Attached files
file | filename |
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EX-31.2 - EXHIBIT 31.2 - SMART Modular Technologies (WWH), Inc. | c94289exv31w2.htm |
EX-32 - EXHIBIT 32 - SMART Modular Technologies (WWH), Inc. | c94289exv32.htm |
EX-31.1 - EXHIBIT 31.1 - SMART Modular Technologies (WWH), Inc. | c94289exv31w1.htm |
EX-10.35 - EXHIBIT 10.35 - SMART Modular Technologies (WWH), Inc. | c94289exv10w35.htm |
EX-10.34 - EXHIBIT 10.34 - SMART Modular Technologies (WWH), Inc. | c94289exv10w34.htm |
EX-10.36 - EXHIBIT 10.36 - SMART Modular Technologies (WWH), Inc. | c94289exv10w36.htm |
EX-10.33 - EXHIBIT 10.33 - SMART Modular Technologies (WWH), Inc. | c94289exv10w33.htm |
Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
þ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended November 27, 2009
OR
o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission file number 000-51771
SMART MODULAR TECHNOLOGIES (WWH), INC.
(Exact name of registrant as specified in its charter)
Cayman Islands (State or other jurisdiction of incorporation or organization) |
20-2509518 (I.R.S. Employer Identification Number) |
39870 Eureka Drive, Newark, California 94560
(Address of principal executive offices, zip code)
(Address of principal executive offices, zip code)
(510) 623-1231
(Registrants telephone number, including area code)
(Registrants telephone number, including area code)
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 þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its
corporate Web site, if any, every Interactive Data File required to be submitted and posted
pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period
that the registrant was required to submit and post such files). Yes o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer or a smaller reporting company. See the definitions of large accelerated
filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act
(Check one):
Large accelerated filer o | Accelerated filer o | Non-accelerated filer þ | Smaller reporting company o | |||
(Do not check if a smaller reporting company) |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act): Yes o No þ
The
number of registrants ordinary shares outstanding as of
January 4, 2010: 62,133,479.
SMART MODULAR TECHNOLOGIES (WWH), INC.
INDEX TO QUARTERLY REPORT
TABLE OF CONTENTS
Page | ||||||||
3 | ||||||||
3 | ||||||||
18 | ||||||||
25 | ||||||||
26 | ||||||||
26 | ||||||||
26 | ||||||||
26 | ||||||||
27 | ||||||||
27 | ||||||||
28 | ||||||||
Exhibit 10.33 | ||||||||
Exhibit 10.34 | ||||||||
Exhibit 10.35 | ||||||||
Exhibit 10.36 | ||||||||
Exhibit 31.1 | ||||||||
Exhibit 31.2 | ||||||||
Exhibit 32 |
2
Table of Contents
PART I. FINANCIAL INFORMATION
Item 1.
Financial Statements
SMART MODULAR TECHNOLOGIES (WWH), INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
(Unaudited)
November 27, | August 28, | |||||||
2009 | 2009 | |||||||
(In thousands, except share data) | ||||||||
ASSETS |
||||||||
Current assets: |
||||||||
Cash and cash equivalents |
$ | 129,102 | $ | 147,658 | ||||
Accounts receivable, net of allowances of
$1,685 and $1,591 as of November 27, 2009
and August 28, 2009, respectively |
127,388 | 130,953 | ||||||
Inventories |
78,686 | 63,115 | ||||||
Prepaid expenses and other current assets |
15,917 | 12,628 | ||||||
Total current assets |
351,093 | 354,354 | ||||||
Property and equipment, net |
35,867 | 36,263 | ||||||
Goodwill |
1,061 | 1,061 | ||||||
Other intangible assets, net |
7,208 | 7,475 | ||||||
Other non-current assets |
5,710 | 4,585 | ||||||
Total assets |
$ | 400,939 | $ | 403,738 | ||||
LIABILITIES AND SHAREHOLDERS EQUITY |
||||||||
Current liabilities: |
||||||||
Accounts payable |
$ | 77,102 | $ | 68,928 | ||||
Accrued expenses |
20,081 | 16,615 | ||||||
Total current liabilities |
97,183 | 85,543 | ||||||
Long-term debt |
55,072 | 81,250 | ||||||
Other long-term liabilities |
1,579 | 2,120 | ||||||
Total liabilities |
$ | 153,834 | $ | 168,913 | ||||
Commitments and contingencies |
||||||||
Shareholders equity: |
||||||||
Ordinary shares, $0.00016667 par value;
600,000,000 shares authorized; 62,032,356 and
61,904,788 shares issued and outstanding as of
November 27, 2009 and August 28, 2009,
respectively |
10 | 10 | ||||||
Additional paid-in capital |
111,116 | 109,264 | ||||||
Accumulated other comprehensive income |
10,179 | 4,333 | ||||||
Retained earnings |
125,800 | 121,218 | ||||||
Total shareholders equity |
247,105 | 234,825 | ||||||
Total liabilities and shareholders equity |
$ | 400,939 | $ | 403,738 | ||||
See accompanying notes to unaudited condensed consolidated financial statements.
3
Table of Contents
SMART MODULAR TECHNOLOGIES (WWH), INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(Unaudited)
Three Months Ended | ||||||||
November 27, | November 28, | |||||||
2009 | 2008 | |||||||
(In thousands, except per share data) | ||||||||
Net sales |
$ | 123,093 | $ | 140,775 | ||||
Cost of sales (1) |
94,327 | 114,959 | ||||||
Gross profit |
28,766 | 25,816 | ||||||
Operating expenses: |
||||||||
Research and development (1) |
5,730 | 5,436 | ||||||
Selling, general and administrative (1) |
13,366 | 14,467 | ||||||
Goodwill impairment |
| 7,210 | ||||||
Restructuring charges |
| 886 | ||||||
Total operating expenses |
19,096 | 27,999 | ||||||
Income (loss) from operations |
9,670 | (2,183 | ) | |||||
Interest expense, net |
(1,663 | ) | (1,752 | ) | ||||
Other income (expense), net |
1,292 | (766 | ) | |||||
Total other expense |
(371 | ) | (2,518 | ) | ||||
Income (loss) before provision for income taxes |
9,299 | (4,701 | ) | |||||
Provision for income taxes |
4,717 | 2,177 | ||||||
Net income (loss) |
4,582 | (6,878 | ) | |||||
Net income (loss) per share, basic |
$ | 0.07 | $ | (0.11 | ) | |||
Net income (loss) per share, diluted |
$ | 0.07 | $ | (0.11 | ) | |||
Shares used in computing basic net income
(loss) per share |
61,974 | 61,507 | ||||||
Shares used in computing diluted net income (loss) per
share |
64,016 | 61,507 | ||||||
(1) Stock-based compensation by category: | ||||||||
Cost of sales |
$ | 157 | $ | 201 | ||||
Research and development |
297 | 431 | ||||||
Selling, general and administrative |
1,192 | 1,155 |
See accompanying notes to unaudited condensed consolidated financial statements.
4
Table of Contents
SMART MODULAR TECHNOLOGIES (WWH), INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(Unaudited)
(Unaudited)
Three Months Ended | ||||||||
November 27, | November 28, | |||||||
2009 | 2008 | |||||||
Net income (loss) |
$ | 4,582 | $ | (6,878 | ) | |||
Other comprehensive income (loss): |
||||||||
Net changes in unrealized gain or loss on
derivative instruments accounted for as
cash flow hedges |
475 | (345 | ) | |||||
Foreign currency translation |
5,371 | (17,908 | ) | |||||
Comprehensive income (loss) |
$ | 10,428 | $ | (25,131 | ) | |||
See accompanying notes to unaudited condensed consolidated financial statements.
5
Table of Contents
SMART MODULAR TECHNOLOGIES (WWH), INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Unaudited)
Three Months Ended | ||||||||
November 27, | November 28, | |||||||
2009 | 2008 | |||||||
(In thousands) | ||||||||
Cash flows from operating activities: |
||||||||
Net income (loss) |
$ | 4,582 | $ | (6,878 | ) | |||
Adjustments to reconcile net income (loss) to net cash
provided by operating activities: |
||||||||
Depreciation and amortization |
3,615 | 3,328 | ||||||
Stock-based compensation |
1,646 | 1,787 | ||||||
Changes in allowances for accounts receivable and
sales returns |
92 | 587 | ||||||
Amortization of debt issuance costs |
550 | 346 | ||||||
(Gain) loss on sale of assets |
(35 | ) | 87 | |||||
Gain on early repayment of long-term debt |
(1,178 | ) | | |||||
Goodwill impairment |
| 7,210 | ||||||
Changes in operating assets and liabilities: |
||||||||
Accounts receivable |
4,650 | 39,750 | ||||||
Inventories |
(14,580 | ) | (19,626 | ) | ||||
Prepaid expenses and other assets |
(2,676 | ) | 1,569 | |||||
Accounts payable |
8,089 | 2,151 | ||||||
Accrued expenses and other liabilities |
2,948 | (1,672 | ) | |||||
Net cash provided by operating activities |
7,703 | 28,639 | ||||||
Cash flows from investing activities: |
||||||||
Capital expenditures |
(1,410 | ) | (3,773 | ) | ||||
Cash deposits on equipment |
(1,630 | ) | (795 | ) | ||||
Proceeds from sale of property and equipment |
145 | 60 | ||||||
Net cash used in investing activities |
(2,895 | ) | (4,508 | ) | ||||
Cash flows from financing activities: |
||||||||
Repayment of long-term debt |
(25,000 | ) | | |||||
Proceeds from issuance of ordinary shares from stock
option exercises |
218 | 439 | ||||||
Net cash (used in) provided by financing activities |
(24,782 | ) | 439 | |||||
Effect of exchange rate changes on cash and cash equivalents |
1,418 | (3,303 | ) | |||||
Net (decrease) increase in cash and cash equivalents |
(18,556 | ) | 21,267 | |||||
Cash and cash equivalents at beginning of period |
147,658 | 115,994 | ||||||
Cash and cash equivalents at end of period |
$ | 129,102 | $ | 137,261 | ||||
Supplemental disclosures of cash flow information: |
||||||||
Cash paid during the year: |
||||||||
Interest |
$ | 1,648 | $ | 1,880 | ||||
Taxes |
4,081 | 2,121 | ||||||
Non-cash activities information: |
||||||||
Change in fair value of derivative instruments |
$ | (350 | ) | $ | 377 |
See accompanying notes to unaudited condensed consolidated financial statements.
6
Table of Contents
SMART MODULAR TECHNOLOGIES (WWH), INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(Unaudited)
NOTE 1 Basis of Presentation and Principles of Consolidation
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements of SMART Modular
Technologies (WWH), Inc. and subsidiaries (SMART or the Company) are as of November 27, 2009
and August 28, 2009 and for the three months ended November 27, 2009 and November 28, 2008. These
unaudited condensed consolidated financial statements have been prepared by the Company in
accordance with generally accepted accounting principles in the United States (U.S. GAAP). The
results of operations for the interim periods shown in this report are not necessarily indicative
of results to be expected for the full fiscal year ending August 27, 2010. In the opinion of the
Companys management, the unaudited interim financial statements reflect all adjustments,
consisting only of normal, recurring adjustments considered necessary for a fair statement of the
financial position, results of operations and cash flows for the periods indicated. The interim
unaudited condensed consolidated financial statements should be read in conjunction with the
Companys audited consolidated financial statements as of and for the fiscal year ended August 28,
2009, which are included in the Annual Report on Form 10-K filed with the Securities and Exchange
Commission (SEC).
