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EX-21.1 - LIST OF MICREL SUBSIDIARIES - MICREL INCexhibit_21.htm
EX-32 - OFFICER CERTIFICATIONS PURSUANT TO SECTION 906 OF SARBANES-OXLEY ACT OF 2002 - MICREL INCexhibit_32.htm
EX-23.1 - CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNITNG FIRM - MICREL INCexhibit_23.htm
EX-31 - OFFICER CERTIFICATIONS PURSUANT TO SECTION 302 OF SARBANES-OXLEY ACT OF 2002 - MICREL INCexhibit_31.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549

FORM 10-K

x      ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2011.

¨      TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________ to ________.

Commission File Number 0-25236

MICREL, INCORPORATED
(Exact name of Registrant as specified in its charter)

California
94-2526744
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)

2180 Fortune Drive, San Jose, CA       95131
(Address of principal executive offices)   (Zip Code)
 
Registrant's telephone number, including area code: (408) 944-0800

Securities registered pursuant to Section 12(b) of the Act:                Common Stock, no par value
Securities registered pursuant to Section 12(g) of the Act:                None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨   No x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨   No x

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

Indicate by check mark 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 x   No ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ¨

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. Large accelerated filer ¨  Accelerated filer x  Non-accelerated filer ¨  Smaller reporting company ¨

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

As of June 30, 2011, the aggregate market value of the voting stock held by non-affiliates of the Registrant was approximately $297 million based upon the closing sales price of the Common Stock as reported on the Nasdaq National Market on such date. Shares of Common Stock held by officers, directors and holders of more than ten percent of the outstanding Common Stock have been excluded from this calculation because such persons may be deemed to be affiliates. The determination of affiliate status is not necessarily a conclusive determination for other purposes.

As of February 24, 2012, the Registrant had outstanding 60,904,080 shares of Common Stock.

DOCUMENTS INCORPORATED BY REFERENCE:

Portions of the Registrant’s Proxy Statement for its Annual Meeting of Shareholders to be held on May 24, 2012 are incorporated by reference in Part III of this Report.
 
 
This Report on Form 10-K includes 80 pages with the Index to Exhibits located on page 79.
 
 

 


INDEX TO

ANNUAL REPORT ON FORM 10-K

FOR YEAR ENDED DECEMBER 31, 2011

   
Page
 
PART I
 
 
Item 1.
Business                                                                                                      
3
Item 1A.
Risk Factors                                                                                                      
14
Item 1B.
Unresolved Staff Comments                                                                                                      
23
Item 2.
Properties                                                                                                      
23
Item 3.
Legal Proceedings                                                                                                      
23
Item 4.
Mine Safety Disclosures                                                                                                      
23

 
PART II
 
 
Item 5.
24
Item 6.
27
Item 7.
28
Item 7A.
42
Item 8.
Financial Statements and Supplementary Data                                                                                                      
42
Item 9.
42
Item 9A.
43
Item 9B.
44





SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

The statements contained in this Report on Form 10-K that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act") and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"),  including statements regarding the Company’s expectations, hopes, intentions or strategies regarding the future.  Forward-looking statements include, but are not limited to statements regarding: future revenues and dependence on standard products sales and international sales; the levels of international sales; the effect of global market conditions on revenue levels, profitability and results of operations; future products or product development; statements regarding fluctuations in the Company’s results of operations; future returns and price adjustments and allowance; future uncollectible amounts and doubtful accounts allowance; future products or product development; future research and development spending and the Company’s product development strategy; the Company’s markets, product features and performance; product demand and inventory to service such demand; competitive threats and pricing pressure; the effect of dependence on third parties; the Company’s future use and protection of its intellectual property; future expansion or utilization of manufacturing capacity; future expenditures; current or future acquisitions; the ability to meet anticipated short term and long term cash requirements; effect of changes in market interest rates on investments; the Company’s need and ability to attract and retain certain personnel; the cost and outcome of litigation and its effect on the Company; the future realization of tax benefits; and share based incentive awards and expectations regarding future stock-based compensation expense. In some cases, forward-looking statements can be identified by the use of forward-looking terminology such as "believe," "estimate," "may," "can," "will," "could," "would," "intend," "objective," "plan," "expect," "likely," "potential," "possible" or "anticipate" or the negative of these terms or other comparable terminology. All forward-looking statements included in this document are based on information available to the Company on the date of this Report, and the Company assumes no obligation to update any such forward-looking statements ,including those risks discussed under "Risks Factors" and elsewhere in this Report, except as required by applicable law. These statements are subject to risks and uncertainties that could cause actual results and events to differ materially from those expressed or implied by such forward-looking statements. Some of the factors that could cause actual results to differ materially are set forth in Item 1 ("Business"), Item 1A ("Risk Factors"), Item 3 ("Legal Proceedings") and Item 7 ("Management's Discussion and Analysis of Financial Condition and Results of Operations").

PART I

ITEM 1.

General
 
The Company was incorporated in California in July 1978. References to the ''Company'' and ''Micrel'' refer to Micrel, Incorporated and subsidiaries, which also does business as Micrel Semiconductor. The Company's principal executive offices are located at 2180 Fortune Drive, San Jose, California 95131. The Company's telephone number is (408) 944-0800. The Company maintains a corporate website located at www.micrel.com. The Company's annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports are made available, free of charge, on the website noted above as soon as reasonably practicable after filing with or being furnished to the Securities and Exchange Commission.


 
Micrel designs, develops, manufactures and markets a range of high-performance analog power integrated circuits ("ICs"), mixed-signal ICs and digital ICs. The Company currently ships approximately 3000 standard products. These products address a wide range of end markets including cellular handsets, portable computing, enterprise and home networking, wide area and metropolitan area networks, digital televisions and industrial equipment. For the years ended December 31, 2011, 2010, and 2009, the Company's standard products accounted for 96%, 97%, and 97%, respectively, of the Company's net revenues. The Company also manufactures custom analog and mixed-signal circuits and provides wafer foundry services for customers who produce electronic systems for communications, consumer and military applications.
 
The Company’s high performance power management analog products are characterized by high power density and small form factor. The demand for high performance power management circuits has been fueled by the growth of portable communications and computing devices, including for example, cellular handsets, tablet devices and notebook computers. The Company also has an extensive power management offering for the networking and communications infrastructure markets including cloud and enterprise servers, network switches and routers, storage area networks and wireless base stations. Recently, the Company entered the solid state drive market, and is seeing strength in the emergence of solid state drives and analog switches including USB switches.

The Company’s high bandwidth communications circuits are used primarily for enterprise networks, storage area networks, access networks and metropolitan area networks. This product portfolio consists of timing, clock management and high speed Physical Media Devices ("PMD") products. With form factor, size reductions, and ease of use critical for system designs, Micrel utilizes innovative packaging and proprietary process technology to address these challenges.
 
The Company’s family of Ethernet products targets the digital home, enterprise, industrial and automotive markets. This product portfolio consists of physical layer transceivers ("PHY"), Media Access Controllers ("MAC"), switches, and System-On-Chip ("SoC") devices that support various Ethernet protocols supporting communication transmission speeds from 10 Megabits per second to a Gigabit per second.


Industry Background

  Analog Circuit, Mixed-Signal and Digital ICs Markets
 
ICs may be divided into three general categories — digital, analog (also known as ''linear'') and mixed-signal. Digital circuits, such as memory and microprocessors, process information in the form of on-off electronic signals and are capable of implementing only two values, "1" or "0." Analog circuits, such as regulators, converters and amplifiers, process information in the form of continuously varying voltages and currents that have an infinite number of values or states. Analog circuits condition, process, and measure or control real world variables such as sound, temperature, pressure or speed. Mixed-signal ICs combine analog and digital functions on one chip.
 

 
Analog circuits are used in virtually every electronic system.  The largest markets for such circuits are computers, telecommunications and data communications, industrial equipment, military, consumer and automotive electronics. Because of their numerous and diverse applications, analog circuits have a wide range of operating specifications and functions. For each application, different users may have unique requirements for integrated circuits such as specific resolution, linearity, speed, power and signal amplitude capability.
 
Mixed-signal and digital ICs may be divided into six general categories, LSI/MSI logic, data processing, signal processing, memory, FPGA and application specific.
 
Mixed-signal and digital ICs are used in computer and communication systems and in industrial products. The primary markets for such circuits are consumer, communications, personal and enterprise computer systems, networking and industrial.
 
As compared with the digital integrated circuit industry, the analog integrated circuit industry has the following important characteristics:

·
Dependence on Individual Design Teams. The design of analog circuits involves the complex and critical placement of various circuits. Analog circuit design has traditionally been highly dependent on the skills and experience of individual design engineers.

·
Interdependence of Design and Process. Analog designers, especially at companies having their own wafer fabrication facility, are able to select from several wafer fabrication processes in order to achieve higher performance and greater functionality from their designs.

·
Longer Product Cycles and More Stable Pricing. Analog circuits generally have longer product cycles and greater price stability as compared to digital circuits.
 
Analog, mixed-signal and digital ICs are sold to customers as either standard products or custom products.
 
Recent Trends in Analog Power Management, Mixed-Signal and Digital ICs
 
Most electronic systems utilize analog circuits to perform power management functions (''power analog circuits'') such as the control, regulation, conversion and routing of various voltages and current. The computer and communications markets have emerged as two of the largest markets for power analog circuits. In particular, the recent growth and proliferation of portable, battery-powered devices, such as cellular telephones, digital cameras, tablet devices and notebook computers, continue to increase demand and create new technological challenges for power analog circuits.
 
Cellular telephones, as an example, are composed of components and subsystems that utilize several different voltage levels, require multiple power analog circuits to precisely regulate and control voltages required for various digital and mixed integrated circuits.  Furthermore, manufacturers continue to pack more processing power and functionality into smaller form factors placing severe demands on the battery. To maintain or extend talk times, high performance power management products are required to charge the battery and optimize the battery discharge times.

 
 
The rapid adoption of the Internet for information exchange, in business and consumer markets, has led to a significant increase in the need for broadband communications technology. In recent years, there has been a significant expansion in the number of broadband subscribers for both cable modem and fiber to the home technologies. The increased bandwidth demand of these users will continue to consume the installed capacity and drive infrastructure upgrades in metropolitan and wide area networks. The additional demand of new wireless services utilizing the transmission of video is expected to further accelerate this trend.
 
In the networking market, Ethernet has been widely adopted as a communication standard. Ethernet ports are now being provided on equipment ranging from PCs and PC peripherals to other consumer products such as Network Printers, Internet Protocol Set-Top Boxes ("IP-STB"), High-definition ("HD") TV, Blue-Ray DVD players, Personal Video Recorders ("PVR"), Multimedia Servers, Analog Telephone Adaptors ("ATA"), Internet Protocol Camera ("IP-camera"), Femto-cell base stations, game consoles, enterprise products such as Internet Protocol Phones ("IP-phone"), and industrial equipment. Recently, Ethernet is also finding its way into emerging automotive applications such as diagnostic, camera and infotainment systems. These trends are driving rapid growth in the digital home market to connect multiple PCs, TVs and peripherals, the enterprise market to connect the phone to the internet, the industrial market to connect machinery to central control and monitoring equipment and the automotive market to download information from CPUs inside cars to diagnostic equipment.


Micrel’s Strategy
 
Micrel seeks to capitalize on growth opportunities within the high-performance analog, mixed-signal and digital semiconductor markets. The Company's core competencies are its analog design, control theory, packaging and device technology, as well as its in-house wafer fabrication capability. The Company intends to build a leadership position in its targeted markets by pursuing the following strategies:

·
Served Available Market Expansion:  Micrel is presently a trusted partner to key OEMs around the world.  The Company intends to use these relationships to increase revenues by providing more products to these key partners. In addition, through collaboration with these key partners, the Company has access to a rich pipeline of new product development innovation opportunities. Through this partnering, the Company now ships approximately 3000 standard products, with net revenues from standard products generating 96% of the Company's total net revenues for the year ended December 31, 2011.

·
Maintain Technological Leadership. Micrel has executed on significant device and process optimizations which have yielded improvements in overall power dissipation, size and form factor reductions.

·
Develop/Acquire New Complementary Businesses. The Company seeks to identify complementary business opportunities building on its core strengths in the analog and mixed signal area.

·
Capitalize on In-house Wafer Fabrication Facility. The Company believes that its in-house six-inch wafer fabrication facility provides a significant competitive advantage because it facilitates close collaboration between design and process engineers in the development of the Company's products.

 

·  
Maintain a Strategic Level of Custom and Foundry Products Revenue. Micrel believes that its custom and foundry products business complements its standard products business by generating a broader revenue base and lowering overall per unit manufacturing costs through greater utilization of its manufacturing facilities.

·
Protect Proprietary Technology. The Company seeks to identify and protect its proprietary technology through the development of patents, trademarks and copyrights.


Products and Markets

Overview
 
The following table sets forth the net revenues attributable to the Company's two segments, standard products and other products, consisting primarily of custom and foundry products revenues and revenues from the license of patents, expressed in dollars and as a percentage of total net revenues.

Net Revenues by Segment (Dollars in thousands)
 
   
Years Ended December 31,
 
   
2011
   
2010
   
2009
 
Net Revenues:
                 
Standard Products
  $ 249,743     $ 289,347     $ 212,606  
Other Products
     9,282        8,019        6,281  
                         
Total net revenues
  $ 259,025     $ 297,366     $ 218,887  
 
As a Percentage of Total Net Revenues:
                       
Standard Products
    96 %     97 %     97 %
Other Products
    4       3       3  
                         
Total net revenues
    100 %     100 %     100 %


The following table presents the Company’s revenues by product line, as a percentage of total net revenues.

Net Revenues by Product Line
 
   
Years Ended December 31,
 
   
2011
   
2010
   
2009
 
As a Percentage of Total Net Revenues:
                 
Standard Products:
                 
Analog
    61 %     62 %     67 %
High bandwidth
    17       17       14  
Ethernet
    18       18       16  
Total standard products
    96       97       97  
Foundry, custom and other
    4       3       3  
Total net revenues
    100 %     100 %     100 %



The Company's products address a wide range of end markets. The following table presents the Company's revenues by end market as a percentage of total net revenues.

Net Revenues by End Market
 
Years Ended December 31,
 
   
2011
   
2010
   
2009
 
As a Percentage of Total Net Revenues:
                 
Industrial
    41 %     39 %     36 %
High-Speed Communications
    32       31       28  
Wireless Handsets
    13       12       16  
Computer
    11       15       15  
Military & Other
    3       3       5  
                         
Total net revenues
    100 %     100 %     100 %

For a discussion of the changes in net revenues from period to period, see ''Management's Discussion and Analysis of Financial Condition and Results of Operations.''


