UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(MARK ONE)

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

 

For the quarterly period ended July 29, 2017

or

 

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

 

For the transition period from              to

 

Commission file number 001-32207

 

Sigma Designs, Inc.

(Exact name of registrant as specified in its charter)

 

California	94-2848099
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

 

47467 Fremont Boulevard,

Fremont, California 94538

(Address of principal executive offices including Zip Code)

(510) 897-0200

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes ☑  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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes ☑No ☐

 

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

 

Large accelerated filer ☐	Accelerated filer ☑
Non-accelerated filer  ☐	Smaller reporting company ☐
	Emerging growth company ☐

 

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

 

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

 

As of August 31, 2017, the Company had 38,515,791 shares of Common Stock outstanding.

 

  

SIGMA DESIGNS, INC.

 

QUARTERLY REPORT ON FORM 10-Q

FOR THE THREE MONTHS ENDED JULY 29, 2017

 

TABLE OF CONTENTS

 

		Page No.
PART I.	FINANCIAL INFORMATION
Item 1.	Unaudited Condensed Consolidated Financial Statements
	Unaudited Condensed Consolidated Balance Sheets as of July 29, 2017 and January 28, 2017	3
	Unaudited Condensed Consolidated Statements of Operations for the three and six months ended July 29, 2017 and July 30, 2016	4
	Unaudited Condensed Consolidated Statements of Comprehensive Loss for the three and six months ended July 29, 2017 and July 30, 2016	4
	Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended July 29, 2017 and July 30, 2016	5
	Notes to Unaudited Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	17
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	27
Item 4.	Controls and Procedures	27
PART II.	OTHER INFORMATION
Item 1.	Legal Proceedings	28
Item 1A.	Risk Factors	28
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	28
Item 3.	Defaults Upon Senior Securities	28
Item 4.	Mine Safety Disclosures	28
Item 5.	Other Information	28
Item 6.	Exhibits	28
Signatures		29
Exhibit index		30

 

 

PART I.                      FINANCIAL INFORMATION

 

ITEM 1.                      UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

SIGMA DESIGNS, INC.

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share data) 

  

 

		July 29, 2017				January 28, 2017
ASSETS
Current assets
Cash and cash equivalents		$	65,912			$	66,425
Short-term marketable securities			1,284				4,781
Restricted cash			323				303
Accounts receivable, net of allowances of $1,658 as of July 29, 2017 and $1,630 as of January 28, 2017			24,949				35,860
Inventory			16,147				18,147
Prepaid expenses and other current assets			7,490				8,017
Total current assets			116,105				133,533
Software, equipment and leasehold improvements, net			20,145				18,523
Intangible assets, net			27,199				30,744
Goodwill			10,594				10,594
Deferred tax assets			710				625
Long-term investments			1,820				2,000
Other non-current assets			5,147				5,755
Total assets		$	181,720			$	201,774
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable		$	15,561			$	14,230
Accrued compensation and related benefits			8,177				8,127
Accrued liabilities			14,953				13,607
Total current liabilities			38,691				35,964
Income taxes payable			12,241				15,752
Long-term deferred tax liabilities			287				287
Other long-term liabilities			4,838				6,225
Total liabilities			56,057				58,228
Commitments and contingencies (Note 6)
Shareholders’ equity
Preferred stock; no par value, authorized 2,000,000 shares, none issued and outstanding			-				-
Common stock and additional paid-in capital; no par value; 100,000,000 shares authorized; 43,170,314 issued and 38,494,565 outstanding as of July 29, 2017 and 42,806,279 issued and 38,130,530 outstanding as of January 28, 2017			517,030				513,168
Treasury stock, at cost, 4,675,749 shares as of July 29, 2017 and January 28, 2017			(88,336	)			(88,336	)
Accumulated other comprehensive loss			(989	)			(2,178	)
Accumulated deficit			(302,042	)			(279,108	)
Total shareholders’ equity			125,663				143,546
Total liabilities and shareholders’ equity		$	181,720			$	201,774

 

See the accompanying Notes to Unaudited Condensed Consolidated Financial Statements

 

 

SIGMA DESIGNS, INC.