The accompanying unaudited condensed consolidated financial statements include the accounts of
the Company and its wholly-owned subsidiaries and operations located in Phoenix, Arizona; Newark,
California; Irvine, California; Tewksbury, Massachusetts; South Korea; Scotland; Puerto Rico;
Malaysia; and Brazil. The financial information for one of the Companys subsidiaries, SMART
Modular Technologies Indústria de Componentes Eletrônicos Ltda. is included in the Companys
consolidated financial statements on a one month lag. The effect of the one month lag for the
operations of SMART Modular Technologies Indústria de Componentes Eletrônicos Ltda. is not
significant to the Companys financial position and results of operations.
The preparation of unaudited condensed consolidated financial statements in conformity with
U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at the date of the
consolidated financial statements and reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates and assumptions.
The Company has adopted Financial Accounting Standards Board (FASB) Accounting Standards
Codification (ASC) 105, Generally Accepted Accounting Principles in this Quarterly Report on Form
10-Q for the fiscal quarter ended November 27, 2009. ASC 105 establishes the FASB Accounting
Standards Codification (Codification) as the single source of authoritative U.S. GAAP. Under the
Codification, all existing accounting standards and pronouncements are superseded and reorganized
into a consistent structure arranged by topic, subtopic, section and paragraph. Since the
Codification does not change or alter existing U.S. GAAP, it did not have any impact on the
Companys unaudited condensed consolidated financial statements; however, it changes the way
references to accounting standards and pronouncements are presented. References made to FASB
guidance throughout this Quarterly Report on Form 10-Q have been updated to reflect the
Codification.
Product and Service Revenue
The Company recognizes revenue in accordance with ASC 605, Revenue Recognition. Product
revenue is recognized when persuasive evidence of an arrangement exists, product delivery has
occurred, the sales price is fixed or determinable, and collectibility is reasonably assured.
Product revenue typically is recognized at the time of shipment or when the customer takes title of
the goods. All amounts billed to a customer related to shipping and handling are classified as
sales, while all costs incurred by the Company for shipping and handling are classified as cost of
sales.
In addition, the Company has certain transactions with customers that are accounted for on an
agency basis (that is, the Company recognizes the net profit associated with serving as an agent
with immaterial or no associated cost of sales). The Company provides procurement, logistics,
inventory management and temporary warehousing, kitting or packaging services for these customers.
Revenue from these arrangements is recognized as service revenue and is based on material
procurement costs plus a fee for services provided. The Company recognizes service revenue upon the
completion of the services, typically upon shipment of the product. There are no post-shipment
obligations subsequent to shipment of the product. Gross amounts billed to customers for services
transactions totaled approximately $161.6 million and $198.2 million for the three months ended
November 27, 2009 and November 28, 2008, respectively. Total service revenue recorded for the three
months ended November 27, 2009 and November 28, 2008 amounted to approximately $8.0 million and
$12.0 million, respectively.
Recent Accounting Pronouncements
With the exception of those discussed below, there have been no recent accounting
pronouncements or changes in accounting pronouncements during the three months ended November 27,
2009 that are of significance, or potential significance, to the Company.
7
Table of Contents
In October 2009, the FASB issued Accounting Standards Update (ASU) 2009-13, Revenue
Recognition (Topic 605) Multiple-Deliverable Revenue Arrangements. This guidance modifies the
fair value requirements of FASB ASC subtopic 605-25, Revenue Recognition-Multiple Element
Arrangements, by allowing the use of the best estimate of selling price in addition to vendor
specific objective evidence and third-party evidence for determining the selling price of a
deliverable. This guidance establishes a selling price hierarchy for determining the selling price
of a deliverable, which is based on: (a) vendor-specific objective evidence, (b) third-party
evidence, or (c) estimates. In addition, the residual method of allocating arrangement
consideration is no longer permitted. ASU 2009-13 is effective for fiscal years beginning on or
after June 15, 2010. The Company does not expect the adoption of ASU 2009-13 to have a material
impact on its consolidated results of operations and financial condition.
In October 2009, the FASB issued ASU 2009-14, Software (Topic 985) Certain Revenue
Arrangements that Include Software Elements. This guidance modifies the scope of FASB ASC subtopic
965-605, Software-Revenue Recognition, to exclude from its requirements non-software components of
tangible products and software components of tangible products that are sold, licensed, or leased
with tangible products when the software components and non-software components of the tangible
product function together to deliver the tangible products essential functionality. ASU 2009-14 is
effective for fiscal years beginning on or after June 15, 2010. The Company does not expect the
adoption of ASU 2009-14 to have a material impact on its consolidated results of operations and
financial condition.
In April 2009, the FASB issued authoritative fair value disclosure guidance included in ASC
825, Financial Instruments, for financial instruments. The guidance requires disclosures for
interim reporting periods of publicly traded companies as well as in annual financial statements.
The guidance also requires those disclosures in summarized financial information at interim
reporting periods. The Company adopted the guidance for the fiscal quarter ended November 27, 2009.
The adoption of the guidance did not have a significant impact on its consolidated results of
operations and financial condition.
NOTE 2 Stock-Based Compensation
The Company accounts for stock-based compensation under ASC 718, Compensation Stock
Compensation, which requires companies to recognize in their statement of operations all
share-based payments, including grants of stock options, based on the grant date fair value of such
share-based awards.
Total stock-based compensation expense recognized for the three months ended November 27, 2009
and November 28, 2008 was approximately $1.6 million and $1.8 million, respectively.
Stock Options
The Companys equity incentive plan provides for grants of options to employees and
independent directors of the Company to purchase the Companys ordinary shares at the fair value of
such shares on the grant date. The options generally vest over a four-year period beginning on the
grant date and have a 10-year term. As of November 27, 2009, there were 12,045,872 ordinary shares
reserved for issuance under this plan, of which 2,274,216 ordinary shares represented the number of
shares available for grant.
For stock options, stock-based compensation expense was approximately $1.3 million for the
three months ended November 27, 2009 and $1.8 million for the three months ended November 28, 2008.
Option Exchange
During the fourth quarter of fiscal 2009, the Companys shareholders approved an employee
stock option exchange program (Option Exchange) to permit eligible employees (excluding named
executive officers and directors) to exchange outstanding stock options with exercise prices equal
to or greater than $4.20 per share for new options to be granted under the Companys Amended and
Restated Stock Incentive Plan.
During the first quarter of fiscal 2010, the Company completed the employee stock option
exchange program. On September 25, 2009, 2,449,645 of the 3,446,561 eligible options were tendered
in exchange for 1,864,301 new options with a strike price of $5.38 per share. The new stock options
issued are subject to a two year vesting period.
The exchange of options in this Option Exchange is treated as a modification of the
existing stock options for accounting purposes. Accordingly, any unrecognized compensation expense
from the surrendered stock options would be recognized over the new service period of the new
granted options. There was no material incremental cost resulting from the Option Exchange.
8
Table of Contents
Summary of Assumptions and Activity
The fair value of each option grant is estimated on the date of grant using the Black-Scholes
option-pricing model that uses the assumptions noted in the following table. Expected volatility
for the three months ended November 27, 2009 is a blended average of the Companys historical
common stock volatility together with the historical volatilities of the common stock of
comparable publicly traded companies. The expected term of options granted represents the
weighted average period of time that options granted are expected to be outstanding giving
consideration to vesting schedules and our historical exercise patterns. The risk-free rate for the
expected term of the option is based on the average U.S. Treasury yield curve at the date of grant.
The following assumptions were used to value stock options:
Three Months Ended | ||||||||
November 27, | November 28, | |||||||
2009 | 2008 | |||||||
Stock options: |
||||||||
Expected term (years) |
4.7 | 5.3 | ||||||
Expected volatility |
70.1 | % | 57.0 | % | ||||
Risk-free interest rate |
2.11 | % | 2.01 | % | ||||
Expected dividends |
| |
A summary of option activity as of and for the three months ended November 27, 2009, is
presented below (dollars and shares in thousands, except per share data):
Weighted | ||||||||||||||||
Average | ||||||||||||||||
Weighted | Remaining | |||||||||||||||
Average | Contractual | Aggregate | ||||||||||||||
Exercise | Term | Intrinsic | ||||||||||||||
Shares | Price | (Years) | Value | |||||||||||||
Options outstanding at August 28, 2009 |
8,796 | $ | 4.99 | |||||||||||||
Options granted |
2,617 | * | 5.31 | |||||||||||||
Options exercised |
(125 | ) | 1.75 | |||||||||||||
Options forfeited and cancelled |
(2,618 | )* | 8.41 | |||||||||||||
Options outstanding at November 27, 2009 |
8,670 | $ | 4.10 | 7.4 | $ | 11,787 | ||||||||||
Options vested and exercisable at November 27, 2009 |
3,826 | $ | 3.21 | 6.0 | $ | 8,993 | ||||||||||
Options vested and expected to vest at November
27, 2009 |
8,244 | $ | 4.08 | 7.3 | $ | 11,532 | ||||||||||
* | Includes options re-granted (1,864) and cancelled (2,450) due to the Option Exchange. |
The Black-Scholes weighted average fair value of options granted during the three months ended
November 27, 2009 and November 28, 2008 was $2.47 and $1.46 per option, respectively. The total
intrinsic value of stock options exercised during the three months ended November 27, 2009, and
November 28, 2008 was approximately $0.3 million and $0.2 million, respectively. Upon the exercise
of options, the Company issues new ordinary shares from its authorized shares.
A summary of the status of the Companys non-vested stock options as of November 27, 2009, and
changes during the three months ended November 27, 2009, is presented below (dollars and shares in
thousands, except per share data):
Weighted | ||||||||
Average | ||||||||
Grant Date Fair | ||||||||
Shares | Value Per Share | |||||||
Non-vested stock options at August 28, 2009 |
3,738 | $ | 2.87 | |||||
Non-vested stock options granted |
2,617 | * | 2.55 | |||||
Vested stock options |
(303 | ) | 2.79 | |||||
Forfeited
and cancelled non-vested stock options |
(1,208 | )* | 4.43 | |||||
Non-vested stock options at November 27, 2009 |
4,844 | $ | 2.41 | |||||
* | Includes options re-granted
(1,864) and cancelled (1,040) due to the Option Exchange. |
As of November 27, 2009, there was approximately $12.5 million of total unrecognized
compensation costs related to stock options issued to employees,
independent directors, and technical advisory committee members. Such cost is
expected to be recognized over the weighted average period of 2.5 years. The total fair value of
shares vested during the three months ended November 27, 2009 was approximately $0.9 million.
Restricted Stock Units (RSUs)
The Companys equity incentive plan also provides for grants of RSUs. Beginning with the first
quarter of fiscal 2009, the Company began issuing time-based RSUs and performance-based RSUs. The
time-based RSUs vest over a period ranging from one year to four years and their fair value is determined by the closing
price of the Companys ordinary shares on the date of grant.
The
Company has issued two types of performance-based RSUs, the first
type is based on an internal metric and the second type is based on an external metric. The performance-based RSUs issued during the first quarter of fiscal 2009 would
have vested in the first quarter of fiscal 2011 if the Company
achieved its fiscal 2009 adjusted EBIT target as approved by the Board of
Directors. In the first quarter of fiscal 2010, these performance-based RSUs were cancelled since
the target was not met.
9
Table of Contents
During the first quarter of fiscal 2010, the Company began issuing performance-based RSUs that
contained an external stock market index as a benchmark for performance (market-based RSUs). The
market-based RSUs vest after three years and the amount of RSUs to be awarded will
depend upon the Companys performance compared to the external
stock market index at the time of vesting. The fair value of market-based RSUs is determined by using a Monte Carlo valuation model.