Standard Products
 
In recent years, the Company has directed a majority of its development, sales and marketing efforts towards standard products in an effort to address the larger markets for these products and to expand its customer base. The Company offers a broad range of high performance analog, mixed signal, and digital ICs that address high growth markets including cellular telephones, portable electronics, set-top boxes, desktop and notebook computers, networking and communications. The majority of the Company's revenue is derived from power management standard products that, in addition to the above markets, are also used in the industrial, consumer, defense, and automotive electronics markets.
 
Power Conversion Market. Most electronic equipment requires a power supply that converts and regulates the electrical power source into usable voltage for the equipment. Micrel has multiple power conversion families:

·  
LDOs – LDOs have long been a cornerstone of Micrel’s product offering.  LDOs are linear voltage regulators which allow lower voltage devices to be connected to higher voltage power rails. The Company offers numerous LDOs products ranging from low cost portable regulators, to high performance (high accuracy) high current regulators with supervisory functions.

·  
DC/DC converters – The Company’s DC/DC converter products are offered in controller (no switch) and regulator (switches on board) form.  Competitive advantages include power density, high voltage capability, and small form factor. The devices are primarily used in solid state drives, cloud servers, networking, portable equipment and base stations.

·  
Analog Power Switches – Micrel offers analog switches that range from straight current switching to reverse blocking, current protected and soft start devices with supervisory options.  The devices are primarily used in LCD TV, computer USB port and cell phone devices.  In addition, the Company offers a family of hot swap controllers including second sources of leading competitive devices which appeal primarily to the networking and telecom markets.

·  
PMICs – PMICs combine supervisor, DC/DC, LDO and interfacing requirements in a single IC to save space and cost.  The Company has introduced many PMIC devices for key applications ranging from graphics processors to LTE dongles.
 
 
 
·  
RF PA bias – Micrel offers digitally controlled output voltage DC/DC converters for power amplifier communications biasing. The devices are primarily used in portable wireless equipment and cell phones. The Company continues to collaborate with its key customers to expand this product offering.

·  
Solid State Lighting – Micrel offerings include LED drivers for the portable and non-portable backlighting markets, as well as drivers for solid state architectural and general illumination.  These products have been adopted by portable equipment and cell phone manufacturers as an alternative to more costly charge pump solutions.

·  
FET Drivers – Micrel produces buffers which allow DC/DC controllers to interface to external switches and provide the power needed to drive these switches.
 
Supervisory Market. Micrel offers supervisory and reference products which protect, monitor and improve the interface of circuitry, especially around microcontroller and processor circuits.  Demand for products in this area has been driven by needs in the portable cell phone market to improve interaction between memory and processor segments as well as numerous tracking, sequencing, and monitoring requirements in various networking industrial and portable applications.
 
General Linear. Micrel offerings include a line of general linear parts ranging from op amps, to thermal measurement devices, timers and other general devices.  These types of devices tend to be deployed in many analog circuits to improve operation.
 
Portable Battery-Powered Computer Market. The Company makes power analog circuits for notebook computers, tablet PCs, and smart phones. Products in this growing market are differentiated on the basis of power efficiency, weight, small size and battery life.
 
Radio Frequency Data Communications. Micrel's QwikRadio® family of RF receivers and transmitters are designed for use in any system requiring a cost-effective, low-data-rate wireless link. Typical examples include garage door openers, lighting and fan controls, automotive keyless entry and remote controls. Micrel's RadioWire® transceivers provide a higher level of performance for more demanding applications such as remote metering, security systems and factory automation.
 
Networking and High-Speed Communications Market. The Company's High Bandwidth division develops and produces timing, clock management and high speed PMD and interface integrated circuits for communications products targeted at fiber optic modules, active cables, backplane management, data and clock management applications.
 
Ethernet Communications. Micrel's Ethernet division offers a broad range of PHY, MAC, switch and SoC products for the 10/100/1000 Megabit Ethernet standard. The primary applications for the products are digital home networks, enterprise, industrial and automotive Ethernet systems.
 
The Company's future success will depend in part upon the timely completion, introduction, and market acceptance of new standard products. The standard products business can be characterized as having shorter product lifecycles, greater pricing pressure, larger competitors and more rapid technological change as compared to the Company's custom and foundry products business.



Other Products
 
Micrel offers various combinations of design, process and foundry services in order to provide customers with the following alternatives:
 
R&D Foundry. Micrel modifies a process or develops a new process for a customer. Using that process and mask sets provided by the customer, Micrel manufactures fabricated wafers for the customer.
 
Foundry. Micrel duplicates a customer's process to manufacture fabricated wafers designed by the customer.


Sales, Distribution and Marketing
 
The Company sells its products through a worldwide network of independent sales representative, independent distributor and stocking representative firms and through direct sales staff.
 
The Company sells its products in Europe through direct sales staff in the United Kingdom, Germany and France as well as independent sales representative firms, independent distributors and independent stocking representative firms. Asian sales are handled through Micrel sales offices in Korea, Japan, Taiwan, China and Singapore, independent distributors and independent stocking representative firms. The stocking representative firms may buy and stock the Company's products for resale or may act as the Company's sales representative in arranging for direct sales from the Company to an original equipment manufacturer ("OEM") customer.
 
In 2011, sales to customers in North America, Asia and Europe accounted for 28%, 58% and 14%, respectively, of the Company's net revenues. In 2010, North America, Asia and Europe accounted for 27%, 60% and 13%, respectively, of the Company's net revenues and in 2009, North America, Asia and Europe accounted for 26%, 61% and 13%, respectively, of the Company's net revenues.  The Company's standard products are sold throughout the world, while its custom and foundry products are primarily sold to North American customers. The Company's net revenues by country, including the United States, are included in Note 12 of Notes to Consolidated Financial Statements.
 
The Company's international sales are primarily denominated in U.S. dollars. Consequently, changes in exchange rates that strengthen the U.S. dollar could increase the price in local currencies of the Company's products in foreign markets and make the Company's products relatively more expensive than competitors' products that are denominated in local currencies, leading to a reduction in sales or profitability in those foreign markets. The Company has not taken any protective measures against exchange rate fluctuations, such as purchasing hedging instruments with respect to such fluctuations.


Customers
 
For the year ended December 31, 2011, no OEM customer accounted for more than 10% of the Company’s net revenues and two worldwide distributors account for 24% and 16%, respectively, of the Company’s net revenues.  For the year ended December 31, 2010, no OEM customer accounted for more than 10% of the Company's net revenues and two worldwide distributors accounted for 19% and 17%, respectively, of the Company's net revenues. For the year ended December 31, 2009, one OEM customer accounted for 12% of the Company's net revenues and two worldwide distributors accounted for 19% and 13%, respectively, of the Company's net revenues.
 
 
 
Design and Process Technology
 
Micrel's analog proprietary design technology depends on the skills of its analog design teams.  These teams rely on a state of the art Cadence framework, with an emphasis on circuit innovation, control theory and mathematical rigor.  Additionally, the Company’s unique device, packaging and testing capabilities allow it to compete on a variety of advantages.
 
In order for Micrel to compete, it must provide process technologies that are uniquely suited for the products it develops. In the case of Micrel’s Analog business, we are recognized as a technology leader and therefore our process technologies must be state of the art and cost effective.
 
Micrel continues to develop process technology and implement many new designs on its BCD0.35, CSI0.5 and BCD0.5 processes. These processes are characterized by a rich array of analog devices including analog resistors and capacitors, post package trim, optimized ESD, high voltage structures, optimized specific on resistance, true bipolar and in some processes true power bipolar capability at key nodes including 3.3V, 5V and 12V, and BCD capability to 65V. In addition, the Company has unique copper pillar, thick aluminum and copper conduction metals, CSP and thermal pad process capabilities. These capabilities give the Company an advantage compared with many competitors using a fabless model as these simultaneous capabilities are generally not available at most third party foundries.
 
Additionally Micrel has an array of BCD1.2u and CSI1.2u and above processes, as well as high speed Silicon Germanium capability.
 
The Company utilizes third-party wafer fabrication foundries for advanced CMOS fabrication processes and other advanced processes that are not available in-house. For the year ended December 31, 2011, approximately 10% of Micrel's wafer requirements were fabricated at third-party foundry suppliers, including all of Micrel's Ethernet networking products.


Research and Development
 
The ability of the Company to compete will substantially depend on its ability to define, design, develop and introduce on a timely basis new products offering design or technology innovations. Research and development in the analog and mixed-signal integrated circuit industry is characterized primarily by circuit design and product engineering that enables new functionality or improved performance. The Company's research and development efforts are also directed at its process technologies and focus on cost reductions to existing manufacturing processes and the development of new process capabilities to manufacture new products and add new features to existing products. With respect to more established products, the Company's research and development efforts also include product redesign, shrinkage of device size and the reduction of mask steps in order to improve die yields per wafer and reduce per device costs.
 
The Company's analog, mixed-signal and digital design engineers principally focus on developing next generation standard products for the Company’s targeted markets. The Company's new product development strategy emphasizes a broad line of standard products that are based on customer input and requests.
 
In 2011, 2010, and 2009, the Company spent $50.0 million, $46.3 million, and $46.5 million, respectively, on research and development. The Company expects that it will continue to spend substantial funds on research and development activities.

 
 
Patents and Intellectual Property Protection
 
The Company seeks patent protection for those inventions and technologies for which such protection is suitable and is likely to provide a competitive advantage to the Company. The Company currently holds 320 United States patents on semiconductor devices and methods, with various expiration dates through 2030. The Company has applications for 29 United States patents pending. The Company holds 67 issued foreign patents and has applications for 30 foreign patents pending.


Supply of Materials and Purchased Components
 
Micrel currently purchases certain components from a limited group of vendors. The packaging of the Company's products is performed by, and certain of the raw materials included in such products are obtained from, a limited group of suppliers. The wafer supply for the Company’s Ethernet products is primarily dependent upon two large third-party wafer foundry suppliers.


Manufacturing

The Company fabricates the majority of its wafers at the Company’s wafer fabrication facility located in San Jose, California while a small percentage of wafer fabrication is subcontracted to outside foundries, including 100% of Micrel's Ethernet product wafer requirements. The San Jose facility includes a 57,000 square foot office and manufacturing facility containing a 28,000 square foot clean room facility, which provides production processes. Approximately 70% of the San Jose facility's clean room space is classified as a Class 1 facility, which means that the facility achieves a clean room level of fewer than 1 foreign particle larger than 0.3 microns in size in each cubic foot of space. The remainder of the facility's clean room space is classified as Class 10, achieving fewer than 10 foreign particles larger than 0.3 microns in size in each cubic foot of space. The facility uses six-inch wafer technology. The Company also owns approximately 63,000 square feet of additional adjacent space in San Jose that is used as a testing facility and administrative offices.
 
Generally, each die on the Company's wafers is electrically tested for performance, and most of the wafers are subsequently sent to independent assembly and final test contract facilities in Malaysia and certain other Asian countries. At such facilities, the wafers are separated into individual circuits and packaged.


Competition
 
The semiconductor industry is highly competitive and subject to rapid technological change. Significant competitive factors in the market for standard products include product features, performance, price, the timing of product introductions, the emergence of new technological standards, quality and customer support. The Company believes that it competes favorably in all of these areas.

 
 
The standard products market for analog ICs is diverse and highly fragmented, and the Company encounters different competitors in its various market areas. The Company's principal analog circuit competitors include Linear Technology Corporation, Maxim Integrated Products, Inc., and Texas Instruments Incorporated in one or more of its product areas. Other competitors include Freescale Semiconductor, Inc., Intersil Corporation, Fairchild Semiconductor International, Inc., Skyworks Solutions, Inc., Semtech Corporation and ON Semiconductor Corporation. Most of these companies have substantially greater technical, financial and marketing resources and greater name recognition than the Company. The Company's principal competitors for products targeted at the high bandwidth communications market are ON Semiconductor, Analog Devices, Inc., Maxim Integrated Products, Inc., Vitesse Semiconductor Corp., Integrated Device Technology, Inc. and Mindspeed Technologies, Inc. The primary competitors for Micrel's Ethernet products are Broadcom Corp., Marvell Technology Group Ltd. and a number of Taiwanese companies.
 
With respect to the custom and foundry products business, significant competitive factors include product quality and reliability, established relationships between customers and suppliers, timely delivery of products, and price. The Company believes that it competes favorably in all these areas.


Backlog
 
At December 31, 2011, the Company's backlog was approximately $58 million, substantially all of which is scheduled to be shipped during the first six months of 2012.  At December 31, 2010, backlog was approximately $89 million. Orders in backlog are subject to cancellation or rescheduling by the customer, generally with a cancellation charge in the case of custom and foundry products. The Company's backlog consists of distributor and customer released orders requesting shipment within the next six months. Shipments to United States, Canadian and certain other international distributors who receive significant return rights and price adjustments from the Company are not recognized as revenue by the Company until the product is sold from the distributor stock and through to the end-users. Because of possible changes in product delivery schedules and cancellation of product orders and because an increasing percentage of the Company's sales are shipped in the same quarter that the orders are received, the Company's backlog at any particular date is not necessarily indicative of actual sales for any succeeding period.


Environmental Matters
Federal, state and local regulations impose various environmental controls on the storage, handling, discharge and disposal of chemicals and gases used in the Company's manufacturing process. The Company believes that its activities conform to present environmental regulations.


Employees
 
As of December 31, 2011, the Company had 781 full-time employees as compared to 837 at December 31, 2010. The Company's employees are not represented by any collective bargaining agreements, and the Company has never experienced a work stoppage.


Segment Information
 
The Company has two reportable segments: standard products and other product revenues, which consist primarily of custom and foundry products revenues. Segment financial information is presented in Note 12 of Notes to the Consolidated Financial Statements, which is incorporated by reference here.

 

ITEM 1A.  RISK FACTORS


Factors That May Affect Operating Results

If the Company’s operating results are below the expectations of public market analysts or investors, then the market price of its common stock could decline. Many factors that can affect the Company’s quarterly and annual results are difficult to control or predict. Some of the factors which can affect a multinational semiconductor business such as the Company are described below.


