficient to offset lower net revenues, and if they are not,
our earnings will be adversely affected.
We anticipate that shipments of our products to relatively few customers will
continue to account for a significant portion of our net revenues.
Historically, a relatively small number of customers have accounted for a
significant portion of our net revenues in any particular period. For the year
ended December 31, 2001, shipments to our top five customers, including sales to
distributors, accounted for approximately 64% of our net revenues. We expect
that a limited number of customers may account for a substantial portion of our
net revenues for the foreseeable future.
Some of the following may reduce our net revenues:
. reduction, delay or cancellation of orders from one or more of our
significant customers;
. development by one or more of our significant customers of other
sources of supply for current or future products;
. loss of one or more of our current customers or a disruption in our
sales and distribution channels; and
. failure of one or more of our significant customers to make timely
payment of our invoices.
28
We cannot be certain that our current customers will continue to place
orders with us, that orders by existing customers will return to the levels of
previous periods or that we will be able to obtain orders from new customers. We
have no long-term volume purchase commitments from any of our significant
customers. The following table sets forth our significant distributors (who have
accounted for at least 10% of our net revenues during fiscal 2001) and customers
(who accounted for at least 10% of our net revenues during 2001 either directly
or through distributors during fiscal 2001):
Significant Distributors: Major Customers:
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Insight Electronics, Inc. Lucent Technologies, Inc.
Unique Memec Nortel Networks Corporation
Weone Corporation Samsung Corporation
Siemens AG
Redback Networks, Inc.
Our international business operations expose us to a variety of business risks.
Foreign markets are a significant part of our net revenues. In the year ended
December 31, 2001, foreign shipments acc