A summary of the changes in RSUs outstanding under the Companys share-based compensation plan
during the three months ended November 27, 2009 is presented below (in thousands, except for
weighted average grant date fair value):
Weighted | ||||||||||||
Average | ||||||||||||
Grant | Aggregate | |||||||||||
Date Fair | Intrinsic | |||||||||||
Shares | Value | Value | ||||||||||
Awards outstanding at August 28, 2009 |
68 | $ | 2.94 | |||||||||
Awards granted |
1,044 | 5.77 | ||||||||||
Awards vested |
(5 | ) | 2.84 | |||||||||
Awards forfeited |
(6 | ) | 5.20 | |||||||||
Awards outstanding at November 27, 2009 |
1,101 | $ | 5.61 | $ | 5,056 | |||||||
For RSUs, stock-based compensation expense was approximately $0.3 million for the three months
ended November 27, 2009 and $2 thousand for the three months ended November 28, 2008. As of
November 27, 2009, the Company had approximately $4.5 million of unrecognized compensation expense
related to RSUs, net of estimated forfeitures, which will be recognized over a weighted average
estimated remaining life of 2.7 years.
NOTE 3 Goodwill and Other Intangible Assets, net
In accordance with ASC 350, Intangibles Goodwill and Other, the Company performs a goodwill
impairment test annually during the fourth quarter of its fiscal year and more frequently if events
or circumstances indicate that impairment may have occurred. Such events or circumstances may
include significant adverse changes in the general business climate, among others. There were no
events or circumstances in the fiscal quarter ended November 27, 2009 indicating that impairment
may have occurred.
Currently, the Company operates in one reporting unit and one operating and reportable segment: the
design, manufacture, and distribution of electronic subsystem products to various segments of the
electronics industry. In fiscal 2008 and 2009, the Company had categorized its products and
services into the following two reporting units and two operating and reportable segments: the
Memory, Embedded, & Display Segment and the Adtron Segment. However, with the completion of the
Adtron integration into SMART, the Company now operates in one operating and reportable segment.
An impairment test involves a two-step process. The first step of the impairment test involves
comparing the Companys fair values with its aggregate carrying value, including goodwill. The
Companys fair value is generally determined using the income approach methodology of valuation
that includes the discounted cash flow method as well as other generally accepted valuation
methodologies. If the Companys carrying amount exceeds its fair value, then the second step of the
goodwill impairment test is performed to determine the amount of impairment loss. The second step
of the goodwill impairment test involves comparing the implied fair value of the Companys goodwill
with its carrying value.
The Company reviews its long-lived assets for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability
of assets to be held and used is measured by a comparison of the carrying amount of an asset to the
future undiscounted cash flows expected to be generated by the asset. If such assets are considered
to be impaired, the impairment is measured by the amount by which the carrying amount of the assets
exceeds the fair value of the assets. Assets to be disposed are reported at the lower of the
carrying amount or fair value, less cost to sell.
The following table summarizes the gross amounts and accumulated amortization of other
intangible assets from the Adtron acquisition by type as of November 27, 2009 and August 28, 2009
(in thousands):
Weighted | Value at | As of November 27, 2009 | As of August 28, 2009 | |||||||||||||||||||||
Avg. Life | Date of | Accumulated | Carrying | Accumulated | Carrying | |||||||||||||||||||
(years) | Acquisition | Amortization | Value | Amortization | Value | |||||||||||||||||||
Amortized intangible
assets: |
||||||||||||||||||||||||
Customer relationships |
10 | $ | 3,700 | $ | 648 | $ | 3,052 | $ | 555 | $ | 3,145 | |||||||||||||
Technology |
7 | 2,800 | 700 | 2,100 | 600 | 2,200 | ||||||||||||||||||
Company trade name |
20 | 2,040 | 178 | 1,862 | 153 | 1,887 | ||||||||||||||||||
Leasehold interest |
3 | 260 | 142 | 118 | 122 | 138 | ||||||||||||||||||
Non-compete agreement |
2 | 220 | 192 | 28 | 165 | 55 | ||||||||||||||||||
Product names |
9 | 60 | 12 | 48 | 10 | 50 | ||||||||||||||||||
Total |
11 | $ | 9,080 | $ | 1,872 | $ | 7,208 | $ | 1,605 | $ | 7,475 | |||||||||||||
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Amortization expense related to identifiable intangible assets totaled approximately $0.3
million and $0.2 million for the three months ended November 27, 2009 and November 28, 2008,
respectively. Acquired intangibles with definite lives are amortized on a straight-line basis over
the remaining estimated economic life of the underlying intangible assets.
Estimated amortization expenses of these intangible assets for the next five fiscal years and
all years thereafter are as follows (in thousands):
Fiscal Year: | Amount | |||
Remainder of fiscal 2010 |
$ | 748 | ||
2011 |
936 | |||
2012 |
879 | |||
2013 |
879 | |||
2014 |
879 | |||
Thereafter |
2,887 | |||
Total |
$ | 7,208 | ||
NOTE 4 Net Income (Loss) Per Share
Basic net income (loss) per ordinary share is calculated by dividing net income (loss) by the
weighted average of ordinary shares outstanding during the period. Diluted net income (loss) per
ordinary share is calculated by dividing the net income (loss) by the weighted average ordinary
shares and dilutive potential ordinary shares outstanding during the period. Dilutive potential
ordinary shares consist of dilutive shares issuable upon the exercise of outstanding stock options
and vesting of RSUs computed using the treasury stock method.
The following table sets forth for all periods presented the computation of basic and diluted
net income (loss) per ordinary share, including the reconciliation of the numerator and denominator
used in the calculation of basic and diluted net income (loss) per share (dollars and shares in
thousands, except per share data):
Three Months Ended | ||||||||
November 27, | November 28, | |||||||
2009 | 2008 | |||||||
Numerator: |
||||||||
Net income (loss) |
$ | 4,582 | $ | (6,878 | ) | |||
Denominator: |
||||||||
Weighted average ordinary shares, basic |
61,974 | 61,507 | ||||||
Effect of dilutive securities: |
||||||||
Stock options and RSUs |
2,042 | | ||||||
Weighted average ordinary shares, diluted |
64,016 | 61,507 | ||||||
Net income (loss) per ordinary share, basic |
$ | 0.07 | $ | (0.11 | ) | |||
Net income (loss) per ordinary share, diluted |
$ | 0.07 | $ | (0.11 | ) | |||
The Company excluded 5,407,116 and 9,386,269 weighted shares from stock options and RSUs from
the computation of diluted net income (loss) per share for the three months ended November 27, 2009
and November 28, 2008, respectively, as the effect of their inclusion would have been
anti-dilutive.
NOTE 5 Inventories
Inventories consist of the following as of November 27, 2009 and August 28, 2009 (in
thousands):
November 27, | August 28, | |||||||
2009 | 2009 | |||||||
Raw materials |
$ | 26,909 | $ | 20,207 | ||||
Work-in process |
8,698 | 4,716 | ||||||
Finished goods |
43,079 | 38,192 | ||||||
$ | 78,686 | $ | 63,115 | |||||
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NOTE 6 Income Taxes
The provision for income tax expense (benefit) is summarized as follows (in thousands):
Three Months Ended | ||||||||
November 27, | November 28, | |||||||
2009 | 2008 | |||||||
Current |
$ | 4,728 | $ | 2,192 | ||||
Deferred |
(11 | ) | (15 | ) | ||||
Total |
$ | 4,717 | $ | 2,177 | ||||
Worldwide income (loss) before provision for income taxes for the three months ended
November 27, 2009 and November 28, 2008, consisted of the following components (in thousands):
Three Months Ended | ||||||||
November 27, | November 28, | |||||||
2009 | 2008 | |||||||
U.S. loss |
$ | (4,263 | ) | $ | (12,329 | ) | ||
Non-U.S. income |
13,562 | 7,628 | ||||||
Total |
$ | 9,299 | $ | (4,701 | ) | |||
The effective tax rates for the three months ended November 27, 2009 and November 28, 2008
were approximately 51% and (46%). For the three months ended November 27, 2009, the effective tax
rate of 51% exceeded the 35% U.S. statutory tax rate principally due to losses in the U.S and
certain non-U.S. jurisdictions that generated no tax benefit. Taxable income of $17.0 million earned by
profitable non-U.S. entities for the three months ended November 27, 2009 was subject to a tax rate
of approximately 29%. This combination of loss generating entities without any associated tax benefit
and income taxes in profitable non-U.S. jurisdictions resulted in a consolidated effective tax rate
of 51% and tax expense of $4.7 million. Similarly, the (46%) effective tax rate for the three months ended
November 28, 2008 exceeded the 35% U.S. statutory rate principally due to losses in the U.S and
certain non-U.S. jurisdictions that generated no tax benefit.
At November 27, 2009, the liability for uncertain tax positions decreased to $0.1 million from
$0.3 million at August 28, 2009.
As of November 27, 2009, the Company evaluated its valuation allowance on deferred tax assets
to determine if a change in circumstances caused a change in judgment regarding the realization of
deferred tax assets in future years. The Company has a cumulative loss for the U.S. in recent
years and projects a tax loss for the U.S. in the current fiscal year and for the foreseeable
future. A cumulative loss in recent years within the U.S. represents significant evidence in
evaluating the need for a valuation allowance on U.S. net deferred tax assets. As a result, the
Company continues to record a full valuation allowance on its U.S. deferred tax assets.
NOTE 7 Indebtedness
On March 28, 2005 the Company issued $125.0 million in senior secured floating rate notes due
on April 1, 2012 (the 144A Notes) in an offering exempted from registration (the Offering). The
144A Notes were jointly and severally guaranteed on a senior basis by all of our restricted
subsidiaries, subject to limited exceptions. In addition, the 144A Notes and the guarantees were
secured on a second-priority basis by the capital stock of, or equity interests in, most of our
subsidiaries and substantially all of the Companys and most of its subsidiaries assets. The 144A
Notes accrued interest at the three-month London Inter Bank Offering Rate, or LIBOR, plus 5.50% per
annum, payable quarterly in arrears, and were redeemable under certain conditions and limitations.
The 144A Notes were then registered and exchanged for the senior secured floating rate exchange
notes (the Notes) on October 27, 2005. The terms of the Notes are identical in all material
respects to the terms of the 144A Notes, except that the transfer restrictions and registration
rights related to the 144A Notes do not apply to the Notes. On August 13, 2008, the Company
de-registered the Notes with the SEC to suspend the Companys remaining reporting obligations to
file reports under Sections 13 and 15(d) with respect to the Notes. The indenture relating to the
Notes contains various covenants including limitations on our ability to engage in certain
transactions and limitations on our ability to incur debt, pay dividends and make investments.
The Company incurred approximately $4.9 million in related debt issuance costs, the remaining
portion of which is included in other non-current assets in the accompanying consolidated balance
sheets. Except for the portion written off in connection with the repurchase discussed below, debt
issuance costs related to the Notes are being amortized to interest expense on a straight-line
basis, which approximates the effective interest rate method, over the life of the Notes.
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On October 13, 2009, the Board of Directors approved up to $25.0 million to repurchase and/or
redeem debt outstanding under the Notes, excluding unpaid accrued interest. On October 22, 2009,
using available cash, the Company repurchased and retired $26.2 million of the principal amount of
the Notes for $25.0 million, 95.5% of the principal or face amount. In connection with the
repurchase, for the three months ended November 27, 2009, a gain of $1.2 million was recognized in
other income (expense), offset by a $0.4 million write-off of debt issuance costs. As of November
27, 2009, the remaining aggregate principal amount outstanding under the Notes was $55.1 million.