Geopolitical and Macroeconomic Risks That May Affect Multinational Enterprises

Weak global economic conditions could have a material adverse effect on the Company’s business, results of operations, and financial condition. While the global economy has partially recovered from the economic downturn that began in 2007, continued weakness in the macroeconomic climate has constrained demand for the Company’s semiconductors and there is no guarantee that these conditions will improve in a timely manner or at all or that these conditions will not further decline again in the future. The semiconductor industry has traditionally been highly cyclical and has often experienced significant downturns in connection with, or in anticipation of, declines in general economic conditions. The Company cannot accurately predict the timing, severity or duration of such downturns. A global recession may result in a decrease in orders for the Company’s products, that may materially adversely affect the Company’s revenues, results of operations and financial condition. In addition to reduction in sales, the Company’s profitability may decrease during economic downturns because the Company may not be able to reduce costs at the same rate as its sales decline.

Demand for semiconductor components is increasingly dependent upon the rate of growth of the global economy.  Many factors could adversely affect regional or global economic growth. Some of the factors that could slow global economic growth include: volatility in global credit markets, price inflation or deflation for goods, services or materials, a slowdown in the rate of growth of regional economies such as Europe, China or the United States, a significant act of terrorism that disrupts global trade or consumer confidence, and geopolitical tensions including war and civil unrest. Reduced levels of economic activity, or disruptions of international transportation, could adversely affect sales on either a global basis or in specific geographic regions.

Market conditions may lead the Company to initiate cost reduction plans, which may negatively affect near term operating results. Weaker customer demand, competitive pricing pressures, excess capacity, weak economic conditions or other factors, may cause the Company to initiate actions to reduce the Company’s cost structure to improve the Company’s future operating results. The cost reduction actions may require incremental costs to implement, which could negatively affect the Company’s operating results in periods when the incremental costs or liabilities are incurred.

Disruption in financial markets may adversely affect the Company’s business in a number of ways. The unprecedented contraction and extreme disruption of the credit and financial markets in the United States, Europe, and Asia that began in 2007 led to, among other things, extreme volatility in security prices, severely diminished liquidity and credit availability, rating downgrades of certain investments and declining valuation of others. A similar tightening of credit in financial markets in the future may limit the ability of the Company’s customers and suppliers to obtain financing for capital purchases and operations. This could result in a decrease in or cancellation of orders for the Company’s products or reduced ability to finance operations to supply products to the Company.
 
 
 
The Company cannot predict the likely duration and severity of disruptions in financial markets and adverse economic conditions in the U.S. and other countries. Further, fluctuations in worldwide economic conditions make it extremely difficult for the Company to forecast future sales levels based on historical information and trends. Visibility into customer demand is limited due to short order lead times. Portions of the Company’s expenses are fixed and other expenses are tied to expected levels of sales activities. To the extent the Company does not achieve its anticipated levels of sales, its gross profit and net income could be adversely affected.

The Company has generated a substantial portion of its net revenues from export sales. The Company believes that a substantial portion of its future net revenues will depend on export sales to customers in international markets, including Asia. International markets are subject to a variety of risks, including changes in policy by the U.S. or foreign governments, acts of terrorism, natural disasters, foreign government instability, social conditions such as civil unrest, economic conditions including high levels of inflation or deflation, fluctuation in the value of foreign currencies and currency exchange rates and trade restrictions or prohibitions. Changes in exchange rates that strengthen the U.S. dollar could increase the price of the Company’s products in the local currencies of the foreign markets it serves. This would result in making the Company’s products relatively more expensive than its competitors’ products that are denominated in local currencies, leading to a reduction in sales or profitability in those foreign markets. The Company has not taken any protective measures against exchange rate fluctuations, such as purchasing hedging instruments. In addition, the Company sells to domestic customers that do business worldwide and cannot predict how the businesses of these customers may be affected by economic or political conditions elsewhere in the world. Such factors could adversely affect the Company’s future revenues, financial condition, results of operations or cash flows.


Semiconductor Industry Specific Risks

The volatility of customer demand in the semiconductor industry limits a company’s ability to predict future levels of sales and profitability. Semiconductor suppliers can rapidly increase production output in response to slight increases in demand, leading to a sudden oversupply situation and a subsequent reduction in order rates and revenues as customers adjust their inventories to account for shorter lead times. A rapid and sudden decline in customer demand for products can result in excess quantities of certain products relative to demand. Should this occur, the Company’s operating results may be adversely affected as a result of charges to reduce the carrying value of the Company’s inventory to the estimated demand level or market price. The Company’s quarterly revenues are highly dependent upon turns fill orders (orders booked and shipped in the same quarter). The short-term and volatile nature of customer demand makes it extremely difficult to accurately predict near term revenues and profits.

The semiconductor industry is highly competitive and subject to rapid technological change, price-erosion and increased international competition. Significant competitive factors include product features; performance and price; timing of product introductions; emergence of new computer and communications standards; and quality and customer support. If the Company is unable to compete favorably in these areas, revenues and profits could be negatively affected.

 
 
The short lead-time environment in the semiconductor industry has allowed many end consumers to rely on semiconductor suppliers, stocking representatives and distributors to carry inventory to meet short-term requirements and minimize their investment in on-hand inventory. Customers have worked to minimize the amount of inventory of semiconductors they hold. As a consequence, customers are generally providing less order backlog to the Company and other semiconductor suppliers, resulting in short order lead times and reduced visibility into customer demand. As a consequence of the short lead-time environment and corresponding unpredictability of customer demand, the Company has increased its inventories over the past several years to maintain reliable service levels. If actual customer demand for the Company’s products is different from the Company’s estimated demand, delivery schedules may be impacted, product inventory may have to be scrapped, or the carrying value reduced, which could adversely affect the Company’s business, financial condition, results of operations, or cash flows.

In addition, the Company maintains a network of stocking representatives and distributors that carry inventory to service the volatile short-term demands of end customers. However, like many of its competitors, the Company recognizes revenue on sales of product to stocking representatives on a sell-in basis, rather than a sell-through basis, so fluctuations in inventory accumulation by stocking representatives can exacerbate fluctuations in revenue from sales to such stocking representatives. Also, should the relationship with a distributor or stocking representative be terminated, the level of product returns could be higher than the returns allowance established, which could negatively affect the Company’s revenues and results of operations.

Uncertain economic growth and customer demand in the semiconductor industry and increased concentration of electronics procurement and manufacturing may led to further price erosion and increased advertising costs. If price erosion occurs, it will have the effect of reducing revenue levels and gross margins in future periods. Furthermore, the trend for the Company’s customers to move their electronics manufacturing to Asian countries has brought increased pricing pressure for Micrel and the semiconductor industry as a whole. Asian based manufacturers are typically more concerned about cost and less concerned about the capability of the integrated circuits they purchase. The increased concentration of electronics procurement and manufacturing in the Asia Pacific region may lead to continued price pressure and additional product advertising costs for the Company’s products in the future.

Many semiconductor companies, including the Company, face risks associated with a dependence upon third parties that manufacture, assemble, package or supply raw materials for certain of its products. These risks include reduced control over delivery schedules and quality; inadequate manufacturing yields and excessive costs; the potential lack of adequate capacity during periods of excess demand; difficulties selecting and integrating new subcontractors; potential increases in prices; disruption in supply due to civil unrest, terrorism, natural disasters or other events which may occur in the countries in which the subcontractors or suppliers operate; and potential misappropriation of the Company’s intellectual property. The occurrence of any of these events may lead to increased costs or delay delivery of the Company’s products, which would harm its profitability and customer relationships. Furthermore, a major disruption to any part of the Company's customers' supply chains could decrease their output and subsequently result in lower demand for the Company's products.

 

The Company generally does not have long-term supply contracts with its third-party vendors. Therefore, most of its vendors are not obligated to perform services or supply products to the Company for any specific period, in any specific quantities, or at any specific price, except as may be provided in a particular accepted purchase order or guarantee. Additionally, the Company’s wafer and product requirements typically represent a relatively small portion of the total production of the suppliers, third-party foundries and outside assembly, testing and packaging contractors. As a result, the Company is subject to the risk that a third-party supplier will provide delivery or capacity priority to other larger customers to the Company’s detriment, resulting in an inadequate supply to meet customer demand or higher costs to obtain the necessary product supply.

The Company outsources some of its wafer fabrication, most of its test and all of its assembly requirements to third-party vendors. When demand for semiconductors improves, availability of these outsourced services typically becomes tight, resulting in longer than normal lead times and delinquent shipments to customers. The degree to which Micrel may have difficulty obtaining these services could have a negative impact on the Company’s revenues, bookings and backlog. If these lead times are extended, the resulting loss of near-term visibility for our customers could result in their placing higher order levels than their actual requirements which may result in higher levels of order cancellations in the future. There can be no assurance that the Company will be able to accurately forecast demand and moderate its build schedules to accommodate the possibility of an increase in order cancellations.

The markets that the Company serves frequently undergo transitions in which products rapidly incorporate new features and performance standards on an industry-wide basis. If the Company’s products are unable to support the new features or performance levels required by OEMs in these markets, the Company would likely lose business from existing or potential customers and would not have the opportunity to compete for new design wins until the next product transition. If the Company fails to develop products with required features or performance standards or experiences even a short delay in bringing a new product to market, or if its customers fail to achieve market acceptance of their products, its revenues could be significantly reduced for a substantial period of time.

Because the standard products market for ICs is diverse and highly fragmented, the Company encounters different competitors in various market areas. Many of these competitors have substantially greater technical, financial and marketing resources and greater name recognition than the Company. The Company may not be able to compete successfully in either the standard products or custom and foundry products businesses in the future and competitive pressures may adversely affect the Company’s financial condition, results of operations, or cash flows.

The success of companies in the semiconductor industry depends in part upon intellectual property, including patents, trade secrets, know-how and continuing technology innovation. The success of companies like Micrel may depend on their ability to obtain necessary intellectual property rights and protect such rights. There can be no assurance that the steps taken by the Company to protect its intellectual property will be adequate to prevent misappropriation or that others will not develop competitive technologies or products. There can be no assurance that any patent owned by the Company will not be invalidated, circumvented or challenged, that the rights granted thereunder will provide competitive advantages or that any of its pending or future patent applications will be issued with the scope of the claims sought, if at all. Furthermore, others may develop technologies that are similar or superior to the Company’s technology, duplicate technology or design around the patents owned by the Company.

 
 
Additionally, the semiconductor industry is characterized by frequent litigation regarding patent and other intellectual property rights. Claims alleging infringement of intellectual property rights have been asserted against the Company in the past and could be asserted against the Company in the future. These claims could result in the Company having to discontinue the use of certain processes or designs; cease the manufacturing, use and sale of infringing products; incur significant litigation costs and damages; attempt to obtain a license to the relevant intellectual property and develop non-infringing technology. The Company may not be able to obtain or renew such licenses on acceptable terms or to develop non-infringing technology. Existing claims or other assertions or claims for indemnity resulting from infringement claims could adversely affect the Company’s business, financial condition, results of operations, or cash flows. In addition, the Company relies on third parties for certain technology that is integrated into some of its products. If the Company is unable to continue to use or license third-party technologies in its products on acceptable terms, or the technology fails to operate, the Company may not be able to secure alternative technologies in a timely manner and its business would be harmed.

The significant investment in semiconductor manufacturing capacity and the rapid growth of circuit design centers in China may present a competitive threat to established semiconductor companies due to the current low cost of labor and capital in China. The emergence of low cost competitors in China could reduce the revenues and profitability of established semiconductor manufacturers.

There is intense competition for qualified personnel in the semiconductor industry. The loss of any key employees or the inability to attract or retain qualified personnel, including management, engineers and sales and marketing personnel, could delay the development and introduction of the Company’s products, and harm its ability to sell its products. The Company believes that its future success is dependent on the contributions of its senior management, including its President and Chief Executive Officer, certain other executive officers and senior engineering personnel. The Company does not have long-term employment contracts with these or any other key personnel, and their knowledge of the Company’s business and industry would be difficult to replace.

Companies in the semiconductor industry are subject to a variety of federal, state and local governmental regulations related to the use, storage, discharge and disposal of toxic, volatile or otherwise hazardous chemicals used in its manufacturing process. Any failure to comply with present or future regulations could result in the imposition of fines, the suspension of production, alteration of manufacturing processes or a cessation of operations. In addition, these regulations could restrict the Company’s ability to expand its facilities at their present locations or construct or operate a new wafer fabrication facility or could require the Company to acquire costly equipment or incur other significant expenses to comply with environmental regulations or clean up prior discharges. The Company’s failure to appropriately control the use of, disposal or storage of, or adequately restrict the discharge of, hazardous substances could subject it to future liabilities and could have a material adverse effect on its business.


Company-Specific Risks

In addition to the risks that affect multinational semiconductor companies listed above, there are additional risks which are more specific to the Company such as:

An important part of the Company’s strategy is to continue to focus on the market for high-speed communications ICs. Should demand from the Company’s customers in this end market decrease, or if lower customer demand for the Company’s high bandwidth products materializes, the Company’s future revenue growth and profitability could be adversely affected.
 
 
 
The wireless handset (cellular telephone) market comprises a significant portion of the Company’s standard product revenues. The Company derives a significant portion of its net revenues from customers serving the wireless handset market. Due to the highly competitive and fast changing environment in which the Company’s wireless handset customers operate, demand for the product the Company sells into this end market can change rapidly and unexpectedly. If the Company’s wireless handset customers' acceptance of Micrel’s products decreases, or if these customers lose market share, or accumulate too much inventory of completed handsets, the demand for the Company’s products could decline sharply which could adversely affect the Company’s revenues and results of operations.

The Company’s gross margin, operating margin and net income are highly dependent on the level of revenue, average selling prices and capacity utilization that the Company experiences. A decline in average selling prices (“ASPs”) could adversely affect the Company’s revenues, gross margins and results of operations unless the Company is able to sell more units, reduce its costs, and introduce new products with higher ASPs or some combination thereof.

Semiconductor manufacturing is a capital-intensive business resulting in high fixed costs. If the Company is unable to utilize its installed wafer fabrication or test capacity at a high level, the costs associated with these facilities and equipment would not be fully absorbed, resulting in higher average unit costs and lower profit margins.