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

  

 

		Three Months Ended								Six Months Ended
		July 29, 2017				July 30, 2016				July 29, 2017				July 30, 2016
Net revenue		$	39,508			$	61,316			$	79,072			$	115,091
Cost of revenue			20,688				31,734				41,628				61,508
Gross profit			18,820				29,582				37,444				53,583
Operating expenses
Research and development			17,993				18,836				36,162				37,991
Sales and marketing			5,113				5,939				10,486				11,662
General and administrative			4,945				4,820				10,155				9,958
Restructuring charges			1,723				-				1,966				-
Impairment of IP			-				300				3,006				300
Total operating expenses			29,774				29,895				61,775				59,911
Loss from operations			(10,954	)			(313	)			(24,331	)			(6,328	)
Interest and other (expense) income, net			(758	)			415				(1,223	)			(336	)
(Loss) income before income taxes			(11,712	)			102				(25,554	)			(6,664	)
Provision for income taxes			965				1,824				1,982				3,156
Net loss		$	(12,677	)		$	(1,722	)		$	(27,536	)		$	(9,820	)
Net loss per common share:
Basic		$	(0.33	)		$	(0.05	)		$	(0.72	)		$	(0.27	)
Diluted		$	(0.33	)		$	(0.05	)		$	(0.72	)		$	(0.27	)
Shares used in computing net loss per share:
Basic			38,289				37,182				38,222				37,028
Diluted			38,289				37,182				38,222				37,028

 

 

SIGMA DESIGNS, INC.

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(In thousands)

 

 

		Three Months Ended								Six Months Ended
		July 29, 2017				July 30, 2016				July 29, 2017				July 30, 2016
Net loss		$	(12,677	)		$	(1,722	)		$	(27,536	)		$	(9,820	)
Other comprehensive income (loss):
Change in currency translation adjustments, net of tax			935				(365	)			1,180				215
Change in unrealized gains on marketable securities, net of tax			5				31				8				52
Other comprehensive income (loss)			940				(334	)			1,188				267
Comprehensive loss		$	(11,737	)		$	(2,056	)		$	(26,348	)		$	(9,553	)

 

See the accompanying Notes to Unaudited Condensed Consolidated Financial Statements

 

 

SIGMA DESIGNS, INC.

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

 

		Six Months Ended
		July 29, 2017				July 30, 2016
Cash flows from operating activities:
Net loss		$	(27,536	)		$	(9,820	)
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization			8,347				11,579
Stock-based compensation			2,764				3,643
Provision for excess and obsolete inventory			897				683
Provision for (recovery of) sales returns, discounts and doubtful accounts			28				(13	)
Deferred income taxes			(91	)			(238	)
Impairment of IP			3,006				300
Impairment of privately-held investment			-				886
Other non-cash activities			(391	)			(472	)
Changes in operating assets and liabilities:
Accounts receivable			10,884				(15,536	)
Inventory			1,103				4,573
Prepaid expenses, other current and non-current assets			1,633				3,778
Accounts payable			1,452				(3,766	)
Other long-term liabilities, accrued liabilities, compensation and related benefits			2,197				4,437
Income taxes payable			(5	)			2,699
Net cash provided by operating activities			4,288				2,733
Cash flows from investing activities:
Restricted cash			(20	)			82
Purchases of marketable securities			(645	)			-
Sales and maturities of marketable securities and long-term investment			4,330				3,577
Purchases of software, equipment and leasehold improvements			(6,489	)			(2,685	)
Purchases of IP			(3,170	)			(2,431	)
Reimbursement of costs related to purchased IP			-				2,212
Net cash (used in) provided by investing activities			(5,994	)			755
Cash flows from financing activities:
Net share settlement of equity awards issued to employees			(198	)			(375	)
Net proceeds from exercise of employee stock options and stock purchase rights			1,296				1,515
Net cash provided by financing activities			1,098				1,140
Effect of foreign exchange rate changes on cash and cash equivalents			95				(65	)
Net (decrease) increase in cash and cash equivalents			(513	)			4,563
Cash and cash equivalents, beginning of period			66,425				63,790
Cash and cash equivalents, end of period		$	65,912			$	68,353
Supplemental disclosure of cash flow information:
Cash paid for income taxes		$	2,180			$	654

 

See the accompanying Notes to Unaudited Condensed Consolidated Financial Statements

 

 

SIGMA DESIGNS, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

 

1.             Organization and summary of significant accounting policies

 