On August 28, 2009, the Company adopted ASC 825, Financial Instruments, which requires
disclosures about the fair value of financial instruments for interim reporting periods of publicly
traded companies. As of November 27, 2009, the fair value of the Notes was estimated to be
approximately $54.0 million.
NOTE 8 Fair Value Measurements
In the first quarter of fiscal 2009, the Company adopted ASC 820, Fair Value Measurements
and Disclosures, for all financial assets and financial liabilities and for non-financial assets
and non-financial liabilities recognized or disclosed at fair value in the financial statements on
a recurring basis, at least annually. The guidance provided a one year deferral of the effective
date of ASC 820 for other non-financial assets and non-financial liabilities. Effective with the
first quarter of fiscal 2010, the Company adopted the provisions of ASC 820 for all non-financial
assets and non-financial liabilities.
The fair value of the Companys cash, cash equivalents, accounts receivable, accounts payable
and Wells Fargo credit facility approximates the carrying amount due to the relatively short
maturity of these items. Cash and cash equivalents consist of funds held in general checking
accounts, money market accounts and certificates of deposits with an original maturity on the date
of purchase of three months or less. The Company does not have investments in variable rate demand
notes or auction rate securities.
The FASB guidance establishes a fair value hierarchy that prioritizes the inputs to valuation
techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted
quoted prices in active markets to identical assets or liabilities (level 1 measurements) and the
lowest priority to unobservable inputs (level 3 measurements). The three levels of the fair value
hierarchy are described below:
| Level 1. Valuations based on quoted prices in active markets for identical assets or
liabilities that an entity has the ability to access. The Companys Level 1 assets include
money market funds and certificates of deposit that are classified as cash equivalents. |
| Level 2. Valuations based on quoted prices for similar assets or liabilities, quoted prices
for identical assets or liabilities in markets that are not active, or other inputs that are
observable or can be corroborated by observable data for substantially the full term of the
assets and liabilities. The Companys Level 2 liabilities include its non-current
variable-to-fixed interest rate swap. |
| Level 3. Valuations based on inputs that are supported by little or no market activity and
that are significant to the fair value of the assets or liabilities. The Company does not
have any assets or liabilities measured under Level 3. |
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Assets and liabilities measured at fair value on a recurring basis include the following (in
millions):
Quoted prices in | Observable/ | |||||||||||
Active Markets | Unobservable | |||||||||||
for Identical | Inputs | |||||||||||
Assets or | Corroborated by | |||||||||||
Liabilities | Market Data | |||||||||||
Level 1 | Level 2 | Total | ||||||||||
Balances as of November 27, 2009: |
||||||||||||
Assets: (1) |
||||||||||||
Money market funds (2) |
$ | 24.5 | $ | | $ | 24.5 | ||||||
Certificates of deposit (2) |
20.1 | | 20.1 | |||||||||
Total assets measured at fair value (3) |
$ | 44.6 | $ | | $ | 44.6 | ||||||
Liabilities: |
||||||||||||
Non-current variable-to-fixed interest rate swap |
$ | | $ | (1.0 | ) | $ | (1.0 | ) | ||||
Total liabilities measured at fair value |
$ | | $ | (1.0 | ) | $ | (1.0 | ) | ||||
Balances as of August 28, 2009: |
||||||||||||
Assets: (1) |
||||||||||||
Money market funds (2) |
$ | 79.2 | $ | | $ | 79.2 | ||||||
Certificates of deposit (2) |
24.0 | | 24.0 | |||||||||
Total assets measured at fair value (3) |
$ | 103.2 | $ | | $ | 103.2 | ||||||
Liabilities: |
||||||||||||
Non-current variable-to-fixed interest rate swap |
$ | | $ | (1.3 | ) | $ | (1.3 | ) | ||||
Total liabilities measured at fair value |
$ | | $ | (1.3 | ) | $ | (1.3 | ) | ||||
(1) | There were no assets or liabilities measured under Level 3. |
|
(2) | Included in cash and cash equivalents on the Companys consolidated balance sheet. |
|
(3) | The total in Level 1 does not included $84.5 million and $44.5 million of cash
balances from checking and savings accounts for November 27, 2009 and August 28, 2009,
respectively. |
Derivative Instruments
The Company has an outstanding interest rate swap agreement (the Swap) for $40.0 million
notional amount. The Swap has an expiration date of April 28, 2010 and under its terms, the Company
pays a fixed rate of 9.97% related to such notional amount. The Company entered into the Swap in
order to hedge a portion of its future cash flows against interest rate exposure resulting from the
Notes. In exchange, the Company receives interest income at a variable interest rate equal to the
3-month LIBOR rate plus 5.50%. The Swap essentially replaced the variable interest rate on a
portion of the Notes with a fixed interest rate through the expiration date. The Swap is accounted
for as a cash flow hedge under ASC 815, Derivatives and Hedging, which requires the Company to
recognize all derivatives on the balance sheet at fair value. The fair value of the outstanding
derivative instrument referred to above was a liability of approximately $1.0 million and $1.3
million as of November 27, 2009 and August 28, 2009, respectively.
For all derivative transactions, the Company is exposed to counterparty credit risk. To manage
such risk, the Company limits its derivative transaction counterparties to major financial
institutions. The Company does not expect to experience any material adverse financial consequences
as a result of default by the Companys counterparties.
NOTE 9 Commitments and Contingencies
Product Warranty
Product warranty reserves are established in the same period that revenue from the sale of the
related products is recognized, or in the period that a specific issue arises as to the
functionality of a Companys product. The amounts of the reserves are based on established terms
and the Companys best estimate of the amounts necessary to settle future and existing claims on
products sold as of the balance sheet date.
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The following table reconciles the changes in the Companys accrued warranty (in thousands):
Three Months Ended | ||||
November 27, 2009 | ||||
Balance of accrual at August 28, 2009 |
$ | 694 | ||
Warranty claims |
(226 | ) | ||
Provision for product warranties |
128 | |||
Balance of accrual at November 27, 2009 |
$ | 596 | ||
Product warranty reserves are recorded in accrued expenses and other current liabilities in
the accompanying unaudited condensed consolidated balance sheets.
The Company currently has in effect a number of agreements in which it has agreed to defend,
indemnify and hold harmless its customers and suppliers from damages and costs which may arise from
the infringement by its products of third-party patents, trademarks or other proprietary rights.
The Company believes its internal development processes and other policies and practices limit its
exposure related to such indemnities. Maximum potential future payments cannot be estimated because
many of these agreements do not have a maximum stated liability. However, to date, the Company has
not had to reimburse any of its customers or suppliers for any losses related to these indemnities.
The Company has not recorded any liability in its financial statements for such indemnities.
Legal Matters
From time to time the Company is involved in legal matters that arise in the normal course of
business. Litigation in general and intellectual property and employment litigation in particular,
can be expensive and disruptive to normal business operations. Moreover, the results of complex
legal proceedings are difficult to predict. The Company believes that it has defenses to the cases
pending, including those set forth below. The Company is not currently able to estimate, with
reasonable certainty, the possible loss, or range of loss, if any, from the cases listed below, and
accordingly no provision for any potential loss which may result from the resolution of these
matters has been recorded in the accompanying consolidated financial statements. In the Companys
opinion, the estimated resolution of these disputes and litigation is not expected to have a
material impact on its consolidated financial position, results of operations or cash flow.
Brazil
During its third quarter of fiscal 2007, the Company identified certain discrepancies in the
invoicing of certain products that it sold in the Brazilian market in fiscal 2006. Some of the
Companys imported products were invoiced in a manner that may have left customers with the
impression that they were manufactured in Brazil, rather than imported, and therefore potentially
impacted the customers eligibility for tax incentives. The Company assessed the impact arising
from these discrepancies and noted that the customers had access to other information to determine
the origin of the products and may not have relied on the information contained in the invoices for
computing their tax liability. Also, the revenues related to these invoices were not material to
the Companys operations. Therefore, the Company believes that the likelihood of any liability
arising from these discrepancies in the invoices is remote and as such, is not likely to have a
material adverse effect on its consolidated financial position, results of operations or cash flows
for any periods impacted.
Tessera
On December 7, 2007, Tessera, Inc. filed a complaint under section 337 of the Tariff Act of
1930 (Tariff Act), 19 U.S.C. § 1337, in the U.S. International Trade Commission (ITC) against
the Company, as well as A-DATA Technology Co., Ltd., A-DATA Technology (U.S.A.) Co., Ltd., Acer
America Corp., Acer Inc., Centon Electronics, Inc., Elpida Memory, Inc., Elpida Memory (USA) Inc.,
International Products Sourcing Group, Inc., Kingston Technology Co., Nanya Technology Corp., Nanya
Technology Corp. U.S.A., Peripheral Devices & Products Systems, Inc. d/b/a Patriot Memory,
Powerchip Semiconductor Corp., ProMOS Technologies Inc., Ramaxel Technology Ltd., TwinMOS
Technologies Inc., and Twin MOS Technologies USA Inc. (each a Respondent and collectively,
Respondents). Tessera claims that small-format Ball Grid Array (BGA) semiconductor packages
and products containing such semiconductor packages, including memory module products sold by the
Company, infringe certain claims of United States Patent Nos. 5,697,977, 6,133,627, 5,663,106 and
6,458,681 (the Asserted Patents). Tesseras Complaint requested that the ITC institute an
investigation into the matter. Tessera also requested the following relief from the ITC:
a permanent general exclusion order pursuant to section 337(d)(2) of the Tariff Act, as
amended, excluding from entry into the U.S. all small-format BGA semiconductor packaged DRAM chips
(BGA chips) and products containing the same that are manufactured, imported or sold for
importation by or on behalf of unlicensed entities and that infringe any claim of the Asserted
Patents, and all products (e.g., personal computers or PCs) that contain such infringing BGA
chips;
a permanent exclusion order pursuant to section 337(d)(1) of the Tariff Act, as amended,
excluding from entry into the U.S. all semiconductor chips with small-format BGA semiconductor
packaging which are manufactured, imported or sold for importation by or on behalf of Respondents
and which infringe any claim of the Asserted Patents, and all products (e.g., PCs) that contain
such infringing BGA chips; and
15
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permanent cease and desist orders, one per Respondent, pursuant to section 337(f) of the
Tariff Act, as amended, directing each Respondent having domestic inventories to cease and desist
from importing, marketing, advertising, demonstrating, sampling, warehousing inventory for
distribution, offering for sale, selling, distributing, licensing, or using any semiconductor chips
with small-format BGA semiconductor packaging and/or products containing such semiconductor chips,
that infringe any claim of the Asserted Patents.
On January 3, 2008, the ITC instituted an investigation pursuant to 19 U.S.C. § 1337,
entitled, In the Matter of Certain Semiconductor Chips with Minimized Chip Package Size and
Products Containing Same (III), Inv. No. 337-TA-630. In May 2008, Tessera withdrew one of the
four Asserted Patents (U.S. Patent No. 6,458,681) from the ITC investigation in an effort to
streamline the case. On May 29, 2008, the Administrative Law Judge (ALJ) set trial for September
22, 2008, which trial has been completed. On August 28, 2009 the ALJ issued his Initial
Determination. Among other conclusions reached, the ALJ concluded that, although Tesseras patents
were found to be valid, no infringement by SMART or the other Respondents was found. We continue
to believe that we have meritorious defenses against Tesseras claims, including the fact that over
95% of the packaged DRAMs that SMART uses in its memory module products are purchased (directly or
indirectly) from DRAM manufacturers that Tessera acknowledges are licensed under the Asserted
Patents. With respect to one Respondent, the ALJ concluded in his Initial Determination that the
doctrine of patent exhaustion applied to DRAM packaged by Tessera licensed entities.