The Company has invested in certain auction rate securities that may not be accessible for in excess of 12 months and these auction rate securities may experience an other than temporary decline in value, which would adversely affect the Company’s income. At December 31, 2011, the Company held $7.8 million in principal of auction rate notes secured by student loans. As of December 31, 2011, all of these auction rate securities failed to auction successfully due to sell orders exceeding buy orders. The Company recorded a $581,000 net of tax ($947,000 pre-tax) temporary impairment of these securities to other comprehensive income, a component of shareholders’ equity. If it is determined that the fair value of these securities is other than temporarily impaired, the Company would record a loss, which could be material, in its statement of operations in the period such other than temporary decline in fair value is determined. For additional information regarding the Company’s investments, see Note 1 of Notes to Consolidated Financial Statements.

The Company faces various risks associated with the trend toward increased shareholder activism. In 2008, the Company became engaged in a proxy contest with a large shareholder. This dispute led to a significant increase in operating expenses which appreciably reduced the Company’s operating profit and net income. Although this dispute was resolved, the Company could become engaged in another proxy contest in the future. Another proxy contest would require significant additional management time and increased operating expenses, which could adversely affect the Company’s profitability and cash flows.

The semiconductor industry is characterized by frequent litigation regarding patent and other intellectual property rights. To the extent that the Company becomes involved in such intellectual property litigation, it could result in substantial costs and diversion of resources to the Company and could have a material adverse effect on the Company’s financial condition, results of operation or cash flows.

 

In the event of an adverse ruling in any intellectual property litigation that might arise in the future, the Company might be required to discontinue the use of certain processes or designs, cease the manufacture, use and sale of infringing products, expend significant resources to develop non-infringing technology or obtain licenses to the infringing technology. There can be no assurance, however, that under such circumstances, a license would be available under reasonable terms or at all. In the event of a successful claim against the Company and the Company’s failure to develop or license substitute technology on commercially reasonable terms, the Company’s financial condition, results of operations, or cash flows could be adversely affected.

The complexity of the Company’s products may lead to errors or defects, which could subject the Company to significant costs or damages and adversely affect market acceptance of its products. Although the Company’s customers and suppliers rigorously test its products, these products may contain undetected errors, weaknesses or defects. If any of the Company’s products contain production defects, reliability, quality or compatibility problems that are significant, the Company’s reputation may be damaged and customers may be reluctant to continue to buy its products. This could adversely affect the Company’s ability to retain and attract new customers. In addition, these defects could interrupt or delay sales of affected products, which could adversely affect the Company’s results of operations.

If defects are discovered after commencement of commercial production, the Company may be required to incur significant costs to resolve the problems. This could result in significant additional development costs and the diversion of technical and other resources from other development efforts. The Company could also incur significant costs to repair or replace defective products or may agree to be liable for certain damages incurred. These costs or damages could have a material adverse effect on the Company’s financial condition and results of operations.

The Company will continue to expend substantial resources developing new products, applications or markets and may never achieve the sales volume that it anticipates for these products, which may limit the Company’s future growth and harm its results of operations. The Company’s future success will depend in part upon the success of new products. The Company has in the past, and will likely in the future, expend substantial resources in developing new and additional products for new applications and markets. The Company may experience unforeseen difficulties and delays in developing these products and experience defects upon volume production and broad deployment. The markets the Company enters will likely be highly competitive and competitors may have substantially more experience in these markets. The Company’s success will depend on the growth of the markets it enters, the competitiveness of its products and its ability to increase market share in these markets. If the Company enters markets that do not achieve or sustain the growth it anticipates, or if the Company’s products are not competitive, it may not achieve volume sales, which may limit the Company’s future growth and would harm its results of operations.

If the Company is unable to convert a significant portion of its design wins into revenue, the Company’s business, financial condition and results of operations could be materially and adversely impacted. The Company has secured a number of design wins for new and existing products. Such design wins are necessary for revenue growth. However, many of the Company’s design wins may never generate revenues if end-customer projects are unsuccessful in the marketplace or the end-customer terminates the project, which may occur for a variety of reasons. Mergers and consolidations among customers may lead to termination of certain projects before the associated design win generates revenue. If design wins do generate revenue, the time lag between the design win and meaningful revenue is typically from six months to greater than eighteen months. If the Company fails to convert a significant portion of its design wins into substantial revenue, the Company’s business, financial condition and results of operations could be materially and adversely impacted.
 
 
 
If the Company’s distributors or sales representatives stop selling or fail to successfully promote its products, the Company’s business, financial condition and results of operations could be adversely impacted. Micrel sells many of its products through sales representatives and distributors. The Company’s non-exclusive distributors and sales representatives may carry its competitors’ products, which could adversely impact or limit sales of the Company’s products. Additionally, they could reduce or discontinue sales of the Company’s products or may not devote the resources necessary to adequately sell the Company’s products. The Company’s agreements with distributors contain limited provisions for return of products, including stock rotations whereby distributors may return a percentage of their purchases based upon a percentage of their most recent three months of shipments. In addition, in certain circumstances upon termination of the distributor relationship, distributors may return some or all of their prior purchases. The loss of business from any of the Company’s significant distributors or the delay of significant orders from any of them could materially and adversely harm the Company’s business, financial conditions and results of operations.

In addition, the Company depends on the continued viability and financial resources of these distributors and sales representatives, some of which are small organizations with limited working capital. In turn, these distributors and sales representatives are subject to general economic and semiconductor industry conditions. If some or all of the Company’s distributors and sales representatives experience financial difficulties, or otherwise become unable or unwilling to promote and sell the Company’s products, or deliver the Company’s products in a timely manner, its business, financial condition and results of operations could be adversely impacted.

The Company manufactures most of its semiconductors at its San Jose, California fabrication facilities. The Company’s existing wafer fabrication facility, located in Northern California, may be subject to natural disasters such as earthquakes. A significant natural disaster, such as an earthquake or prolonged drought, could have a material adverse impact on the Company’s business, financial condition and operating results. Furthermore, manufacturing semiconductors requires manufacturing tools that are unique to each product being produced. If one of these unique manufacturing tools was damaged or destroyed, the Company’s ability to manufacture the related product would be impaired and its business would suffer until the tool was repaired or replaced. Additionally, the fabrication of ICs is a highly complex and precise process. Small impurities, contaminants in the manufacturing environment, difficulties in the fabrication process, defects in the masks used to print circuits on a wafer, manufacturing equipment failures, and wafer breakage or other factors can cause a substantial percentage of wafers to be rejected or numerous die on each wafer to be nonfunctional. The Company maintains approximately two to three months of inventory that has completed the wafer fabrication manufacturing process. This inventory is generally located offshore at third party subcontractors but may not be sufficient to fully mitigate the adverse impact from a disruption to the Company’s San Jose wafer fabrication activity arising from a natural disaster such as an earthquake.
 
 
 
The Company may be subject to disruptions or failures in information technology systems and network infrastructures that could have a material adverse effect on its business and financial condition. As computer malware, virus, hacking, and phishing attack activities as well as internet crimes have become more widespread, the Company is adding this risk factor to address the potential impact on its business and operations.  The Company relies on the efficient and uninterrupted operation of complex information technology systems and network infrastructures to operate its business. A disruption, infiltration or failure of the Company's information technology systems as a result of software or hardware malfunctions, system implementations or upgrades, computer viruses, third-party security breaches, employee error, theft or misuse, malfeasance, power disruptions, natural disasters or accidents could cause breaches of data security, loss of intellectual property and critical data and the release and misappropriation of sensitive competitive information and partner, customer and employee personal data.  Any of these events could harm the Company's competitive position, result in a loss of customer confidence, cause the Company to incur significant costs to remedy any damages and ultimately materially adversely affect its business and financial condition.
 
While the Company has implemented a number of protective measures, including firewalls, antivirus, patches, data encryption, log monitors, routine back-ups with offsite retention of storage media, system audits, data partitioning, routine password modifications and disaster recovery procedures, such measures may not be adequate or implemented properly to prevent or fully address the adverse effect of such events. In addition, the Company's third-party subcontractors, including its test and assembly houses and distributors, have access to certain portions of the Company's and its customers' and partners' sensitive data. In the event that these subcontractors do not properly safeguard such data, security breaches and loss of data could result. Any such loss of data by its third-party subcontractors could have a material adverse effect on the Company's business and financial condition.

The Company’s results of operations could vary as a result of the methods, estimations and judgments used in applying its accounting policies. The methods, estimates and judgments used by the Company in applying its accounting policies have a significant impact on its results of operations. Such methods, estimates and judgments are, by their nature, subject to substantial risks, uncertainties, assumptions and changes in rulemaking by the regulatory bodies, and factors may arise over time that lead the Company to change its methods, estimates, and judgments. Changes in those methods, estimates and judgments could significantly impact the Company’s results of operations.

Changes in tax laws could adversely affect the Company’s results of operations. The Company is subject to income taxes in the United States and in various foreign jurisdictions. Significant judgment is required in determining the Company’s worldwide tax liabilities. The Company believes that it complies with applicable tax law. However, if the governing tax authorities have a different interpretation of the applicable law or if there is a change in tax law, the Company’s financial condition and results of operations may be adversely affected.


None


ITEM 2.

The majority of the Company's manufacturing operations are located in San Jose, California in a 57,000 square foot facility and an adjacent 63,000 square foot facility which are owned by the Company. The Company fabricates the majority of its wafers at this location in a 28,000 square foot clean room facility, which provides all production processes. In addition to wafer fabrication, the Company also uses this location as a testing facility. The Company's main executive, administrative, and technical offices are located in another 57,000 square foot facility in San Jose, California which is owned by the Company.

The Company also leases small sales and technical facilities located in Austin, TX; Richardson, TX; Perkasie, PA; Irvine, CA; San Diego, CA; Hong Kong; Bundang, Korea; Taipei, Taiwan; Shenzhen, P.R. China; Shanghai, P.R. China; Singapore; Yokohama, Japan; Newbury, U.K.; Swindon, U.K.; Livingston, Scotland; Frankfurt, Germany; and Villebon, France.

The Company believes that its existing facilities are adequate for its current manufacturing needs. The Company believes that if it should need additional space, such space would be available at commercially reasonable terms.
 


The information included in Note 11 of Notes to Consolidated Financial Statements under the caption "Litigation" in Item 15 of Part IV is incorporated herein by reference.

 

Not Applicable.










 
PART II


The Company did not sell any unregistered securities during the period covered by this Annual Report on Form 10-K.

The Company’s Common Stock is listed on the NASDAQ Global Select Market under the symbol "MCRL." The range of daily closing sales prices per share for the Company’s Common Stock from January 1, 2010 to December 31, 2011 was:

Year Ended December 31, 2011:
 
High
   
Low
 
Fourth quarter
  $ 11.20     $ 9.13  
Third quarter
  $ 10.79     $ 8.83  
Second quarter
  $ 14.49     $ 9.89  
First quarter
  $ 14.71     $ 12.48  
                 
Year Ended December 31, 2010:
 
High
   
Low
 
Fourth quarter
  $ 13.77     $ 10.02  
Third quarter
  $ 11.18     $ 8.82  
Second quarter
  $ 12.38     $ 9.99  
First quarter
  $ 10.89     $ 7.23  

The reported last sale price of the Company’s Common Stock on the NASDAQ Global Select Market on December 30, 2011 was $10.11per share. The approximate number of holders of record of the shares of the Company’s Common Stock was 318 as of February 24, 2012This number does not include shareholders whose shares are held in trust by other entities. The actual number of beneficial shareholders is greater than this number of holders of record.

The Company has authorized Common Stock, no par value and Preferred Stock, no par value. The Company has not issued any Preferred Stock.

The information required by this item regarding securities authorized for issuance under equity compensation plans is included in Part III, Item 12 "Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters" in this Report and is incorporated herein by reference.

Dividend Policy

On January 26, 2012, the Company's Board of Directors declared a $0.04 per common share cash dividend, payable February 22, 2012 to shareholders of record on February 8, 2012. During the year ended December 31, 2011, the Company paid cash dividends in the amount of $0.035 per common share in each of the first two quarters and $0.04 per common share in each of the last two quarters for a total of $9.4 million.  During the year ended December 31, 2010, the Company paid cash dividends in the amount of $0.035 per common share per quarter for a total of $8.6 million.

Although the Company has paid cash dividends on a quarterly basis for the past several years, it cannot assure that it will continue to do so on any particular schedule or that it will not reduce the amount of dividends it pays in the future.  The Company's future dividend policy is subject to the discretion of its Board of Directors and will depend upon a number of factors deemed relevant by the Board, including but not limited to the future consolidated earnings, financial condition, liquidity, capital requirements, applicable governmental regulations and policies and restrictive covenants in borrowing arrangements.
 
 
Stock Performance Graph

The following graph compares a $100 investment in Micrel common stock over the five-year period from the end of 2006 through the end of 2011, with a similar investment in the NASDAQ Composite and the Philadelphia Semiconductor index. It shows the cumulative total returns over this five year period, assuming reinvestment of dividends.
 
Stock Performance Graph

   
December 29,
   
December 31,
   
December 31,
   
December 31,
   
December 31,
   
December 30,
 
   
   2006
   
 2007
   
 2008
   
 2009
   
 2010
   
 2011
 
Micrel, Incorporated
  $ 100.00     $ 79.75     $ 71.39     $ 83.02     $ 134.76     $ 107.50  
NASDAQ Composite
  $ 100.00     $ 109.81     $ 65.29     $ 93.95     $ 109.84     $ 107.86  
Philadelphia Semiconductor Index
  $ 100.00     $ 87.37     $ 45.43     $ 77.06     $ 88.18     $ 78.03  


This performance graph shall not be deemed "soliciting material" or to be "filed" with the Securities and Exchange Commission for purposes of Section 18 of the Exchange Act or otherwise subject to the liabilities under that Section, and shall not be deemed to be incorporated by reference into any filing of Micrel, Incorporated under the Securities Act or the Exchange Act.