Organization and nature of operations:  Sigma Designs, Inc. (referred to collectively in these unaudited condensed consolidated financial statements as “Sigma,” “we,” “our,” “the Company” and “us”) is a provider of intelligent platforms for use in a variety of home entertainment and home control appliances. We sell our products into two primary target markets which are the Connected Smart TV Platforms and Internet of Things (“IoT”) Devices markets. Our integrated system-on-chip (“SoC”) solutions serve as the foundation for some of the world’s leading consumer products, including televisions, media connectivity, smart home, and mobile IoT products. A majority of our primary products are semiconductors that are targeted toward end-product manufacturers, Original Equipment Manufacturers (“OEMs”), and Original Design Manufacturers (“ODMs”), however, a certain amount of non-recurring engineering services, development kit sales, and licensing revenue are also derived from our target markets. Additionally, we derive a minor portion of our revenue from non-core licensing and other activities, which is reported under the License and other markets.

  

Basis of presentation:  The unaudited condensed consolidated financial statements include the accounts of Sigma Designs, Inc. and its wholly-owned subsidiaries.  All significant intercompany balances and transactions have been eliminated upon consolidation. We operate and report quarterly financial results that consist of 13 weeks and end on the last Saturday of the period. The second quarter of fiscal 2018 and fiscal 2017 ended on July 29, 2017 (91 days) and July 30, 2016 (91 days), respectively.

 

The unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”) for interim financial information and the rules and regulations of the Securities and Exchange Commission (“SEC”).  They do not include all disclosures required by US GAAP for complete financial statements. Therefore, these financial statements should be read in conjunction with our audited consolidated financial statements and notes thereto for the year ended January 28, 2017, included in our fiscal 2017 Annual Report on Form 10-K, as filed with the SEC on March 30, 2017, referred to as our fiscal 2017 Annual Report.

 

The condensed consolidated financial statements included herein are unaudited; however, they contain all normal recurring accruals and adjustments that, in our opinion, are necessary to present fairly our consolidated financial position at July 29, 2017 and January 28, 2017, the consolidated results of our operations for the three and six months ended July 29, 2017 and July 30, 2016, and the consolidated cash flows for the six months ended July 29, 2017 and July 30, 2016.  The results of operations for the three and six months ended July 29, 2017 are not necessarily indicative of the results to be expected for future quarters or the full year.

  

There have been no significant changes in our critical accounting policies during the six months ended July 29, 2017, as compared to the critical accounting policies described in our Annual Report on Form 10-K for the year ended January 28, 2017. For a complete summary of our significant accounting policies, refer to Note 1, “Organization and Summary of Significant Accounting Policies,” in Part II, Item 8 of our fiscal 2017 Annual Report.

 

Recently adopted accounting pronouncements

 

In March 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2016-09, Compensation-Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. The amendment simplifies several aspects of the accounting for share-based payments, including the accounting for income taxes and forfeitures, as well as the classification on the statements of cash flows. We adopted this ASU in the first quarter of fiscal 2018 by recording the cumulative impact through an increase in retained earnings of $4.6 million. Stock-based compensation excess tax benefits or deficiencies are now reflected in the condensed consolidated statements of operations as a component of the provision for income taxes, whereas they previously were recognized in equity. The presentation requirements for cash flows related to employee taxes paid for withheld shares had no impact to all periods presented on our condensed consolidated statements of cash flows since such cash flows have historically been presented as a financing activity.

 

We have elected to account for forfeitures as they occur and therefore, stock-based compensation expense for the three and six months ended July 29, 2017 has been calculated based on actual forfeitures in our condensed consolidated statements of operations, rather than our previous approach which was net of estimated forfeitures. The net cumulative effect of this change was less than $0.1 million and recognized as an increase to paid-in capital as of January 29, 2017.

 

In July 2015, the FASB issued ASU No. 2015-11, Simplifying the Measurement of Inventory. Under this ASU, the measurement principle for inventory changed from the lower of cost or market value to the lower of cost and net realizable value. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. We adopted this ASU in the first quarter of fiscal 2018 with no material impact on our condensed consolidated financial statements.