Tessera also filed a parallel patent infringement claim in the Eastern District of Texas,
alleging infringement of the same patents at issue in the ITC action. The district court action
seeks an unspecified amount of damages and injunctive relief. The district court action has been
stayed pending the completion of the ITC action.
On December 29, 2009, the ITC issued a notice stating that it has determined that there has
been no violation of § 337 of the Tariff Act of 1930, 19 U.S.C. § 1337, and that it has
terminated the investigation. The details of the decision have not yet been released and the
Company is not certain as to its impact. Additionally, the decision of the ITC is appealable.
Contingencies
See Brazil under Legal Matters above.
During the fourth quarter of fiscal 2008, the Sao Paulo, Brazil, State Tax Inspector informed
the Company that certain tax credits, for state value added taxes, transferred during 2004 between
two Brazilian entities may not have represented an authorized transfer. These transfers occurred
prior to the acquisition in April 2004 of SMART from Solectron Corporation (Solectron) and the full
amount of any related tax assessment against SMART would be subject to indemnification by Solectron
to SMART pursuant to the Transaction Agreement dated February 11, 2004. A notice was received
from the Sao Paulo, Brazil Tax Authorities (Delegacia Tributaria de Julgamento) by SMART on October
3, 2008 providing an assessment for the recovery of the tax credits as well as interest and
penalties related to the transfer of these credits. SMART has notified Solectron and its parent
company, Flextronics International Ltd. (Flextronics) of this assessment, and under the terms of
the Transaction Agreement, Flextronics has elected to assume responsibility for the appeals process
for this case on SMARTs behalf. The San Paolo, Brazil Tax Authorities rejected the appeal prepared
by Flextronics legal counsel, and the latter filed an appeal to the Tax Administrative Court
(Tribunal de Impostos e Taxas). On October 23, 2009, there was a hearing on the appeal and on
December 5, 2009, the appeal was rejected. Flextronics has notified SMART that it will
file another appeal. As of November 27, 2009, the Company carries both a tax liability and a
corresponding indemnity receivable for approximately $3.8 million (or 6.6 million BRL). The
Company believes that the likelihood of any material loss arising from this matter is not probable,
and as such, not likely to have a material adverse effect on its consolidated financial position,
results of operations or cash flows.
NOTE 10 Segment and Geographic Information
The Company currently operates in one operating segment: the design, manufacture, and
distribution of electronic subsystem products to various segments of the electronics industry. The
Companys chief operating decision-maker, the President and CEO, evaluates financial performance on
a company wide basis. In fiscal 2008 and 2009, the Company had categorized its products and
services into the following two business segments, the Memory, Display & Embedded Segment and the
Adtron Segment. However, with the completion of the Adtron integration into SMART, the Company now
operates in one segment.
A summary of the Companys net sales and property and equipment, net, by geographic area is as
follows (in thousands):
Three Months Ended | ||||||||
November 27, | November 28, | |||||||
2009 | 2008 | |||||||
Geographic net sales: |
||||||||
U.S. |
$ | 43,104 | $ | 57,201 | ||||
Other Americas |
46,467 | 43,088 | ||||||
Europe |
8,630 | 16,308 | ||||||
Asia |
24,892 | 24,178 | ||||||
$ | 123,093 | $ | 140,775 | |||||
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November 27, | August 28, | |||||||
2009 | 2009 | |||||||
Property and equipment, net: |
||||||||
U.S. |
$ | 6,862 | $ | 7,724 | ||||
Other Americas |
22,857 | 22,654 | ||||||
Europe |
35 | 40 | ||||||
Asia |
6,113 | 5,845 | ||||||
$ | 35,867 | $ | 36,263 | |||||
NOTE 11 Major Customers
A majority of the Companys net sales are attributable to customers operating in the
information technology industry. Net sales from SMARTs major customers, defined as net sales in
excess of 10% of total net sales or those who have outstanding customer accounts receivable balance
at the end of the fiscal period of 10% or more of our total net accounts receivable, are as
follows:
Three Months Ended | ||||||||
November 27, | November 28, | |||||||
2009 | 2008 | |||||||
Customer A |
23 | % | 34 | % | ||||
Customer B |
18 | % | 12 | % | ||||
Customer C |
12 | % | * |
* | Less than 10% |
As of November 27, 2009, approximately 34%, 25% and 14% of accounts receivable were
concentrated with Customer A, B
and C, respectively. As of August 28, 2009, approximately 27%, 27% and 26% of accounts
receivable were concentrated with Customer A, B and C, respectively. The loss of a major customer
or a significant reduction in revenue from a major customer could have a material adverse effect on
the Companys business, financial condition and results of operations.
NOTE 12 Restructuring
During the second quarter of fiscal 2009, the Company initiated a restructuring plan (the
FY09 Plan) to reduce its global workforce in order to improve the Companys cost structure in the
uncertain economic environment. In an effort to reduce cost in the third quarter of fiscal 2009,
the Company initiated another restructuring plan to reduce its global workforce, which plan was
included in the FY09 Plan. The FY09 Plan included charges consisting primarily of severance
payments and other employee-related expenses. All severance payments and employee-related expenses
in connection with the FY09 Plan have been paid as of November 27, 2009.
NOTE 13 Subsidiary Guarantors
The Company has not presented separate financial statements of subsidiary guarantors of the
Notes, as (1) each of the subsidiary guarantors is wholly-owned by the Company, the issuer of the
Notes, (2) the guarantees are full and unconditional, (3) the guarantees are joint and several, and
(4) the Company has no independent assets and operations and all subsidiaries of the Company other
than the subsidiary guarantors are minor.
NOTE 14 Other Income (Expense), Net
The following table provides the detail of other income (expense), net (in thousands):
Three Months Ended | ||||||||
November 27, | November 28, | |||||||
2009 | 2008 | |||||||
Foreign currency losses |
(50 | ) | (799 | ) | ||||
Gain on early repayment of long-term debt |
1,178 | | ||||||
Other |
164 | 33 | ||||||
Total |
$ | 1,292 | $ | (766 | ) | |||
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NOTE 15 Subsequent Events
The Company has reviewed its operations through January 6, 2010, the date it filed this
Quarterly Report on Form 10-Q with the SEC, for any events or transactions subsequent to
November 27, 2009 that may require recognition or disclosure in subsequent financial statements.
On December 11, 2009, Ring Technology Enterprises of Texas, LLC (Ring Technology) filed a
complaint in the Eastern District of Texas alleging infringement of United States Patent No.
6,879,526 entitled Methods and Apparatus for Improved Memory Access (the 526 patent) by two
subsidiaries of the Company as well as by A-Data Technology (U.S.A.) Co., Ltd., Elpida Memory (USA)
Inc., Hewlett-Packard Company, Hewlett-Packard Inter-Americas, Hitachi Global Storage Technologies,
Inc., Hitachi Computer Products (America), Inc., Hitachi Electronic Devices (USA), Inc., Micron
Technology, Inc., Micron Semiconductor Products, Inc., Micron Technology Services, Inc., Nan ya
Technology Corporation, Samsung Semiconductor, Inc., Samsung America, Inc., Samsung International,
Inc., Sanmina-SCI Corporation, Dell Inc., International Business Machines Corporation, Sun
Microsystems, Inc., Sun Microsystems of California, Inc., Sun Microsystems International, Inc., Sun
Microsystems Federal, Inc., Kingston Technology Corporation, Kingston Technology Company, Inc.
(Delaware), Elpida Memory, Inc., A-Data Technology Co., Ltd., Nanya Technology Corporation, Samsung
Electronics Co., Ltd., and Hitachi, Ltd. Ring Technology alleges that the Companys two
subsidiaries have been and now are infringing, jointly infringing and/or contributing to the
infringement of the 526 patent, by making, using, importing, offering for sale, and/or selling one
or more devices having a memory device and a set of shift registers interconnected in series that
shift data from the memory device from one shift register to the next in the set according to a
shift frequency received from a clock signal, e.g., a random access memory device employing an
Advanced Memory Buffer covered by one or more claims of the 526 patent. Ring Technology claims
liability for infringement of the 526 patent pursuant to 35 U.S.C. Section 271 and seeks an
unspecified amount of damages and injunctive relief. At this time, the Company is unable to make
any evaluation of the claims alleged.
On December 11, 2009, a subsidiary of the Company received approximately $3.0 million in
settlement of a lawsuit with respect to component supply. This gain will be recognized in the
second quarter of fiscal 2010.
On December 29, 2009, the ITC issued a notice stating that it has determined that there has
been no violation of § 337 of the Tariff Act of 1930, 19 U.S.C. § 1337, and that it has
terminated the investigation into Tesseras Complaint, which is
discussed under Legal Matters in Note 9 above. The details of the decision have not yet
been released and the Company is not certain as to its impact. Additionally, the decision of
the ITC is appealable.
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
This Quarterly Report on Form 10-Q, including this Managements Discussion and Analysis of
Financial Condition and Results of Operations, contains forward-looking statements regarding future
events and our future results that are subject to the safe harbors created under the Securities Act
of 1933 (the Securities Act) and the Securities Exchange Act of 1934 (the Exchange Act). These
statements are based on current expectations, estimates, forecasts and projections about the
industries in which we operate and the beliefs and assumptions of our management. Words such as
expects, anticipates, targets, goals, projects, intends, plans, believes, seeks,
estimates, continues, will, may, and variations of such words and similar expressions are
intended to identify such forward-looking statements. In addition, any statements that refer to
projections of our future financial performance, our anticipated trends in our businesses, and
other characterizations of future events or circumstances are forward-looking statements. Readers
are cautioned not to place undue reliance on any forward-looking statements as these are only
predictions and are subject to risks, uncertainties, and assumptions that are difficult to predict,
including those identified elsewhere herein, and those discussed in Part II, Item 1A, Risk
Factors in our Annual Report on Form 10-K for the fiscal year ended August 28, 2009 filed with the
SEC on November 9, 2009 as revised in Part II, Item 1A, Risk Factors in this
Quarterly Report on Form 10-Q below. Therefore, actual results may differ materially and adversely
from those expressed in any forward-looking statements. We undertake no obligation to revise or
update any forward-looking statements for any reason.
The following discussion should be read in conjunction with our consolidated financial
statements and notes thereto included elsewhere in this Quarterly Report on Form 10-Q.
Executive Overview
We are a leading independent designer, manufacturer and supplier of value added subsystems
sold primarily to Original Equipment Manufacturers (OEMs). Our subsystem products include memory
modules, flash memory cards, solid state storage products such as embedded flash and solid state
drives or SSDs, embedded computing boards and display products. We offer these products to
customers worldwide. We also offer custom supply chain services including procurement, logistics,
inventory management, temporary warehousing, kitting and packaging services. Our products and
services are used for a variety of applications in the computing, networking, communications,
printer, storage, aerospace, defense and industrial markets worldwide. Products that incorporate
our subsystems include servers, routers, switches, storage systems, workstations, personal
computers (PCs), notebooks, printers and gaming machines. Generally, increases in overall demand
by end users for, and increases in memory content in, products that incorporate our subsystems
should have a positive effect on our business, financial condition and results of operations.
Conversely, decreases in product demand and memory content can have a negative effect on our
business, financial condition and results of operations. We offer more than 500 standard and
custom products to leading OEMs, including Cisco Systems, Dell and Hewlett-Packard. We maintain a
large global footprint with manufacturing capabilities in the United States, Malaysia and Brazil.
Our global operations enable us to reduce costs and rapidly respond to our customers requirements
worldwide.