 

Issuer Purchases of Equity Securities

In February 2010, the Company’s Board of Directors approved a $15 million share repurchase program for calendar year 2010. In September 2010, the Company’s Board of Directors approved an increase to the amount authorized for repurchase from $15 million to $30 million. In November 2010, the Company’s Board of Directors approved a modification to the termination date of the authorized repurchase plan. The plan would have terminated on December 31, 2010, but was modified to stay in effect until the total authorized aggregate amount of $30 million is expended.  In May 2011, the Company announced that its Board of Directors authorized the repurchase of an additional $30 million of the Company’s common stock to the Board’s 2010 repurchase authorization of $30 million which brought the total available for repurchase to $60 million. The authorization will stay in effect until the authorized aggregate amount is expended or the authorization is modified by the Board of Directors. The timing and amount of any repurchase of shares is determined by the Company’s management, based on its evaluation of market conditions and other factors. Share repurchases are recorded as a reduction of common stock to the extent available. Any amounts in excess of common stock are recorded as a reduction of retained earnings. Repurchases of the Company’s common stock during 2011 were as follows:
 
 
 
 
Period
 
 
Total Number of Shares Purchased
   
 
Average Price
Paid Per Share
   
Total Number of Shares Purchased as Part of Publicly Announced
Plans or Programs
   
Maximum Dollar Value of Shares that May Yet Be Purchased Under the
Plans or Programs
($000) 
 
December 2010
             
 
    $ 13,946  
January 2011
    99,760     $ 13.31       99,760     $ 12,618  
February 2011
    333,911       13.40       333,911     $ 8,144  
March 2011
                    $ 8,144  
Total Q1 2011
    433,671       13.38       433,671          
April 2011
                    $ 8,144  
May 2011
    30,000       11.75       30,000     $ 7,791  
       May 2011*
                    $ 37,791  
       June 2011
    90,000       11.73       90,000     $ 36,735  
Total Q2 2011
    120,000       11.74       120,000          
July 2011
                    $ 36,735  
August 2011
    268,934       9.56       268,934     $ 34,164  
September 2011
    269,600       9.98       269,600     $ 31,473  
Total Q3 2011
    538,534       9.77       538,534          
October 2011
    263,857       10.03       263,857     $ 28,827  
November 2011
    240,000       10.34       240,000     $ 26,345  
December 2011
     257,900       10.28       257,900     $ 23,694  
Total Q4 2011
    761,757       10.21       761,757          
Total 2011
    1,853,962     $ 10.92       1,853,962          

 

_______________
*The Company’s Board of Directors authorized the repurchase of an additional $30 million of the Company’s common  stock.




The selected consolidated financial data below is not necessarily indicative of future operations and should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Company's Consolidated Financial Statements and related notes thereto which are incorporated herein by reference.


Income Statement Data:
 
Years Ended December 31,
 
(in thousands, except per share amounts)
 
 2011
   
 2010
   
 2009
   
 2008
   
    2007(1)
 
Net revenues
  $ 259,025     $ 297,366     $ 218,887     $ 259,360     $ 257,974  
Cost of revenues*
    115,881       128,535       105,134       116,351       111,068  
Gross profit
    143,144       168,831       113,753       143,009       149,906  
Operating expenses:
                                       
Research and development*
    49,952       46,271       46,522       54,947       54,523  
Selling, general and administrative*
    46,415       47,590       37,325       44,405       45,040  
Proxy contest expense (credits)
                (550 )     4,153        
Equipment impairment and restructuring charges (credits)
                6,514       (842 )     128  
Other operating expense
                            86  
Total operating expenses
    96,367       93,861       89,811       102,663       99,777  
Income from operations
    46,777       74,970       23,942       40,346       47,129  
Other income, net
    825       492       688       2,936       21,717  
Income before income taxes
    47,602       75,462       24,630       43,282       68,846  
Provision for income taxes
    13,586       24,754       8,336       15,025       24,778  
Net income
  $ 34,016     $ 50,708     $ 16,294     $ 28,257     $ 44,068  
                                         
Net income per share:
                                       
Basic
  $ 0.55     $ 0.82     $ 0.26     $ 0.40     $ 0.57  
Diluted
  $ 0.55     $ 0.81     $ 0.26     $ 0.40     $ 0.57  
Shares used in computing per share amounts:
                                       
Basic
    61,609       62,030       63,576       70,549       76,918  
Diluted
    62,371       62,557       63,644       70,653       77,813  
                                         
Cash dividends per common share
  $ 0.15     $ 0.14     $ 0.14     $ 0.14     $ 0.09  
                                         
*Share based compensation included in:
                                       
Cost of revenues
  $ 1,009     $ 798     $ 670     $ 974     $ 1,156  
Research and development
    2,401       1,808       1,619       2,086       2,130  
Selling, general and administrative
    2,444       2,119       1,675       2,119       2,199  
                                         

Balance Sheet Data:
 
December 31,
 
(in thousands)
 
2011
   
2010
   
2009
   
2008
   
2007
 
Working capital
  $ 175,068     $ 141,214     $ 102,266     $ 111,397     $ 128,365  
Total assets
    309,975       302,453       245,958       260,343       295,276  
Long-term debt and other obligations
    6,450       5,664       7,529       4,740       3,149  
Total shareholders' equity
    246,429       223,641       185,351       208,406       237,143  

____________________
(1) Other income, net for the year ended December 31, 2007, includes $15.5 million in non-operating income resulting from the settlement of litigation.


 
Overview

Micrel designs, develops, manufactures and markets a range of high-performance analog power ICs, mixed-signal and digital ICs.  These products address a wide range of end markets including cellular handsets, enterprise and portable computing, enterprise and home networking, wide area and metropolitan area networks and industrial equipment.  The Company also manufactures custom analog and mixed-signal circuits and provides wafer foundry services for customers who produce electronic systems for communications, consumer and military applications.

To enhance the readers' understanding of the Company's performance, the following chronological overview of the Company's results for the years 2009 through 2011 have been provided.

The worldwide macroeconomic recession impacted demand in the first quarter of 2009, with the Company’s customers maintaining lean inventory levels. Despite the difficult environment, first quarter of 2009 bookings increased over fourth quarter 2008 levels and resulted in a book-to-bill ratio greater than one for both the original equipment manufacturer ("OEM") and distribution sales channels. The Company’s first quarter of 2009 revenues were $47.0 million, compared to $55.2 million in the fourth quarter of 2008. Gross margin in the first quarter of 2009 was 50.3%, compared to 52.0% in the prior quarter. The decrease in gross margin was primarily due to factory capacity under-utilization as the Company continued to control its inventory levels. Net income in the first quarter of 2009 was $1.5 million, or $0.02 per diluted share, as compared to fourth quarter 2008 net income of $4.9 million, or $0.07 per diluted share. The Company maintained its quarterly $0.035 per share dividend and repurchased 1.9 million shares under its stock repurchase plan.

Revenues increased to $51.8 million in the second quarter of 2009, compared to $47.0 million in the first quarter of 2009. Second quarter 2009 operating expenses were down by 4% sequentially. Second quarter 2009 net income of $3.9 million was more than double the net income of $1.5 million reported for the first quarter of 2009. The Company also continued its stock repurchase program. In addition, the Company also maintained its quarterly $0.035 per share dividend payment.

Revenues for the third quarter of 2009 totaled $58.9 million, as compared to $51.8 million in the second quarter of 2009 and $67.6 million in the third quarter of 2008. Sequential revenue growth was driven by increasing demand across most major markets served by the Company. Bookings for the third quarter of 2009 resulted in a book-to-bill ratio that was greater than one. Gross margin in the third quarter of 2009 increased to 52.5%, as compared to 51.3% in the second quarter of 2009, in part due to increased revenue levels to cover fixed manufacturing costs.  Third quarter 2009 net income increased 76% to $6.8 million, or $0.11 per diluted share, as compared to $3.9 million, or $0.06 per diluted share, in the second quarter of 2009. As a result of the Company’s ongoing expense management and the Company’s stock repurchase program, third quarter 2009 earnings per diluted share were equal to $0.11, which was equal to the third quarter 2008 earnings per diluted share, despite significantly lower revenues in the third quarter of 2009 as compared to the third quarter of 2008. The Company also maintained its quarterly $0.035 per share dividend.

 
 
28

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 
 
Revenues in the fourth quarter of 2009 increased 4% to $61.2 million, as compared to $58.9 million in the third quarter of 2009. The sequential growth was driven by increasing demand across most major markets for the Company’s products. During the fourth quarter of 2009, the book-to-bill ratio was significantly greater than one. Fourth quarter 2009 gross margin increased to 53.3%, from 52.5% in the third quarter of 2009. The improvement in gross margin was in part due to better capacity utilization as a result of increased revenue levels to cover fixed manufacturing costs. During the quarter, total operating expenses included a $6.5 million non-cash, pre-tax charge related to the impairment of certain semiconductor manufacturing equipment located at the Company’s San Jose fabrication facility. Operating income in the fourth quarter of 2009 was $5.5 million, or 8.9% of sales, as compared to $10.0 million, or 17.0% of sales, in the third quarter 2009. Net income in the fourth quarter of 2009 was $4.1 million, or $0.07 per basic and diluted share, which included a $0.06 per diluted share reduction due to equipment impairment. In comparison, net income in the third quarter of 2009 was $6.8 million, or $0.11 per basic and diluted share. In addition, the Company continued to maintain its quarterly $0.035 per share dividend.

For the year ended December 31, 2009, revenues totaled $218.9 million, as compared to revenues of $259.4 million for the year ended December 31, 2008. Net income for 2009 was $16.3 million, or $0.26 per diluted share, as compared to net income of $28.3 million, or $0.40 per diluted share in 2008. During 2009, the Company generated $37.6 million in cash flows from operations, repurchased $32.5 million of its common stock, purchased its San Jose California corporate facility for approximately $6.0 million, paid $8.9 million of dividends to shareholders and made other capital investments of $6.1 million.

During the first quarter of 2010, increased demand from customers serving the industrial and communications end markets resulted in strong bookings and solid revenue growth. Revenues during the first quarter of 2010 increased to $67.2 million, representing a 9.7% increase from the $61.2 million reported for the fourth quarter of 2009. As compared to the first quarter of 2009, revenues increased by $20.2 million, or 43.0% due to higher overall demand from customers in all of the Company's geographies and end markets. First quarter 2010 gross margin was 55.4%, representing an increase from 53.3% in the fourth quarter of 2009. Operating margin in the first quarter of 2010 was 22.2%, as compared to 8.9% in the fourth quarter of 2009. Net income for the first quarter of 2010 was $9.7 million, or $0.16 per diluted share, reflecting an increase as compared to the fourth quarter of 2009 net income of $4.1 million, or $0.07 per diluted share. Earnings per share for the fourth quarter of 2009 included $0.06 per diluted share of equipment impairment expense. During the first quarter of 2010, the Company generated $17.9 million in cash flows from operations. The Company also maintained its quarterly $0.035 per share dividend.
 

 
29

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 
 
During the second quarter of 2010, revenues increased to $73.9 million, representing an increase of $6.7 million, or 10.0%, from $67.2 million in the first quarter of 2010. Compared to the same period last year, revenues increased by $22.1 million, or 42.7%, due to higher overall demand from customers in all of the Company's geographies and end markets. Demand from customers serving the communications and computer end markets increased, resulting in a book-to-bill ratio that was greater than one. The gross margin in the second quarter of 2010 was 57.8%, as compared to 55.4% in the first quarter of 2010. This increase was largely due to improved factory utilization and in part due to a reduced sales mix of lower margin products shipped to the wireless handset market. The Company’s operating margin for the second quarter of 2010 increased to 25.8% as compared to 22.2% in the first quarter of 2010. Net income for the second quarter of 2010 was $12.4 million, or $0.20 per basic and diluted share, as compared to net income equal to $9.7 million, or $0.16 per basic and diluted share for the first quarter of 2010, and net income equal to $3.9 million, or $0.06 per basic and diluted share, for the second quarter of 2009. During the second quarter of 2010, cash flows from operations were $26.8 million. The Company repurchased $1.3 million of its common stock during the second quarter of 2010 and also maintained its quarterly $0.035 per share dividend.

During the third quarter of 2010, revenues increased to $80.6 million, representing an increase of $6.7 million, or 9.1%, from $73.9 million in the second quarter of 2010, marking the sixth consecutive quarter of revenue growth for the Company. The increase in revenues as compared to the prior quarter was primarily due to improved demand in the industrial and communications end markets. Compared to the same period last year, revenues increased by $21.8 million, or 37.0%, due to greater overall demand from customers in all of the Company's geographies and end markets. Bookings for the third quarter of 2010 declined from second quarter 2010 levels, primarily due to reduced orders from distributors as they adjusted inventories to be in-line with reduced order lead times. The Company’s book-to-bill ratio for the third quarter of 2010 was less than one. Third quarter gross margin was 57.9%, as compared to 57.8% in the prior quarter. During the quarter, gross margin improvement resulting from increased factory capacity utilization was offset by an increase in reserves for excess inventory. The Company’s operating margin for the third quarter of 2010 increased to 27.6% as compared to 25.8% in the second quarter of 2010. Net income for the third quarter of 2010 was $14.9 million, or $0.24 per basic and diluted share, as compared to net income equal to $12.4 million, or $0.20 per basic and diluted share for the second quarter of 2010, and net income equal to $6.8 million, or $0.11 per basic and diluted share, for the third quarter of 2009. During the third quarter of 2010, cash flows from operations were $14.1 million. The Company repurchased $10.9 million of its common stock during the third quarter of 2010 and also maintained its quarterly $0.035 per share dividend.


 
30

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 
 
During the fourth quarter of 2010, revenues decreased 6.2% to $75.6 million from $80.6 million in the third quarter of 2010. Compared to the fourth quarter of 2009, revenues increased by $14.4 million, or 23.5%, due to greater overall demand from customers in all of the Company's geographies and end markets.  Customer demand moderated in the fourth quarter of 2010 as the semiconductor industry completed its recovery from the downturn of 2008-2009.  Fourth quarter 2010 bookings seasonally declined from the third quarter 2010 levels, resulting in a book-to-bill ratio below one for the quarter.  The Company’s book-to-bill remained above one for the full year 2010 consistent with bookings being unusually high due to long lead times in the first half of the year followed by softer demand and shorter (more normal) lead times in the second half. Fourth quarter 2010 gross margin was 55.8%, as compared to 57.9% in the third quarter of 2010. This decrease in gross margin was primarily the result of reduced factory utilization combined with a greater mix of direct sales to customers serving consumer markets, which tend to carry lower gross margins. Net income for the fourth quarter of 2010 was $13.7 million, or $0.22 per basic and diluted share, as compared to net income of $14.9 million, or $0.24 per basic and diluted share, for the third quarter of 2010, and net income of $4.1 million, or $0.07 per basic and diluted share, for the fourth quarter of 2009. Net income for the fourth quarter of 2009, which included a $6.5 million non-cash, pre-tax charge related to the impairment of certain semiconductor manufacturing equipment. During the fourth quarter of 2010, cash flows from operations were $14.3 million. The Company repurchased $2.9 million of its common stock during the fourth quarter of 2010 and also maintained its quarterly $0.035 per share dividend.