 

 

SIGMA DESIGNS, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

 

Recently issued accounting pronouncements not yet effective: Recent accounting pronouncements expected to impact our operations that are not yet effective are summarized as follows:

 

In November 2016, the FASB issued ASU No. 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash (“ASU 2016-18”). The update provides guidance on the presentation of restricted cash or restricted cash equivalents in the statement of cash flows. We will not be required to adopt ASU 2016-18 until the commencement of our first quarter of fiscal 2019, but early adoption is permitted. The adoption of this ASU is not expected to have a material impact on our consolidated financial statements.

 

In October 2016, the FASB issued ASU No. 2016-16, Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory (“ASU 2016-16”), which requires the recognition of the income tax consequences of an intra-entity transfer of an asset, other than inventory, when the transfer occurs. ASU 2016-16 is effective for us beginning in the first quarter of fiscal 2019 and early adoption is permitted. We are currently evaluating the impact that this ASU will have on our consolidated financial statements.

 

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842) (“ASU 2016-02”), which requires lessees to recognize all leases, including operating leases, on the balance sheet as a lease asset or lease liability, unless the lease is a short-term lease. ASU 2016-02 also requires additional disclosures regarding leasing arrangements. ASU 2016-02 is effective for us beginning in the first quarter of fiscal 2020 and early adoption is permitted. We are currently evaluating the impact, and expect the ASU will have a material impact on our consolidated financial statements, primarily to the consolidated balance sheets and related disclosures.

 

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606) (“ASU 2014-09”), which amends the existing accounting standards for revenue recognition. ASU 2014-09 is based on principles that govern the recognition of revenue at an amount an entity expects to be entitled when products or services are transferred to customers. ASU 2014-09 is effective for us beginning in the first quarter of fiscal 2019 and early adoption is permitted. 

 

Subsequently, the FASB has issued the following standards related to ASU 2014-09: ASU No. 2016-08, Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (“ASU 2016-08”); ASU No. 2016-10, Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing (“ASU 2016-10”); ASU No. 2016-12, Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients (“ASU 2016-12”) and ASU No. 2016-20, Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers (“ASU 2016-20”). We must adopt ASU 2016-08, ASU 2016-10, ASU 2016-12 and ASU 2016-20 with ASU 2014-09 (collectively, the “new revenue standards”). We currently expect to adopt Topic 606 as of February 4, 2018, using the modified retrospective transition method applied to those contracts that were not completed as of that date. Upon adoption, we will recognize the cumulative effect of adopting this guidance as an adjustment to our opening balance of retained earnings. Prior periods will not be retrospectively adjusted. We expect the adoption of Topic 606 will not have a material impact to our consolidated financial statements.

 

2.             Cash, cash equivalents and marketable securities

 

As of both July 29, 2017 and January 28, 2017, we had $0.3 million of restricted cash related to an office-space operating lease and other transactions which are not included in the amounts below. Cash, cash equivalents and marketable securities consist of the following (in thousands):

  

		July 29, 2017												January 28, 2017
		Book Value				Net Unrealized Gains				Fair Value				Book Value				Net Unrealized Losses				Fair Value
Money market funds		$	81			$	-			$	81			$	3,715			$	-			$	3,715
Corporate bonds			-				-				-				3,506				(1	)			3,505
Fixed income mutual funds			1,282				2				1,284				1,280				(4	)			1,276
Total cash equivalents and marketable securities		$	1,363			$	2			$	1,365			$	8,501			$	(5	)		$	8,496
Cash on hand held in the United States											3,756												9,378
Cash on hand held overseas											62,075												53,332
Total cash on hand											65,831												62,710
Total cash, cash equivalents and marketable securities										$	67,196											$	71,206
Reported as:
Cash and cash equivalents										$	65,912											$	66,425
Short-term marketable securities											1,284												4,781
										$	67,196											$	71,206

 

The amortized cost and estimated fair value of cash equivalents and marketable securities have a contractual maturity of one year or less.

 

 

SIGMA DESIGNS, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

 

3.             Fair values of assets and liabilities

  

Determination of fair value

 

Our cash equivalents and marketable securities are classified within Level 1 of the fair value hierarchy because they are valued using quoted market prices, broker or dealer quotations or alternative pricing sources with reasonable levels of price transparency. The types of marketable securities valued based on quoted market prices in active markets include most U.S. government and agency securities, sovereign government obligations, money market securities and certain corporate obligations with high credit ratings and an ongoing trading market.