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Our business was originally founded in 1988 as SMART Modular Technologies, Inc. (SMART
Modular) and SMART Modular became a publicly traded company in 1995. Subsequently, SMART Modular
was acquired by Solectron Corporation (Solectron) in 1999 and operated as a subsidiary of
Solectron. In April 2004, a group of investors led by TPG, Francisco Partners and Shah Capital
Partners acquired SMART Modular from Solectron, at which time we began to operate our business as
an independent company incorporated under the laws of the Cayman Islands. Since the acquisition, we
repositioned portions of our business by focusing on delivery of certain higher value added
products, diversifying our end markets, extending into new vertical markets, creating more
technically engineered products and solutions, migrating manufacturing to low cost regions and
controlling expenses. For example, in fiscal 2006 we completed a new manufacturing facility in
Atibaia, Brazil where we import finished wafers and package them into memory integrated circuits
and build memory modules. In fiscal 2008 we acquired Adtron Corporation (Adtron), a leading
designer and global supplier of high performance and high capacity SSDs for the defense, aerospace
and industrial markets which we recently renamed to SMART Modular Technologies (AZ), Inc.
We currently operate in one reportable segment: the design, manufacture, and distribution of
electronic subsystem products to various segments of the electronics industry. The Companys chief
operating decision-maker, the President and CEO, evaluates financial performance on a company wide
basis. In fiscal 2008 and 2009, we had categorized our products and services into the following two
business segments, the Memory, Display & Embedded Segment and the Adtron Segment. However, with
the completion of the Adtron integration into SMART, we now operate in one segment. In addition,
during the first quarter of fiscal 2010, we indicated that we are planning to exit from display and
embedded products, however, no definitive plan has been committed to as of the filing of this
Quarterly Report on Form 10-Q. This product line only accounted for approximately three
percent of net sales for each of the past three fiscal quarters and we do not consider it to be a
business component that would otherwise require separate reporting of
its activities under discontinued operations. The eventual exit from these products is not
expected to have a material impact on our business, results of
operations or financial condition.
Key Business Metrics
The following is a brief description of the major components of the key line items in our
financial statements.
Net Sales
We generate our product revenues from sales of our subsystems, including memory modules, flash
memory cards, solid state storage devices, embedded computing boards and display products,
principally to leading computing, networking, communications, printer, storage, aerospace, defense
and industrial OEMs. Sales of our products are generally made pursuant to purchase orders rather
than long-term commitments. We generate service revenue from a limited number of customers by
providing procurement, logistics, inventory management, temporary warehousing, kitting and
packaging services. Our net sales are dependent upon demand in the end markets that we serve and
fluctuations in end-user demand can have a rapid and material effect on our net sales. Furthermore,
sales to relatively few customers have accounted, and we expect will continue to account for, a
significant percentage of our net sales in the foreseeable future.
Cost of Sales
The most significant components of cost of sales are materials, fixed manufacturing costs,
labor and depreciation. Increases in capital expenditures may increase our future cost of sales due
to higher levels of depreciation expense. Cost of sales also includes any inventory write-downs.
We may write-down inventory for a variety of reasons, including obsolescence, excess quantities and
declines in market value below our cost.
Research and Development Expenses
Research and development expenses consist primarily of the costs associated with the design
and testing of new products. These costs relate primarily to compensation of personnel involved
with development efforts, materials and outside design and testing services. Our customers
typically do not separately compensate us for design and engineering work involved in the
development of custom products.
Selling, General and Administrative Expenses
Selling, general and administrative expenses consist primarily of personnel costs, including
commissions and benefits, facilities and non-manufacturing equipment costs, allowances for bad
debt, costs related to advertising and marketing and other support costs including utilities,
insurance and professional fees.
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Critical Accounting Policies
Managements Discussion and Analysis of Financial Condition and Results of Operations is based
on our financial statements which have been prepared in accordance with accounting principles
generally accepted in the United States. The preparation of these financial statements requires us
to make certain estimates that affect the reported amounts in our financial statements. We evaluate
our estimates on an ongoing basis, including those related to our net sales, inventories, asset
impairments, restructuring charges, income taxes, stock-based compensation and commitments and
contingencies. We base our estimates on historical experience and on various other assumptions that
we believe to be reasonable under the circumstances. Actual results may differ from these
estimates under different assumptions or conditions.
We believe the following critical accounting policies are the most significant to the
presentation of our financial statements and they at times require the most difficult, subjective
and complex estimates.
Revenue Recognition
Our product revenues are derived from the sale of value added subsystems, including memory
modules, flash memory cards, solid state storage devices, embedded computing boards and display
products, which we design and manufacture. We recognize revenue when persuasive evidence of an
arrangement exists, product delivery has occurred, the sales price is fixed or determinable, and
collectability is reasonably assured. Product revenue typically is recognized at the time of
shipment or when the customer takes title of the goods. Amounts billed to customers related to
shipping and handling are classified as sales, while costs incurred by us for shipping and handling
are classified as cost of sales. Taxes, including value added taxes, assessed by a government
authority that are both imposed on and concurrent with a specific revenue producing transaction are
excluded from revenue.
Our service revenues are derived from procurement, logistics, inventory management, temporary
warehousing, kitting and packaging services. The terms of our contracts vary, but we generally
recognize service revenue upon the completion of the contracted services. Our service revenue is
accounted for on an agency basis. Service revenue for these arrangements is typically based on
material procurement costs plus a fee for any services provided. We determine whether to report
revenue on a net or gross basis depending on a number of factors, including whether we are the
primary obligor in the arrangement, have general
inventory risk, have the ability to set the price, have the ability to determine who the
suppliers are, can physically change the product, or have credit risk. Under some service
arrangements, we may retain inventory risk. All inventory held under service arrangements is
included in the inventory reported on the consolidated balance sheet.
The following is a summary of our net sales and gross billings (in thousands):
Three Months Ended | ||||||||
November 27, | November 28, | |||||||
2009 | 2008 | |||||||
Product net sales |
$ | 115,141 | $ | 128,800 | ||||
Service revenue |
7,952 | 11,975 | ||||||
Net sales |
123,093 | 140,775 | ||||||
Plus: Cost of sales (1) |
153,604 | 186,210 | ||||||
Gross billings to customers |
$ | 276,697 | $ | 326,985 | ||||
(1) | Represents cost of sales associated with service revenue reported on a net
basis. |
Accounts Receivable
We evaluate the collectability of accounts receivable based on several factors. When we are
aware of circumstances that may impair a specific customers ability to meet its financial
obligations, we record a specific allowance against amounts due, and thereby reduce the net
recognized receivable to the amount we reasonably believe will be collected. Increases to the
allowance for bad debt are recorded as a component of general and administrative expenses. For all
other customer accounts receivable, we record an allowance for doubtful accounts based on a
combination of factors including the length of time the receivables are outstanding, industry and
geographic concentrations, the current business environment, and historical experience.
As a result of the current macroeconomic environment and associated credit market conditions,
both liquidity and access to capital have impacted some of our customers. We have continued to
closely monitor our credit exposure with our customers to anticipate exposures and minimize our
risk.
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Inventory Valuation
At each balance sheet date, we evaluate our ending inventories for excess quantities and
obsolescence. This evaluation includes analysis of sales levels by product family. Among other
factors, we consider historical demand and forecasted demand in relation to the inventory on hand,
competitiveness of product offerings, market conditions and product life cycles when determining
obsolescence and net realizable value. We adjust remaining balances to approximate the lower of our
manufacturing cost or net realizable value. Inventory cost is determined on a specific
identification basis and includes material, labor and manufacturing overhead. From time to time,
our customers may request that we purchase and maintain significant inventory of raw materials for
specific programs. Such inventory purchases are evaluated for excess quantities and potential
obsolescence and could result in a provision at the time of purchase or subsequent to purchase.
Inventory levels may fluctuate based on inventory held under service arrangements. Our provisions
for excess and obsolete inventory are also impacted by our arrangements with our customers and/or
suppliers, including our ability or inability to re-sell such inventory to them. If actual market
conditions or our customers product demands are less favorable than those projected or if our
customers or suppliers are unwilling or unable to comply with any arrangements related to their
purchase or sale of inventory, additional provisions may be required and would have a negative
impact on our gross margins in that period. We have had to write-down inventory in the past for
reasons such as obsolescence, excess quantities and declines in market value below our costs, and
we may be required to do so from time to time in the future.
Restructuring Charges
We record and account for our restructuring activities following formally approved plans that
identify the actions and timelines over which the restructuring activities will occur.
Restructuring charges include estimates pertaining to such items as employee severance and related
benefit costs, facility exit costs, subleasing assumptions, and other assumptions. Adjustments to
these estimates are made when changes in facts and circumstances suggest actual amounts will differ
from original estimates. These changes in estimates may result in increases or decreases to our
results of operations in future periods and would be presented on the restructuring charge line of
our consolidated statements of operations.
Income Taxes
We use the asset and liability method of accounting for income taxes. Deferred tax assets and
liabilities are recognized for the future consequences attributable to differences between the
financial statement carrying amounts of existing assets and liabilities and their respective tax
basis and net operating loss and credit carry-forwards. When necessary, a valuation allowance is
recorded or reduced to value tax assets to amounts expected to be realized. The effect of changes
in tax rates is recognized in the period in
which the rate change occurs. U.S. income and foreign withholding taxes are not provided on
that portion of unremitted earnings of foreign subsidiaries that are expected to be reinvested
indefinitely.
After excluding ordinary losses in a tax jurisdiction for which no tax benefit can be
recognized, we estimate our annual effective tax rate and apply such rate to year-to-date income,
adjusting for unusual or infrequent items that are treated as discrete events in the period. We
also evaluate our valuation allowance to determine if a change in circumstances causes a change in
judgment regarding realization of deferred tax assets in future years. If the valuation allowance
is adjusted as a result of a change in judgment regarding future years, that adjustment is recorded
in the period of such change affecting our tax expense in that period.
The calculation of our tax liabilities involves accounting for uncertainties in the
application of complex tax rules, regulations and practices. We recognize benefits for uncertain
tax positions based on a two-step process. The first step is to evaluate the tax position for
recognition of a benefit (or the absence of a liability) by determining if the weight of available
evidence indicates that it is more likely than not that the position taken will be sustained upon
audit, including resolution of related appeals or litigation processes, if any. If it is not, in
our judgment, more likely than not that the position will be sustained, then we do not recognize
any benefit for the position. If it is more likely than not that the position will be sustained, a
second step in the process is required to estimate how much of the benefit we will ultimately
receive. This second step requires that we estimate and measure the tax benefit as the largest
amount that is more than 50 percent likely of being realized upon ultimate settlement. It is
inherently difficult and subjective to estimate such amounts. We reevaluate these uncertain tax
positions on a quarterly basis. This evaluation is based on a number of factors including, but not
limited to, changes in facts or circumstances, changes in tax law, new facts, correspondence with
tax authorities during the course of an audit, effective settlement of audit issues, and
commencement of new audit activity. Such a change in recognition or measurement could result in
the recognition of a tax benefit or an additional charge to the tax provision in the period.
Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed
We review our long-lived assets for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to
be held and used is measured by a comparison of the carrying amount of an asset to the future
undiscounted cash flows expected to be generated by the asset. If such assets are considered to be
impaired, the impairment is measured by the amount by which the carrying amount of the assets
exceeds the fair value of the assets. Assets to be disposed are reported at the lower of the
carrying amount or fair value, less cost to sell.
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Impairment of Goodwill
In accordance with ASC 350, Intangibles Goodwill and Other, we perform a goodwill impairment
test annually during the fourth quarter of our fiscal year and more frequently if an event or
circumstance indicates that impairment may have occurred. Such events or circumstances may include
significant adverse changes in the general business climate, among others. The test is performed by
determining our fair value based on estimated discounted future cash flows, considering the market
price of our ordinary shares, and comparing the fair value to our carrying value, including
goodwill.