For the year ended December 31, 2010, revenues increased 36% to $297.4 million from $218.9 million for the year ended December 31, 2009. This increase was due to greater overall demand from customers in all of the Company's geographies and end markets, which resulted from improved macro-economic conditions, an expanded sales force, solid operational execution and increased shipments of new products.  Gross margin for 2010 increased to 56.8%, from 52.0% for 2009. This increase was primarily due to improved factory utilization and, to a lesser extent, a reduced sales mix of lower margin products shipped to the wireless handset market as compared to 2009. Operating margin for 2010 was 25.2% which represents the highest level in a decade.  Net income increased over 200% in 2010 to $50.7 million, or $0.81 per diluted share, as compared to net income of $16.3 million, or $0.26 per diluted share in 2009. The 2010 diluted earnings per share of $0.81 was an all-time annual record for Micrel and surpassed its previous record of $0.75, which was achieved in 2000 when total revenues were 16% higher than revenues in 2010. The increase in diluted earnings per share was due in part to a 36% decrease in the number of diluted shares in 2010, as compared to 2000, as a result of the Company’s share repurchase program.  During 2010 cash, cash equivalents and short term investments increased more than 50% to $109.2 million as compared to 2009, and the Company generated $73.1 million in cash flows from operations. In addition, in 2010 the Company repurchased $16.1 million of its common stock, and paid $8.6 million in dividends to shareholders.


 
31

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 
 
During the first quarter of 2011, revenues decreased 10.8% to $67.5 million from $75.6 million in the fourth quarter of 2010. This larger than normal seasonal decline in revenue from the fourth quarter of 2010 was mainly due to a larger than expected reduction in sales to a Korean wireless handset and consumer electronic device manufacturer which moderated product deliveries during the quarter to control its inventory levels.  The Company also experienced a reduction in overall demand towards the end of the first quarter of 2011 related to disruptions in the worldwide electronics supply chain as a result of the earthquake and tsunami in Japan. In addition, the first quarter 2011 revenues were impacted by reduced shipments to certain Asian based stocking representative channel partners that reduced their inventory levels during the quarter. As compared to the same period last year, first quarter 2011 revenues increased by $0.3 million. First quarter 2011 book-to-bill ratio was below one, but showed improvement compared to the fourth quarter of 2010. First quarter 2011 gross margin was 56.1%, as compared to 55.8% in the fourth quarter of 2010. Despite the lower revenues, first quarter 2011 gross margin increased from the previous quarter primarily due to a larger proportion of higher margin products. Net income for the first quarter of 2011 was $9.1 million, or $0.15 per basic share and $0.14 per diluted share, as compared to net income of $13.7 million, or $0.22 per basic and diluted share, for the fourth quarter of 2010, and net income of $9.7 million, or $0.16 per basic and diluted share, for the first quarter of 2010. During the first quarter of 2011, cash flows from operations were $15.5 million. During the first quarter of 2011, cash and short-term investments increased by $12.4 million to $121.6 million. In addition to maintaining its quarterly $0.035 per share cash dividend, during the first quarter of 2011 the Company repurchased $5.8 million of its common stock.

During the second quarter of 2011, revenues increased 1.5% to $68.5 million from $67.5 million in the first quarter of 2011. This increase resulted primarily from increased demand in the high-speed communications end market as well as a resumption of more normal shipment levels to a Korean wireless handset and consumer electronic device manufacturer which had moderated product deliveries during the previous quarter. The sequential increase in revenues was less than expected primarily due to lower than expected demand in the industrial end market. The second quarter 2011 book-to-bill ratio was above one for the first time since the second quarter of 2010. Second quarter 2011 gross margin increased to 58.3% as compared to 56.1% in the first quarter of 2011 primarily due to a larger proportion of higher margin products combined with decreased excess inventory charges. Net income for the second quarter of 2011 was $10.7 million, or $0.17 per basic and diluted share, as compared to net income of $9.1 million, or $0.15 per basic share and $0.14 per diluted share, for the first quarter of 2011, and net income of $12.4 million, or $0.20 per basic and diluted share, for the second quarter of 2010. During the second quarter of 2011, cash flows from operations were $12.4 million. During the second quarter of 2011, cash and short-term investments increased by $10.7 million to $132.3 million. In addition to maintaining its quarterly $0.035 per share cash dividend, during the second quarter of 2011 the Company repurchased $1.4 million of its common stock.


 
32

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 
 
During the third quarter of 2011, revenues decreased 6.2% to $64.2 million from $68.5 million in the second quarter of 2011. This decrease resulted primarily from lower customer demand in most of the Company’s geographies and end markets due to overall weakness in the global economy. The third quarter 2011 book-to-bill ratio was below one. Third quarter 2011 gross margin decreased to 55.5% as compared to 58.3 % in the second quarter of 2011 primarily due to a larger proportion of lower margin consumer products combined with lower factory capacity utilization. Net income for the third quarter of 2011 was $9.2 million, or $0.15 per basic and diluted share, as compared to net income of $10.7 million, or $0.17 per basic and diluted share, for the second quarter of 2011, and net income of $14.9 million, or $0.24 per basic and diluted share, for the third quarter of 2010. During the third quarter of 2011, cash flows from operations were $19.1 million. During the third quarter of 2011, cash and short-term investments increased by $10.7 million to $143.0 million. In addition to increasing its quarterly cash dividend to $0.04 per share, during the third quarter of 2011 the Company repurchased $5.3 million of its common stock.

During the fourth quarter of 2011, revenues decreased 8.5% to $58.8 million from $64.2 million in the third quarter of 2011. This sequential decrease resulted primarily from lower customer demand across the Company’s geographies and end markets due to overall weakness in the global economy. The fourth quarter 2011 book-to-bill ratio was below one. Fourth quarter 2011 gross margin decreased to 50.5% as compared to 55.5 % in the third quarter of 2011 primarily due to a larger proportion of lower margin consumer products combined with lower factory capacity utilization. Net income for the fourth quarter of 2011 was $5.0 million, or $0.08 per basic and diluted share, as compared to net income of $9.2 million, or $0.15 per basic and diluted share, for the third quarter of 2011, and net income of $13.7 million, or $0.22 per basic and diluted share, for the fourth quarter of 2010. During the fourth quarter of 2011, cash flows from operations were $3.4 million. During the fourth quarter of 2011, cash and short-term investments decreased by $5.1 million to $138.0 million primarily due to repurchases of common stock. In addition to maintaining its quarterly $0.04 per share cash dividend, during the fourth quarter of 2011 the Company repurchased $7.8 million of its common stock.
 
For the year ended December 31, 2011, revenues decreased 12.9% to $259.0 from $297.4 million for the year ended December 31, 2010. This decrease was due to lower customer demand across most of the Company's geographies and end markets, which resulted from global macro-economic conditions.  Gross margin for 2011 decreased to 55.3% from 56.8% for 2010. This decrease was primarily due to a shift in mix to lower margin consumer-oriented products and lower factory utilization. Operating margin for 2011 was 18.1% which decreased from the record level of 25.2% in 2010.  Net income was $34.0 million, or $0.55 per diluted share, compared with $50.7 million, or $0.81 per diluted share, in 2010. At December 31, 2011, cash, cash equivalents and short term investments were $137.9 million, an increase of $28.6 million from $109.2 million in 2010. The Company generated $50.1 million in cash flows from operations in 2011. In addition, in 2011 the Company repurchased $20.3 million of its common stock, and paid $9.4 million in dividends to shareholders.


 
33

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 
 
The Company derives a substantial portion of its net revenues from standard products. For 2011, 2010, and 2009, the Company's standard products sales accounted for 96%, 97%, and 97%, respectively, of the Company's net revenues. The Company believes that a substantial portion of its net revenues in the future will depend upon standard products sales, although such sales as a proportion of net revenues may vary as the Company adjusts product output levels to correspond with varying economic conditions and demand levels in the markets that it serves. The standard products business is characterized by short-term orders and shipment schedules, and customer orders typically can be canceled or rescheduled without significant penalty to the customer. Since most standard products backlog is cancelable without significant penalty, the Company typically plans its production and inventory levels based on forecasts of customer demand, which are highly unpredictable and can fluctuate substantially. In addition, the Company is limited in its ability to reduce costs quickly in response to any revenue shortfalls.

The Company may experience significant fluctuations in its results of operations. Factors that affect the Company’s results of operations include the volume and timing of orders received, changes in the mix of products sold, the utilization level of manufacturing capacity, competitive pricing pressures and the successful development and customer acceptance of new products. These and other factors are described in further detail later in this discussion and in Part I Item 1A of this Report. As a result of the foregoing or other factors, including global economic conditions, there can be no assurance that the Company will not experience material fluctuations in future operating results on a quarterly or annual basis, which could materially and adversely affect the Company’s business, financial condition and results of operations or cash flows.

Critical Accounting Policies and Estimates

The financial statements included in this Form 10-K and discussed within this Management's Discussion and Analysis of Financial Condition and Results of Operations have been prepared in accordance with accounting principles generally accepted in the United States of America. Preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an on-going basis, management evaluates its estimates and judgments. Management bases its estimates and judgments on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. For a detailed discussion of the Company's significant accounting policies, see Note 1 of Notes to Consolidated Financial Statements. The Company considers certain accounting policies related to revenue recognition, inventory valuation, share-based accounting, income taxes, and litigation to be critical to the fair presentation of its financial statements.

Revenue Recognition and Receivables. The Company generates revenue by selling products to OEMs, distributors and stocking representatives. Stocking representative firms may buy and stock the Company’s products for resale or may act as the Company’s sales representative in arranging for direct sales from the Company to an OEM customer. The Company’s policy is to recognize revenue from sales to customers when the rights and risks of ownership have passed to the customer, when persuasive evidence of an arrangement exists, the product has been delivered, the price is fixed or determinable and collection of the resulting receivable is reasonably assured.

 
34

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 
 
The Company allows certain distributors located in North America and Europe, and in certain countries in Asia, significant return rights, price protection and pricing adjustments subsequent to the initial product shipment. As these returns and price concessions have historically been significant, and future returns and price concessions are difficult to reliably estimate, the Company defers recognition of revenue and related cost of sales (in the balance sheet line item "deferred income on shipments to distributors") derived from sales to these distributors until they have resold the Company’s products to their customers. Although revenue and related cost of sales are not recognized, the Company records an accounts receivable and relieves inventory at the time of initial product shipment. As standard terms are FOB shipping point, payment terms are enforced from shipment date and legal title and risk of inventory loss passes to the distributor upon shipment.

In addition, where revenue is deferred upon shipment and recognized on a sell-through basis, the Company may offer price adjustments to its distributors to allow the distributor to price the Company’s products competitively for specific resale opportunities. The Company estimates and records an allowance for distributor price adjustments for which the specific resale transaction has been completed, but the price adjustment claim has not yet been received and recorded by the Company.

Sales to OEM customers and stocking representatives are recognized based upon the shipment terms of the sale transaction when all other revenue recognition criteria have been met. The Company does not grant return rights, price protection or pricing adjustments to OEM customers. The Company offers limited contractual stock rotation rights to stocking representatives. In addition, the Company is not contractually obligated to offer, but may infrequently grant, price adjustments or price protection to certain stocking representatives on an exception basis. At the time of shipment to OEMs and stocking representatives, an allowance for returns is established based upon historical return rates, and an allowance for price adjustments is established based on an estimate of price adjustments to be granted. Actual future returns and price adjustments could be different than the allowance established.

The Company also maintains an allowance for doubtful accounts for estimated uncollectible accounts receivable. This estimate is based on an analysis of specific customer creditworthiness and historical bad debts experience. Actual future uncollectible amounts could exceed the doubtful accounts allowance established.

Inventory Valuation. Inventories are stated at the lower of cost (first-in, first-out method) or market. The Company records adjustments to write down the cost of obsolete and excess inventory to the estimated market value based on historical and forecasted demand for its products. If actual future demand for the Company’s products is less than currently forecasted, additional inventory adjustments may be required. Once an inventory write-down provision is established, it is maintained until the product to which it relates is sold or otherwise disposed of.

Share-Based Compensation. Share-based compensation is measured at the grant date based on the fair value of the award and is recognized as expense in the statement of operations. To determine fair value, the Company uses the Black-Scholes valuation model which requires input factors such as expected term, stock price volatility, dividend yield and risk free interest rate. In addition, the Company estimates expected forfeiture rates of stock grants and share-based compensation expense is only recognized for those shares expected to vest. Determining the input factors, such as expected term, expected volatility and estimated forfeiture rates, requires significant judgment based on subjective future expectations.

 
35

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 

Income Taxes. Deferred tax assets and liabilities result primarily from temporary timing differences between book and tax valuation of assets and liabilities, and state research and development credit carryforwards. The Company must regularly assess the likelihood that future taxable income levels will be sufficient to ultimately realize the tax benefits of these deferred tax assets. As of December 31, 2011, the Company believed that future taxable income levels would be sufficient to realize the tax benefits of these deferred tax assets and had not established a valuation allowance. Should the Company determine that future realization of these tax benefits is not more likely than not, a valuation allowance would be established, which would increase the Company’s tax provision in the period of such determination.

The Company uses a two-step approach to recognize and measure uncertain tax positions. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount which is more than 50% likely of being realized upon ultimate settlement. The Company considers many factors when evaluating and estimating its tax positions and tax benefits, which may require periodic adjustments and which may not accurately anticipate actual outcomes.

Litigation. The semiconductor industry is characterized by frequent litigation regarding patent and other intellectual property rights. During recent years, the Company has resolved litigation involving intellectual property claims. An estimated liability is accrued when it is determined to be probable that a liability has been incurred and the amount of loss can be reasonably estimated. The liability accrual is charged to income in the period such determination is made. The Company regularly evaluates current information available to determine whether such accruals should be made.

Results of Operations

The following table sets forth certain operating data as a percentage of total net revenues for the periods indicated.
 
   
Years Ended December 31,
 
   
2011
   
2010
   
2009
 
Net revenues
    100.0 %     100.0 %     100.0 %
Cost of revenues
    44.7       43.2       48.0  
Gross profit
    55.3       56.8       52.0  
Operating expenses:
                       
Research and development
    19.3       15.6       21.3  
Selling, general and administrative
    17.9       16.0       17.1  
Equipment impairment and restructuring charges
                3.0  
Proxy contest credits
                   (0.3 )
Total operating expenses
    37.2       31.6       41.1  
Income from operations
    18.1       25.2       10.9  
Other income, net
    0.3       0.2       0.3  
Income before income taxes
    18.4       25.4       11.2  
Provision for income taxes
    5.3       8.3       3.8  
Net income
    13.1 %     17.1 %     7.4 %


 
36

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 
 
Net Revenues. Net revenues decreased 13% to $259.0 million for the year ended December 31, 2011 compared to $297.4 million in 2010. Standard product revenues, which represented 96% of net revenues, decreased 14% to $249.7 million for the year ended December 31, 2011, compared to $289.3 million for 2010. These decreases were due to lower customer demand across the Company’s geographies and end markets, which resulted primarily from global macro-economic conditions. Other products revenues, which consist of custom and foundry product revenues, increased 16% to $9.3 million of net revenues for the year ended December 31, 2011, compared to $8.0 million for 2010. The increase was due primarily to an increase in foundry services.

For the year ended December 31, 2010, net revenues increased 36% to $297.4 million compared to $218.9 million in 2009. Standard product revenues, which represented 97% of net revenues, increased 36% to $289.3 million for the year ended December 31, 2010, compared to $212.6 million for 2009. Other products revenues, which consist primarily of custom and foundry product revenues, increased 28% to $8.0 million of net revenues for the year ended December 31, 2010, compared to $6.3 million for 2009. These increases were due to greater overall demand from customers in all of the Company's geographies and end markets, which resulted from improved macro-economic conditions, an expanded sales force, solid operational execution and increased shipments of new products.

Customer demand for semiconductors can change quickly and unexpectedly. Historically, the Company’s revenue levels have been highly dependent on the amount of new orders for products to be delivered to the customer within the same quarter. Within the semiconductor industry, orders that are booked and shipped within the same quarter are called "turns fill" orders. When the turns fill level exceeds approximately 35% of quarterly revenues, it can be very difficult to predict near term revenues and income. The resulting lack of visibility into demand also makes it difficult to match product build with future demand as the Company's lead times to build its products may be substantially longer than order lead times.

As noted in Item 1A "Risk Factors" and above in the overview section of this "Management's Discussion and Analysis of Financial Condition and Results of Operations," a trend has developed over the last several years whereby customers in the semiconductor supply chain have worked to minimize the amount of inventory of semiconductors they hold. As a consequence, customers are generally providing less order backlog to the Company and other semiconductor suppliers, and relying on short lead times to buffer their build schedules. Shorter lead times reduce visibility into end demand and increase the reliance on turns fill orders. The reluctance of customers to provide order backlog together with short lead times and the uncertain growth rate of the world economy, make it difficult to precisely predict future levels of sales and profitability.

International sales represented 72%, 73% and 74% of net revenues for the years ended December 31, 2011, 2010 and 2009, respectively. Sales to customers in Asia represented 58% of net revenues for the year ended December 31, 2011 as compared to 60% of the Company’s net revenues for the year ended December 31, 2010 and 61% of the Company’s net revenues for the year ended December 31, 2009. The trend for the Company’s customers to move their electronics manufacturing to Asian countries has resulted in increased pricing pressure for the Company and other semiconductor manufacturers. Asian based manufacturers are typically more concerned about cost and less concerned about the capability of the integrated circuits they purchase. This can make it more difficult for United States based companies to differentiate themselves in any manner other than by lowering prices. The increased concentration of electronics procurement and manufacturing in the Asia Pacific region has led, and may continue to lead, to continued price pressure for the Company’s products in the future.

 
 
37

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 

Gross Profit. Gross profit is affected by a variety of factors including the volume of product sales, product mix, manufacturing capacity utilization, product yields and average selling prices. The Company's gross margin decreased to 55% for the year ended December 31, 2011 from 57% for 2010. This decrease was primarily due to a shift in mix to lower margin consumer-oriented products and lower factory utilization.

For the year ended December 31, 2010, the Company's gross margin increased to 57% from 52% for 2009. This increase in gross margin resulted primarily from improved factory utilization and, to a lesser extent, a reduced sales mix of lower margin products shipped to the wireless handset market as compared to 2009.

Research and Development Expenses.  Research and development expenses as a percentage of net revenues represented 19% for the year ended December 31, 2011 compared to 16% for 2010. On a dollar basis, research and development expenses increased $3.7 million or 8% to $50.0 million for the year ended 2011 compared to $46.3 million for 2010. The increase was primarily due to an increase in employee compensation costs. The Company believes that the development and introduction of new products is critical to its future success and expects to continue its investment in research and development activities in the future.

For the year ended December 31, 2010, research and development expenses were relatively flat at $46.3 million compared to $46.5 million in 2009.

Selling, General and Administrative Expenses. As a percentage of net revenues, selling, general and administrative expenses represented 18% for the year ended December 31, 2011 as compared to 16% for 2010. On an absolute dollar basis, selling, general and administrative expenses decreased $1.2 million or 2% to $46.4 million for the year ended December 31, 2011 from $47.6 million for 2010. This decrease was primarily due to decreased staffing levels, decreased sales commissions and decreased bonus compensation accruals.

For the year ended December 31, 2010, selling, general and administrative expenses increased $10.3 million or 28% to $47.6 million from $37.3 million for 2009. This increase was primarily due to increase in sales headcount, increased commission expenses, and increased profit sharing accruals.

Proxy Contest Credits. During the first quarter of 2008, the Company became engaged in a proxy contest with a small activist hedge fund, Obrem Capital Management LLC ("OCM").  This issue resulted in Micrel incurring incremental expenses of $4.2 million during 2008. These expenses consisted primarily of outside consulting and legal fees.  Subsequent to a special meeting of shareholders on May 20, 2008, at which the Company’s shareholders rejected all proposals set forth by OCM, OCM agreed to withdraw its slate of nominees for the board of directors, and support Micrel’s board nominees at the upcoming annual meeting of shareholders. Micrel’s slate of directors was subsequently elected by shareholders at the Company’s annual meeting on October 1, 2008.  During the fourth quarter of 2009, the Company negotiated a reduction in outside service fees related to the proxy contest and recorded a $550,000 credit.

 
38

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 
 
  Equipment impairment and restructuring charges. During the fourth quarter of 2009, the Company recorded a $6.5 million charge for the impairment of certain excess semiconductor manufacturing equipment that was removed from service and held for sale as of December 31, 2009. The $7.4 million net book value of the equipment held for sale was reduced to its estimated sales value of $910,000. Due to increased manufacturing output requirements that resulted from increased product demand in 2010, this equipment was placed back in service at $910,000 as of December 31, 2010.

Share-Based Compensation. Share-based compensation costs for stock option grants are based on the fair value calculated from a stock option pricing model on the date of grant. The Company's results of operations for the years ended December 31, 2011, 2010 and 2009 were impacted by the recognition of non-cash expense related to the fair value of share-based compensation awards. During 2011, the Company recorded $5.9 million in pre-tax share-based compensation expense, of which $1.0 million is included in cost of revenues, $2.4 million is included in research and development expense and $2.4 million is included in sales, general and administrative expense.  During 2010, the Company recorded $4.7 million in pre-tax share-based compensation expense, of which $0.8 million is included in cost of revenues, $1.8 million is included in research and development expense and $2.1 million is included in sales, general and administrative expense.

Other Income, Net. Other income, net reflects interest income from investments in short-term and long-term investment securities and money market funds and other non-operating income, offset by interest expense incurred on term notes.

Provision for Income Taxes. For the year ended December 31, 2011, the provision for income taxes was $13.6 million, or 29% of income before taxes, as compared to $24.8 million, or 33% of income before taxes for 2010 and 34% of income before taxes for 2009. The provision for income taxes differs from taxes computed at the federal statutory rate primarily due to the effects of non-deductible share-based compensation expense, state income taxes, federal and state research and development credits and federal qualified production activity deductions.


Liquidity and Capital Resources

Since inception, the Company's principal sources of funding have been its cash from operations, bank borrowings and sales of common stock. Principal sources of liquidity at December 31, 2011, consisted of cash and cash equivalents and short-term investments of $137.9 million and a $5 million revolving line of credit from a commercial bank.

The Company generated $50.1 million in cash flows from operating activities for the year ended December 31, 2011. Cash flows from operating activities were primarily attributable to net income of $34.0 million plus non-cash activities of $19.6 million (consisting primarily of $11.2 million in depreciation and amortization, $5.4 million in share-based compensation and $3.1 million in deferred income taxes) combined with an $8.7 million decrease in accounts receivable, a $0.9 million increase in income tax payable, a $0.9 million increase in other accrued liabilities and a $0.5 decrease in inventories, which were offset in part by an $8.0 million decrease in deferred income, a $3.5 decrease in accrued compensation, a $2.6 million decrease in accounts payable and a $0.3 million decrease in income tax receivable.

 
39

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 

For the year ended December 31, 2010, the Company generated $73.1 million in cash flows from operating activities for the year ended December 31, 2010. Cash flows from operating activities were primarily attributable to net income of $50.7 million plus non-cash activities of $10.6 million (consisting primarily of $13.1 million in depreciation and amortization and $4.7 million in share-based compensation, offset in part by $7.5 million in deferred income taxes) combined with a $15.2 million increase in deferred income, a $5.6 million increase in accrued compensation and a $4.4 million increase in accounts payable, which were offset in part by a $7.8 million increase in accounts receivable, a $2.5 million increase in inventories, a $2.5 million increase in income taxes receivable and a $2.3 million increase in prepaid and other assets.

The Company used $44.2 million of cash for investing activities during the year ended December 31, 2011, which was primarily comprised of $77.6 million for the purchase of short-term investments and $7.3 million for purchases of property, plant and equipment, which were offset in part by $34.4 million in proceeds from the sale of short-term investments and $6.2 million in proceeds from the sale of long-term investments.

The Company used $42.8 million of cash for investing activities during the year ended December 31, 2010, which was primarily comprised of $34.6 million for the purchase of short-term investments and $10.0 million for purchases of property, plant and equipment, which were offset in part by $1.5 million in proceeds from the sale of long-term investments.

The Company used $20.0 million of cash for financing activities during the year ended December 31, 2011, primarily for the repurchase of $20.3 million of the Company's common stock, $9.4 million for the payment of cash dividends and $2.9 million in repayments of long-term debt, which were partially offset by $12.0 million in proceeds from employee stock transactions.

The Company used $26.4 million of cash for financing activities during the year ended December 31, 2010, primarily for the repurchase of $16.1 million of the Company's common stock, $8.6 million for the payment of cash dividends and $8.6 million in repayments of long-term debt, which were partially offset by $6.8 million in proceeds from employee stock transactions.

The Company currently intends to spend approximately $4 million to $8 million to purchase capital equipment and make facility improvements during the next 12 months primarily for manufacturing equipment and additional research and development related software and equipment.

On January 26, 2012, the Company's Board of Directors declared a $0.04 per common share cash dividend, payable February 22, 2012 to shareholders of record on February 8, 2012.

Under the Company’s stock repurchase program, as of December 31, 2011, the Company was authorized to repurchase an additional $23.7 million of its common stock.

The Company believes that its cash from operations, existing cash balances and short-term investments, and its credit facility will be sufficient to meet its cash requirements for at least the next 12 months. In the longer term, the Company believes future cash requirements will continue to be met by its cash from operations, credit arrangements and future debt or equity financings as required.
 
 
 
40

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 

At December 31, 2011, the Company held $7.8 million in principal of senior auction rate notes secured by student loans. Auctions for these auction rate notes have failed as of December 31, 2011.  The fair value of these notes, $6.9 million, has been classified as long-term investments as of December 31, 2011. The funds associated with failed auctions will not be accessible until a successful auction occurs, a buyer is found outside of the auction process, the issuers redeem the securities or the underlying securities have matured. For additional information regarding the Company's investments, see Note 1 of Notes to Consolidated Financial Statements.

At December 31, 2011, the Company had cash and cash equivalents of $137.9 million.  Some of these available cash and cash equivalents are held in accounts managed by third party financial institutions and consist of invested cash and cash in the Company’s operating accounts.  The invested cash is invested in interest bearing funds managed by third party financial institutions. To date, the Company has experienced no loss or lack of access to its invested cash or cash equivalents; however, the Company can provide no assurances that access to its invested cash and cash equivalents will not be impacted by adverse conditions in the financial markets.


Recently Issued Accounting Standards

Please refer to Note 2 of Notes to Consolidated Financial Statements for a discussion of the expected impact of recently issued accounting standards.


Contractual Obligations and Commitments

As of December 31, 2011, the Company had the following contractual obligations and commitments (in thousands):
 
   
Payments Due By Period
 
   
Total
   
Less than
1 Year
   
1-3
Years
   
4-5
Years
   
After 5
Years
 
                               
Operating leases
  $ 2,016     $ 948     $ 947     $ 121     $  
Open purchase orders
    12,000       12,000                    
                                         
Total
  $ 14,016     $ 12,948     $ 947     $ 121     $  
                                         
 
Open purchase orders are defined as agreements to purchase goods or services that are enforceable and legally binding and that specify all significant terms, including: fixed or minimum quantities to be purchased; fixed, minimum or variable pricing provisions; and the approximate timing of the transactions.

Borrowing agreements consisted of a $5 million line of credit for general working capital needs, which includes a $5 million letter of credit sub-facility including a $2 million foreign exchange sub-facility, and a $15 million term loan facility to finance the repurchase of shares of the Company’s common stock. As of December 31, 2011, the Company had no borrowings under the line of credit facility.

As of December 31, 2011, the Company had $8.4 million of unrecognized tax benefits consisting of $6.5 million included in long-term income taxes payable and $1.9 million included in current income taxes payable. The Company does not anticipate a significant change to the $6.5 million long-term uncertain income tax positions within the next 12 months.
 
 
 
41

     
 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 
 
Off-Balance Sheet Arrangements

The Company has no off-balance sheet arrangements and has not entered into any transactions involving unconsolidated, limited purpose entities or commodity contracts.

 

At December 31, 2011, the Company held $7.8 million in principal of senior auction rate notes secured by student loans. Auctions for these auction rate notes have failed as of December 31, 2011. The funds associated with failed auctions will not be accessible until a successful auction occurs, a buyer is found outside of the auction process, the issuers redeem the securities or the underlying securities have matured. As a result, the Company may have limited or no ability to liquidate its investment and fully recover the carrying value of its investment in the near term. As of December 31, 2011, the Company has recorded a $0.6 million net of tax ($0.9 million pre-tax) temporary impairment of these securities to other comprehensive income, a component of shareholders’ equity. If it is determined that the fair value of these securities is other than temporarily impaired, the Company would record a loss, which could be material, in its statement of operations in the period such other than temporary decline in fair value is determined. The Company currently has the ability and intent to hold these investments until a recovery of the auction process occurs or the issuers redeem the securities.