If our carrying value is less than our fair value, we then allocate the fair value to all the
assets and liabilities (including any unrecognized intangible assets) as if our fair value was the
purchase price to acquire us. The excess of our fair value over the amounts assigned to our
identifiable assets and liabilities is the implied fair value of the goodwill. If our goodwill
carrying amount exceeds the implied fair value of that goodwill, an impairment loss is recognized
in an amount equal to that excess.
Stock-Based Compensation
We account for stock-based compensation under ASC 718, Compensation Stock Compensation,
which requires us to recognize expenses in our statement of operations related to all share-based
payments, including grants of stock options and RSUs, based on the grant date fair value of such
share-based awards. The key assumptions used in valuing share based awards are described in Note 2
to the Consolidated Financial Statements.
Results of Operations
The following is a summary of our results of operations for the three months ended November
27, 2009 and November 28, 2008 (in millions):
Three Months Ended | ||||||||||||||||
November 27, | % of | November 28, | % of | |||||||||||||
2009 | sales | 2008 | sales | |||||||||||||
Net sales |
$ | 123.1 | 100 | % | $ | 140.8 | 100 | % | ||||||||
Cost of sales |
94.3 | 77 | % | 115.0 | 82 | % | ||||||||||
Gross profit |
28.8 | 23 | % | 25.8 | 18 | % | ||||||||||
Research and development |
5.7 | 5 | % | 5.4 | 4 | % | ||||||||||
Selling, general, and administrative |
13.4 | 11 | % | 14.5 | 10 | % | ||||||||||
Goodwill impairment |
0.0 | 0 | % | 7.2 | 5 | % | ||||||||||
Restructuring charges |
0.0 | 0 | % | 0.9 | 1 | % | ||||||||||
Total operating expenses |
19.1 | 16 | % | 28.0 | 20 | % | ||||||||||
Income (loss) from operations (1) |
9.7 | 8 | % | (2.2 | ) | -2 | % | |||||||||
Interest expense, net |
(1.7 | ) | -1 | % | (1.8 | ) | -1 | % | ||||||||
Other income (expense), net |
1.3 | 1 | % | (0.8 | ) | -1 | % | |||||||||
Total other expense (1) |
(0.4 | ) | 0 | % | (2.5 | ) | -2 | % | ||||||||
Income (loss) before provision for income taxes(1) |
9.3 | 8 | % | (4.7 | ) | -3 | % | |||||||||
Provision for income taxes |
4.7 | 4 | % | 2.2 | 2 | % | ||||||||||
Net income (loss) (1) |
$ | 4.6 | 4 | % | $ | (6.9 | ) | -5 | % | |||||||
(1) | Summations may not compute precisely due to rounding. |
Three Months Ended November 27, 2009 as Compared to the Three Months Ended November 28,
2008
Net Sales
Net sales for the three months ended November 27, 2009 were $123.1 million, a 13% decrease
from $140.8 million for the three months ended November 28, 2008. This decrease was partly due to a
decline in demand for DRAM memory in high-end servers, caused in part by the negative impact of the
worldwide economic downturn. We also had decreased net sales from display and embedded computing
products, a product line that we plan to exit from. Partially offsetting these declines were
stronger demand in Brazil and in flash products.
Cost of Sales
Cost of sales for the three months ended November 27, 2009 was $94.3 million, an 18% decrease
from $115.0 million for the three months ended November 28, 2008. Cost of sales as a percent of net
sales decreased to 77% for the three months ended November 27, 2009, from 82% for the three months
ended November 28, 2008. The decrease in cost of sales, both in absolute dollars and as a
percentage of sales, was primarily due to a $15.7 million decline in cost of products resulting
from the decrease in net sales, as well as a decrease of $5.0 million in our factory overhead and
other components of cost of sales including a decrease in inventory reserves of $2.6 million. We
also benefited from the headcount and salary reductions implemented last year, which was partially
offset by higher bonus expenses in the current quarter.
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Gross Profit
Gross profit for the three months ended November 27, 2009 was $28.8 million, or a 12% increase
from $25.8 million for the three months ended November 28, 2008. Gross margin percentage increased
from 18% for the three months ended November 28, 2008 to 23% for three months ended November 27,
2009. The increase in gross profit, both in absolute dollars and percentage, was primarily due to a
favorable shift in the mix of products sold during the period with sales of higher margin products
comprising a larger percentage of net sales in the three months ended November 27, 2009 and to a
decrease in inventory reserves.
Research and Development Expenses
Research and development, or R&D, expenses for the three months ended November 27, 2009 were
$5.7 million compared to $5.4 million for the three months ended November 28, 2008. This increase
was primarily due to a $0.7 million increase in non-recurring engineering expenses including the
write-off of $0.5 million of prepaid services due to the uncertainty as to whether the services
will be received, offset by a $0.4 million decrease in other R&D related expenses including payroll
and other employee-related expenses. We benefited from the headcount and salary reductions
implemented last year, which was partially offset by higher bonus expenses in the current quarter.
Selling, General and Administrative Expenses
Selling, general and administrative expenses for the three months ended November 27, 2009 were
$13.4 million, an 8% decrease from $14.5 million for the three months ended November 28, 2008.
Sales and marketing expenses decreased by $1.5 million primarily due to lower payroll and other
employee-related expenses. General and administrative expenses increased $0.4 million primarily
due to a $0.6 million increase in payroll and other employee-related expenses and a $0.2 million
increase in bad debt expense, partially offset by a $0.3 million decrease in IT-related costs. We
also benefited from the headcount and salary reductions implemented last year, which was partially
offset by higher bonus expenses in the current quarter.
Goodwill Impairment and Restructuring Charges
We did not incur any goodwill impairment or restructuring charges for the three months ended
November 27, 2009. The $7.2 million goodwill impairment charge for the three months ended November
28, 2008 was related to the Adtron reporting unit which existed at that time. The $0.9 million of
restructuring costs in the same period included $0.4 million in severance-related benefits, $0.2
million of lease costs associated with the closure of our Dominican Republic facility and $0.3
million in other related costs. The restructuring charges were primarily from the consolidation of
certain operations in Asia and the Caribbean.
Interest Expense, Net
Net interest expense for the three months ended November 27, 2009 was $1.7 million compared to
$1.8 million for the three months ended November 28, 2008. The slight decrease in net interest
expense was primarily due to a $0.3 million decrease in interest expense as a result of a decline
in interest rates as well as lower long-term outstanding debt, net of loan fees written off,
partially offset by a $0.2 million decrease in interest income due to lower interest rates on bank
deposit accounts. Included in the $1.7 million for the three months ended November 27, 2009 is a
$0.4 million write-off of loan fees associated with the partial repurchase of the senior secured
floating exchange rate notes (the Notes).
Other Income (expense), net
Net other income for the three months ended November 27, 2009 was $1.3 million compared to net
expense of $0.8 million for the three months ended November 28, 2008. The $2.1 million increase was
primarily the result of a $1.2 million gain on the partial repurchase of the Notes and an $0.8
million reduction in foreign currency transaction losses, mainly from our Brazil operations.
Provision for Income Taxes
The effective tax rates for the three months ended November 27, 2009 and November 28, 2008
were approximately 51% and (46%). For the three months ended November 27, 2009, the effective tax
rate of 51% exceeded the 35% U.S. statutory tax rate principally due to losses in the U.S and
certain non-U.S. jurisdictions that generated no tax benefit. Taxable income of $17.0 million earned by
profitable non-U.S. entities for the three months ended November 27, 2009 was subject to a tax rate
of approximately 29%. This combination of loss generating entities without any associated tax benefit
and income taxes in profitable non-U.S. jurisdictions resulted in a consolidated effective tax rate
of 51% and tax expense of $4.7 million. Similarly, the (46%) effective tax rate for the three months ended
November 28, 2008 exceeded the 35% U.S. statutory rate principally due to losses in the U.S and
certain non-U.S. jurisdictions that generated no tax benefit.
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Liquidity and Capital Resources
Our principal sources of liquidity are cash flow from operations and borrowings under our
senior secured floating rate exchange notes (the Notes). Our principal uses of cash and capital
resources are debt service requirements as described below, capital expenditures, potential
acquisitions, research and development expenditures, share repurchase program and working capital
requirements. From time to time, surplus cash may be used to pay down long-term debt to reduce
interest expense. Cash and cash equivalents consist of funds held in general checking, money
market accounts and certificates of deposit.
Debt Service
As of November 27, 2009, we had total long-term indebtedness of $55.1 million, which
represents the aggregate principal amount outstanding under the Notes.
Senior Secured Floating Rate Exchange Notes Due April 2012 (the Notes). The Notes bear
interest at a rate equal to LIBOR plus 5.50% per annum, and are guaranteed by most of our
subsidiaries. The guarantees are secured by the capital stock of most of our subsidiaries. The
obligations under the Notes are secured on a second-priority basis by the capital stock of, or
equity interests in, most of our subsidiaries and substantially all of the Companys and most of
its subsidiaries assets. Interest on the Notes is payable quarterly in cash. The Notes contain
customary covenants and events of default, including covenants that limit our ability to incur
debt, pay dividends and make investments. We were in compliance with such covenants as of November
27, 2009.
Senior Secured Revolving Line of Credit Facility. The Company also has a borrowing capacity of
$35 million available under the Second Amended and Restated Loan and Security Agreement dated April
30, 2007 (the Restated 2007 Loan and Security Agreement) entered into by and among SMART Modular
Technologies, Inc., SMART Modular Technologies (Europe) Limited, and SMART Modular Technologies
(Puerto Rico) Inc., as borrowers, and Wells Fargo Bank, National Association, as lender, arranger,
administrative agent and security trustee. On August 14, 2009, we entered into the Second Amendment
to Second Amended and Restated Loan and Security Agreement (the Second Amendment; the Restated
2007 Loan and Security Agreement as amended by the Second Amendment is referred to as the WF
Credit Facility). As a result of the Second Amendment, we are no longer required to comply with
certain financial covenants under the Restated 2007 Loan and Security Agreement unless there are
borrowings outstanding. If we do not meet the financial covenants or financial condition test, then
we will be unable to borrow under the WF Credit Facility. We have not borrowed under the WF Credit
Facility since November 2007 and we had no borrowings outstanding as of November 27, 2009. While we
expect to be able to satisfy the financial covenants required to borrow funds under the WF Credit
Facility at certain times during its remaining term, we may not meet the financial covenants during
all periods before it expires on April 30, 2010 and therefore may not be able to borrow funds if
and when we need the funds in the future.
Capital Expenditures
Future capital expenditures focus on test and manufacturing equipment upgrades and/or
acquisitions, IT infrastructure and software upgrades. The WF Credit Facility contains restrictions
on our ability to make capital expenditures. Based on current estimates, we believe that the amount
of capital expenditures permitted to be made under the WF Credit Facility will be adequate to
implement our current plans.