At December 31, 2011, the Company had no fixed-rate long-term debt subject to interest rate risk.

The Company previously held an interest rate swap contract, a derivative financial instrument, to partially offset its exposure to the effects of changes in interest rates on its variable-rate financing obligations.  The notional amount of the outstanding interest rate swap contract at December 31, 2010 was $1.4 million. The interest rate swap contract matured in April 2011 and was not renewed. At December 31, 2011, there was no interest rate swap contract outstanding.



The Company’s financial statements are set forth on pages 49 through 75 and supplementary data are set forth on pages 76 through 77, which follow Item 15.



Not applicable.





Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures

The Company maintains disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Exchange Act.  In designing and evaluating the disclosure controls and procedures, management recognizes that any disclosure controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

Under the supervision and with the participation of the Company's management, including its principal executive officer and principal financial officer, the Company conducted an evaluation of the effectiveness of its disclosure controls and procedures as of the end of the period covered by this Report. Based on this evaluation, the Company's principal executive officer and principal financial officer have concluded that the Company's disclosure controls and procedures were effective at the reasonable assurance level as of December 31, 2011.


Management’s Report on Internal Control Over Financial Reporting

The Company's management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f).  The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepting accounting principles.  Internal control over financial reporting cannot provide absolute assurance of achieving financial reporting objectives because of its inherent limitations. Internal control over financial reporting is a process that involves human diligence and compliance and is subject to lapses in judgment and breakdowns resulting from human failures. Internal control over financial reporting also can be circumvented by collusion or improper management override. In addition, any projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate due to changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Because of such limitations, there is a risk that material misstatements may not be prevented or detected on a timely basis by internal control over financial reporting. However, these inherent limitations are known features of the financial reporting process. Therefore, it is possible to design into the process safeguards to reduce, though not eliminate, this risk.  Under the supervision and with the participation of the Company's management, including its principal executive officer and principal financial officer, the Company conducted an evaluation of the effectiveness of its internal control over financial reporting based on the criteria set forth in the report entitled "Internal Control - Integrated Framework" issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on its evaluation under the criteria set forth in "Internal Control - Integrated Framework," management has concluded that the Company's internal control over financial reporting was effective as of December 31, 2011.

The effectiveness of the Company’s internal control over financial reporting as of December 31, 2011 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in their report which appears in Part IV, Item 15 "Exhibits and Financial Statement Schedules" of this Report.

 
Changes in Internal Control Over Financial Reporting

There has been no change in the Company’s internal controls over financial reporting that occurred during the quarter ended December 31, 2011 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.



None.
 

 
 
 
 


PART III


The information concerning the directors and officers of the Company is included in the Company’s Proxy Statement to be filed in connection with the Company’s 2012 Annual Meeting of Shareholders under the captions "Election of Directors" and "Certain Information with Respect to Executive Officers," respectively, and is incorporated herein by reference.  There have been no material changes to the procedures by which security holders may recommend nominees to the Company’s Board of Directors.

The Company has an Audit Committee composed of independent directors. The information required by this item with respect to the Audit Committee and "audit committee financial experts" is incorporated by reference from the Company’s Proxy Statement to be filed in connection with the Company’s 2012 Annual Meeting of Shareholders under the captions, "Committees and Meetings of the Board of Directors" and "Board Committees."

The information concerning compliance with Section 16(a) of the Exchange Act is included in the Company’s Proxy Statement to be filed in connection with the Company’s 2012 Annual Meeting of Shareholders under the caption "Section 16(A) Beneficial Ownership Reporting Compliance," and is incorporated herein by reference.

The Company has adopted a code of ethics that applies to the principal executive officer, principal financial officer, principal accounting officer or controller, or persons performing similar functions. The Company's code of ethics was filed as Exhibit 14 to the Company's Annual Report on Form 10-K for the year ended December 31, 2003 and is incorporated herein by reference.  The Company’s code of ethics can also be viewed at www.micrel.com.  In the event that the Company amends or waives any of the provisions of the code of ethics that applies to the Company’s principal executive officer, principal financial officer, principal accounting officer or controller, or persons performing similar functions, the Company intends to disclose the subsequent information on its website.

Information regarding the Company’s code of conduct, also known as the "Worldwide Standards of Business Conduct," is set forth in the Company’s Proxy Statement to be filed in connection with the Company’s 2012 Annual Meeting of Shareholders under the caption "Certain Relationships and Related Transactions" and is incorporated herein by reference.



The information required by this item concerning executive compensation is included under the caption "Compensation Discussion and Analysis" and "Executive Compensation" in the Company’s Proxy Statement to be filed in connection with the Company’s 2012 Annual Meeting of Shareholders and is incorporated herein by reference.

The information required by this item concerning compensation committee interlocks and insider participation is included under the captions "Compensation Committee Interlocks and Insider Participation" in the Company’s Proxy Statement to be filed in connection with the Company’s 2012 Annual Meeting of Shareholders and is incorporated herein by reference.


 
The information required by this item concerning the Compensation Committee Report is included in the Company’s Proxy Statement to be filed in connection with the Company’s 2012 Annual Meeting of Shareholders and is incorporated herein by reference.  Such information shall be deemed "furnished" and not "filed" for purposes of Section 18 of the Exchange Act, and shall not be deemed incorporated by reference into any filing of the Company as a result of furnishing the disclosure in this manner except to the extent incorporated by reference into such filing.


The information required by this item is included under the caption "Security Ownership of Certain Beneficial Owners and Management" and "Equity Compensation Plan Information" in the Company’s Proxy Statement to be filed in connection with the Company’s 2012 Annual Meeting of Shareholders and is incorporated herein by reference.



The information required by this item is included under the captions "Certain Relationship and Related Transactions," "Director Independence" and "Board Committees" in the Company’s Proxy Statement to be filed in connection with the Company’s 2012 Annual Meeting of Shareholders and is incorporated herein by reference.



The information required by this item is included under the caption "Independent Registered Public Accounting Firm" in the Company’s Proxy Statement to be filed in connection with the Company’s 2012 Annual Meeting of Shareholders and is incorporated herein by reference.
 
 
 
 
PART IV



The following documents are filed as part of this Report:


      2.
Financial Statement Schedule. The following financial statement schedule of the Company for the years ended December 31, 2011, 2010 and 2009, is filed as part of this report on Form 10-K and should be read in conjunction with the financial statements.
     
 
Valuation and Qualifying Accounts
77
       
 
Schedules not listed above have been omitted because they are not applicable, not required, or the information required to be set forth therein is included in the Consolidated Financial Statements or notes thereto.
 
      3.
Exhibits. Those exhibits required by Item 601 of Regulation S-K to be filed, furnished or incorporated by reference as a part of this Report are listed on the Exhibit Index immediately preceding the exhibits filed and furnished herewith.
 
79




To the Board of Directors and Shareholders' of Micrel Incorporated:

In our opinion, the consolidated financial statements listed in the index appearing under Item 15(a) (1) present fairly, in all material respects, the financial position of Micrel Incorporated and its subsidiaries at December 31, 2011 and 2010, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2011 in conformity with accounting principles generally accepted in the United States of America.  In addition, in our opinion, the financial statement schedule listed in the index appearing under item 15(a)(2) presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2011, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).  The Company's management is responsible for these financial statements and financial statement schedule, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in Management’s Report on Internal Control Over Financial Reporting appearing under Item 9A.  Our responsibility is to express opinions on these financial statements, on the financial statement schedule, and on the Company's internal control over financial reporting based on our integrated audits.  We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects.  Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation.  Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk.  Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.  A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.  Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

/s/ PricewaterhouseCoopers LLP
San Jose, California
March 2, 2012
 
 
 
 
   
CONSOLIDATED BALANCE SHEETS
 
AS OF DECEMBER 31,
 
(In thousands, except share amounts)
 
   
   
  2011
   
2010
 
ASSETS
           
CURRENT ASSETS:
           
Cash and cash equivalents
  $ 60,610     $ 74,738  
Short-term investments
    77,265       34,497  
Accounts receivable, less allowances: 2011, $1,294; 2010,$3,925
    25,385       34,131  
Inventories
    36,286       36,709  
Income taxes receivable
    6,881       6,547  
Prepaid expenses and other
    2,883       2,718  
Deferred income taxes
    22,854       25,022  
                 
Total current assets
    232,164       214,362  
                 
LONG-TERM INVESTMENTS
    6,857       12,166  
PROPERTY, PLANT AND EQUIPMENT, NET
    60,884       64,517  
INTANGIBLE ASSETS, NET
          255  
DEFERRED INCOME TAXES, NET
    8,657       9,740  
OTHER ASSETS
    1,413       1,413  
TOTAL
  $ 309,975     $ 302,453  
                 
LIABILITIES AND SHAREHOLDERS’ EQUITY
               
CURRENT LIABILITIES:
               
Accounts payable
  $ 17,096     $ 19,672  
Accrued compensation
    4,997       8,451  
Accrued commissions
    1,964       2,067  
Other accrued liabilities
    2,368       1,455  
Deferred income on shipments to distributors
    30,671       38,646  
Current portion of long-term debt
          2,857  
Total current liabilities
    57,096       73,148  
                 
LONG-TERM INCOME TAXES PAYABLE
    6,450       5,664  
Total liabilities
    63,546       78,812  
                 
COMMITMENTS AND CONTINGENCIES (Notes 9 and 11)
               
                 
SHAREHOLDERS’ EQUITY:
               
Preferred stock, no par value – authorized: 5,000,000 shares;
issued and outstanding: none
           
Common stock, no par value – authorized: 250,000,000 shares;
Issued and outstanding: 2011 – 61,038,507; 2010 – 61,604,160
    206       2,401  
Accumulated other comprehensive loss
    (887 )     (1,212 )
Retained earnings
    247,110       222,452  
Total shareholders’ equity
    246,429       223,641  
TOTAL
  $ 309,975     $ 302,453  
                 
                 
The accompanying notes are an integral part of these consolidated financial statements.
 
 

 
 
   
CONSOLIDATED STATEMENTS OF OPERATIONS
 
YEARS ENDED DECEMBER 31,
 
(In thousands, except per share amounts)
 
   
   
2011
   
2010
   
2009
 
                   
NET REVENUES
  $ 259,025     $ 297,366     $ 218,887  
                         
COST OF REVENUES(1)
    115,881       128,535       105,134  
                         
GROSS PROFIT
    143,144       168,831       113,753  
                         
OPERATING EXPENSES:
                       
Research and development(1)
    49,952       46,271       46,522  
Selling, general and administrative(1)
    46,415       47,590       37,325  
Proxy contest credits
                (550 )
Equipment impairment and restructuring charges
                6,514  
Total operating expenses
    96,367       93,861       89,811  
                         
INCOME FROM OPERATIONS
    46,777       74,970       23,942  
                         
OTHER INCOME:
                       
Interest income
    703       566       828  
Interest expense
    (19 )     (223 )     (272 )
Other income
    141       149       132  
Total other income, net
    825       492       688  
                         
INCOME BEFORE INCOME TAXES
    47,602       75,462       24,630  
                         
PROVISION FOR INCOME TAXES
    13,586       24,754       8,336  
                         
NET INCOME
  $ 34,016     $ 50,708     $ 16,294  
                         
NET INCOME PER SHARE:
                       
Basic
  $ 0.55     $ 0.82     $ 0.26  
Diluted
  $ 0.55     $ 0.81     $ 0.26  
                         
WEIGHTED-AVERAGE SHARES USED IN COMPUTING PER SHARE AMOUNTS:
                       
Basic
    61,609       62,030       63,576  
Diluted
    62,371       62,557       63,644  
                         
Cash dividends per common share
  $ 0.15     $ 0.14     $ 0.14  
                         
(1) Share-based compensation included in:
                       
Cost of revenues
  $ 1,009     $ 798     $ 670  
Research and development
    2,401       1,808       1,619  
Selling, general and administrative
    2,444       2,119       1,675  
                         
The accompanying notes are an integral part of these consolidated financial statements.
 

 
 
 
   
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
AND COMPREHENSIVE INCOME
 
YEARS ENDED DECEMBER 31, 2011, 2010 AND 2009
 
(In thousands, except share amounts)
 
   
         
Accumulated
                   
         
Other
         
Total
       
   
Common Stock
   
Comprehensive
   
Retained
   
Shareholders'
   
Comprehensive
 
   
Shares
   
Amount
   
Income (Loss)
   
Earnings
   
Equity
   
Income
 
Balances, December 31, 2008
    67,308,899     $     $ (2,244 )   $ 210,650     $ 208,406        
                                               
Net income
                      16,294       16,294     $ 16,294  
Other comprehensive income, change in net unrealized losses from investments, net of tax
                    485               485        485  
Comprehensive income
                                          $ 16,779  
Share-based compensation
          4,007                   4,007          
Payment of cash dividends
                      (8,888 )     (8,888 )        
Repurchases of common stock
    (5,020,920 )     (292 )           (32,156 )     (32,448 )        
Employee stock transactions
    60,289       394                   394          
Tax effect of employee stock transactions
          (2,899 )                 (2,899 )        
Balances, December 31, 2009
    62,348,268       1,210       (1,759 )     185,900       185,351          
                                                 
Net income
                      50,708       50,708     $ 50,708  
Other comprehensive income, change in net unrealized losses from investments, net of tax
                    547               547        547  
Comprehensive income
                                          $ 51,255  
Share-based compensation
          4,722                   4,722          
Payment of cash dividends
                      (8,646 )     (8,646 )        
Repurchases of common stock
    (1,594,089 )     (10,543 )           (5,510 )     (16,053 )        
Employee stock transactions
    849,981       6,861                   6,861          
Tax effect of employee stock transactions
          151                   151          
                                                 
Balances, December 31, 2010
    61,604,160       2,401       (1,212 )     222,452       223,641          
Net income
                      34,016       34,016     $ 34,016  
Other comprehensive income, change in net unrealized losses from investments, net of tax
                    325                325        325  
Comprehensive income
                                          $ 34,341  
Share-based compensation
          5,886                   5,886          
Payment of cash dividends
                      (9,358 )     (9,358 )        
Repurchases of common stock
    (1,853,962 )     (20,253 )                 (20,253 )        
Employee stock transactions
    1,293,571       12,040                   12,040          
Tax effect of employee stock transactions
          195