Sources and Uses of Funds
As of November 27, 2009, we had $129.1 million in unrestricted cash. We have generated cash
flow from operating activities each fiscal year since our acquisition from Solectron in 2004,
including $7.7 million for the three months ended November 27, 2009. Our capital expenditures are
relatively modest, at 3% or less of net sales since 2004. On October 13, 2009, the Board of
Directors approved up to $25.0 million, excluding unpaid accrued interest, to repurchase and/or
redeem debt outstanding under the Notes. On October 22, 2009, using available cash the Company
repurchased and retired $26.2 million of the principal amount of the Notes for $25.0 million, 95.5%
of the principal or face amount. As of November 27, 2009, the aggregate principal amount
outstanding under the Notes was $55.1 million. The $55.1 million aggregate balance under the Notes
is not due until April 2012. Given the foregoing, we anticipate that we will meet our working
capital needs, and be able to fund our R&D and capital expenditures and service requirements on our
debt obligations for at least the next 12 months. Our ability to make scheduled payments of
principal, to pay interest on or to refinance our indebtedness and to satisfy our other debt
obligations beyond the next 12 months will depend upon our future operating performance, which will
be affected by general economic, financial, competitive, business and other factors beyond our
control.
From time to time we may explore additional financing and other means to lower our cost of
capital which could include additional share issuance or debt financing and the application of the
proceeds therefrom to repay bank debt or other indebtedness. In addition, in connection with any
future acquisitions or internal growth, we may require additional funding in the form of additional
debt or equity financing or a combination thereof. There can be no assurance that additional
funding will be available to us on acceptable terms.
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Historical Trends
Historically, our financing requirements have been funded primarily through cash generated by
operating activities and issuances of our ordinary shares and Notes. As of November 27, 2009, our
cash and cash equivalents were $129.1 million.
Cash Flows from Operating Activities. Net cash provided by operating activities for the three
months ended November 27, 2009 was primarily comprised of $4.6 million of net income and $4.7
million of non-cash related expenses, offset by a $1.6 million change in our net operating assets
and liabilities. The $1.6 million resulting from the change in operating assets and liabilities
includes cash used for an inventory increase of $14.6 million and an increase in prepaid expenses
and other assets of $2.7 million. Inventory turns decreased to 12.6 at the end of the first
quarter of fiscal 2010 compared to 15.3 at the end of the first quarter of fiscal 2009, primarily due to
anticipated increases in demand for our logistics services and our positioning of inventories to
accommodate shortages. Cash used in the quarter was partially offset by cash generated from an
accounts receivable decrease of $4.7 million, increases in accounts payable of $8.1 million, and an
increase in accrued expenses and other liabilities of $3.0 million.
Net cash provided by operating activities for the three months ended November 28, 2008 was
primarily comprised of $13.3 million of non-cash related expenses and a $22.2 million change in our
net operating assets and liabilities, offset by a $6.9 million net loss. The $22.2 million
resulting from the change in operating assets and liabilities is comprised of cash generated from
an accounts receivable decrease of $39.8 million, a prepaid expenses and other assets decrease of
$1.6 million and increases in accounts payable of $2.2 million, partially offset by cash used for
an inventory increase of $19.6 million and a decrease in accrued expenses and other liabilities of
$1.7 million.
Cash Flows from Investing Activities. Net cash used in investing activities of $2.9 million
for the three months ended November 27, 2009 was primarily due to purchases of $1.4 million in
property and equipment and cash deposits of $1.6 million on equipment. Net cash used in investing
activities of $4.5 million for the three months ended November 28, 2008 was primarily due to
purchases of $3.8 million in property and equipment and cash deposits of $0.8 million on equipment.
Cash Flows from Financing Activities. Net cash used in financing activities of $24.8 million
for the three months ended November 27, 2009 was primarily due to $25.0 million used for the
partial repurchase of the Notes, partially offset by $0.2 million provided by ordinary share
issuances through option exercises. Net cash provided by financing activities of $0.4 million for
the three months ended November 28, 2008 was due to ordinary share issuances through option
exercises.
Contractual Obligations
There have been no material changes from contractual obligations previously disclosed in our
Annual Report on Form 10-K for the year ended August 28, 2009.
Off-Balance Sheet Arrangements
We do not have any relationships with unconsolidated entities or financial partnerships, such
as entities often referred to as structured finance or special purpose entities, which would have
been established for the purpose of facilitating off-balance sheet arrangements or other
contractually narrow or limited purposes. In addition, we do not have any undisclosed borrowings or
debt, and we have not entered into any synthetic leases. We are, therefore, not materially exposed
to any financing, liquidity, market or credit risk that could arise if we had engaged in such
relationships.
We do not have any significant off-balance sheet arrangements that are reasonably likely to
have a current or future effect on our financial condition, results of operations, liquidity,
capital expenditures or capital resources.
Inflation
We do not believe that inflation has had a material effect on our business, financial
condition or results of operations. If our costs were to become subject to significant inflationary
pressures, we may not be able to fully offset such higher costs through price increases. Our
inability or failure to do so could adversely affect our business, financial condition and results
of operations.
Recent Accounting Pronouncements
See Note 1 of our Notes to Unaudited Condensed Consolidated Financial Statements for
information regarding the effect of recent accounting pronouncements on our financial statements.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Our exposure to market rate risk includes risk of foreign currency exchange rate fluctuations
and changes in interest rates.
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Foreign Exchange Risks
We are subject to inherent risks attributed to operating in a global economy. Our
international sales and our operations in foreign countries make us subject to risks associated
with fluctuating currency values and exchange rates. Because sales of our products are denominated
primarily in U.S. dollars, increases in the value of the U.S. dollar could increase the price of
our products so that they become relatively more expensive to customers in a particular country,
possibly leading to a reduction in sales and profitability in that country. Some of the sales of
our products are denominated in foreign currencies. Gains and losses on the conversion to U.S.
dollars of accounts receivable arising from such sales, and of other associated monetary assets and
liabilities, may contribute to fluctuations in our results of operations. In addition, we have
certain costs that are denominated in foreign currencies, and decreases in the value of the U.S.
dollar could result in increases in such costs that could have a material adverse effect on our
results of operations. We do not currently purchase financial instruments to hedge foreign exchange
risk, but may do so as circumstances warrant.
Interest Rate Risk
We are subject to interest rate risk in connection with our long-term debt, including the
$55.1 million aggregate balance outstanding under the Notes as of November 27, 2009. In addition,
our WF Credit Facility provides for borrowings of up to $35.0 million that will also bear interest
at variable rates. Assuming that we could satisfy the financial covenants required to borrow, which
we may not be able to do during certain periods before it expires on April 30, 2010, and that the
WF Credit Facility is fully drawn, other variables are held constant and the impact of any hedging
arrangements is excluded, each 1.0% increase in interest rates on our variable rate borrowings
would result in an increase in annual interest expense and a decrease in our cash flow and income
before taxes of $0.9 million per year. We entered into an interest rate swap agreement (the Swap)
for $40.0 million notional amount. The Swap has an expiration date of April 28, 2010, and under
its terms, we pay a fixed rate of 9.97% related to such notional amount. We entered into the Swap
in order to hedge a portion of our future cash flows against interest rate exposure resulting from
the Notes. There can be no assurance that the outstanding interest rate swap or any other interest
rate swaps that we may subsequently implement will be effective.
Item 4. Controls and Procedures
(a) Evaluation of Disclosure Controls and Procedures. Our President and Chief Executive
Officer and our Senior Vice President and Chief Financial Officer, after evaluating the
effectiveness of the Companys disclosure controls and procedures (as defined in the Securities
Exchange Act Rules 13a-15(e) or 15d-15(e)) as of the end of the period covered by this quarterly
report, have concluded that our disclosure controls and procedures are effective based on their
evaluation of these controls and procedures required by paragraph (b) of Exchange Act Rules 13a-15
or 15d-15.
(b) Changes in Internal Control Over Financial Reporting. There were no changes in our
internal control over financial reporting identified in connection with the evaluation required by
paragraph (d) of Exchange Act Rules 13a-15 or 15d-15 that occurred during our last fiscal quarter
that has materially affected, or is reasonably likely to materially affect, our internal control
over financial reporting.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
See Note 9 and Note 15 of our Notes to Unaudited Condensed Consolidated Financial Statements
for information regarding legal matters.
Item 1A. Risk Factors
There have been no material changes from risk factors previously disclosed in our Annual
Report on Form 10-K for the year ended August 28, 2009 that was filed on November 9, 2009, except
for the risk factor below which has been revised as follows:
Our logistics business requires us to make inventory purchases based on customer forecasts which
can be unpredictable and which can in turn cause us to have significant increases in inventory from
time to time resulting in a negative impact on our cash flow and possibly resulting in inventory
write-downs which would have a negative impact on our results of operations and our financial
condition.
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Our logistics business requires us to make significant inventory purchases based on customer
forecasts and/or customer purchase orders. In most instances, purchase orders can be rescheduled at
the customers option, often times without penalty. When actual consumption does not meet the
customers forecast or the customers purchase orders, it will result in unanticipated and sometimes
significant increases in our inventory. Additionally, some of our logistics transactions
contemplate extended periods of inventory
management. We believe that our programs generally obligate customers to purchase all of the
logistics inventory with minimal exposure to price reductions, and typically include periodic
carrying charges to be paid by the customers. There can be no assurance, however, that the
customers will comply with these obligations. If a large customer of our logistics business fails
to consume the inventory that we purchase for it, this could result in significant inventory
write-downs and would have a material, negative impact on our cash flow, our results of operations
and our financial condition. At the end of the last four fiscal quarters, logistics
inventory (including inventory specifically requested by customers) ranged between 40% and 55% of
total inventory.
Item 5. Other Information
On January 5, 2010, the Board of Directors of the Company approved a revised form of
indemnification agreement for directors, officers and key employees that supersedes the forms of
indemnification agreements previously filed as Exhibit 10.1 and Exhibit 10.23. A copy of the form of
Second Amended and Restated Indemnification Agreement is attached as Exhibit 10.33 to this
Quarterly Report on Form 10-Q.
Item 6. Exhibits
The following exhibits are filed herewith:
Exhibit No. | Exhibit Title | |||
10.33 | Form of Second Amended and Restated Indemnification Agreement |
|||
10.34 | Form of Time-based RSU Agreement (for Employees) |
|||
10.35 | Form of Time-based RSU Agreement (for Directors) |
|||
10.36 | Form of Performance-based RSU Agreement (for Employees) |
|||
31.1 | Certification of Chief Executive Officer pursuant to Rule
13a-14(a) or 15d-14(a) of the Securities Exchange Act of 1934,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002 |
|||
31.2 | Certification of Chief Financial Officer pursuant to Rule
13a-14(a) or 15d-14(a) of the Securities Exchange Act of 1934,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002 |
|||
32 | Certification of Chief Executive Officer and Chief Financial
Officer pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
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SMART MODULAR TECHNOLOGIES (WWH), INC.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, SMART Modular
Technologies (WWH), Inc. has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
SMART MODULAR TECHNOLOGIES (WWH), INC. |
||||
By: | /s/ IAIN MACKENZIE | |||
Name: | Iain MacKenzie | |||
Title: | President and Chief Executive Officer | |||
By: | /s/ BARRY ZWARENSTEIN | |||
Name: | Barry Zwarenstein | |||
Title: | Senior Vice President and Chief Financial Officer |
Date: January 6, 2010
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EXHIBIT INDEX
Exhibit No. | Exhibit Title | |||
10.33 | Form of Second Amended and Restated Indemnification Agreement |
|||
10.34 | Form of Time-based RSU Agreement (for Employees) |
|||
10.35 | Form of Time-based RSU Agreement (for Directors) |
|||
10.36 | Form of Performance-based RSU Agreement (for Employees) |
|||
31.1 | Certification of Chief Executive Officer pursuant to Rule
13a-14(a) or 15d-14(a) of the Securities Exchange Act of 1934,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002 |
|||
31.2 | Certification of Chief Financial Officer pursuant to Rule
13a-14(a) or 15d-14(a) of the Securities Exchange Act of 1934,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002 |
|||
32 | Certification of Chief Executive Officer and Chief Financial
Officer pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
29