  

The tables below present the balances of our assets and liabilities measured at fair value on a recurring basis as of July 29, 2017 and January 28, 2017 (in thousands):

 

		July 29, 2017
		Fair Value				Quoted Prices in Active Markets for Identical Assets (Level 1)				Significant Observable Inputs (Level 2)				Significant Unobservable Inputs (Level 3)
Money market funds		$	81			$	81			$	-			$	-
Fixed income mutual funds			1,284				1,284				-				-
Total cash equivalents and marketable securities			1,365				1,365				-				-
Restricted cash			323				323				-				-
Total assets measured at fair value		$	1,688			$	1,688			$	-			$	-

 

		January 28, 2017
		Fair Value				Quoted Prices in Active Markets for Identical Assets (Level 1)				Significant Observable Inputs (Level 2)				Significant Unobservable Inputs (Level 3)
Money market funds		$	3,715			$	3,715			$	-			$	-
Corporate bonds			3,505				3,505				-				-
Fixed income mutual funds			1,276				1,276				-				-
Total cash equivalents and marketable securities			8,496				8,496				-				-
Restricted cash			303				303				-				-
Total assets measured at fair value		$	8,799			$	8,799			$	-			$	-

  

Assets measured and recorded at fair value on a non-recurring basis

 

Our non-marketable preferred stock investments in privately-held companies are recorded at cost and are adjusted to fair value only in the event that they become other-than-temporarily impaired. As of July 29, 2017, we held an equity investment in one privately-held company with a carrying value of $1.8 million. During the three months ended July 29, 2017, we partially sold this investment for $0.2 million in cash and recognized a gain of less than $0.1 million. Our President and Chief Executive Officer is a member of the Board of Directors of this company. We did not identify any events or changes in circumstances that may have had a significant adverse effect on the fair value of this investment during the three and six months ended July 29, 2017 and July 30, 2016. Our equity investment in this privately-held company constituted less than a 20% ownership position. Furthermore, we do not believe that we have the ability to exert significant influence over this company.

 

 

SIGMA DESIGNS, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

 

4.             Supplemental financial information

 

Inventory consists of the following (in thousands): 

		July 29, 2017				January 28, 2017
Wafers and other purchased materials		$	7,922			$	8,595
Work-in-process			2,517				2,780
Finished goods			5,708				6,772
Total inventory		$	16,147			$	18,147

 

Prepaid expenses and other current assets consist of the following (in thousands):

 

		July 29, 2017				January 28, 2017
Prepayments for taxes		$	3,539			$	3,421
Prepayments for royalties			765				776
Non-operating receivable			490				955
Other current assets			2,696				2,865
Total prepaid expenses and other current assets		$	7,490			$	8,017

 

Software, equipment and leasehold improvements, net consist of the following (in thousands, except for years):

  

		Estimated Useful Lives (Years)					July 29, 2017				January 28, 2017
Software		3	-	5			$	51,425			$	49,915
Mask sets			3					22,302				18,209
Equipment			3					8,781				7,719
Office equipment and furniture		3	-	5				8,149				7,857
Leasehold improvements		1	-	5				2,161				2,108
Total								92,818				85,808
Less: Accumulated depreciation and amortization								(72,673	)			(67,285	)
Total software, equipment and leasehold improvements, net							$	20,145			$	18,523

 

The table above includes, as of July 29, 2017, mask sets, net of amortization, of $2.4 million, which represents our share of the cost incurred in connection with the collaborative arrangement discussed in Note 11.

 

Software, equipment and leasehold improvement depreciation and amortization expense was $2.5 million and $2.7 million for the three months ended July 29, 2017 and July 30, 2016, respectively, and was $5.2 million and $6.1 million for the six months ended July 29, 2017 and July 30, 2016, respectively.

 

Accrued liabilities consist of the following (in thousands):

		July 29, 2017				January 28, 2017
License fees		$	5,067			$	5,578
Income taxes payable, current portion			998				2,094
Restructuring charges			1,597				-
Rebates			1,576				1,585
Royalties			1,231				1,378
Warranty			696				783
Deferred revenue			466				350
Other accrued liabilities			3,322				1,839
Total accrued liabilities		$	14,953			$	13,607

 

The following table summarizes activity related to accrued rebates (in thousands):

 

		Six months ended July 29, 2017
Beginning balance		$	1,585
Charged as a reduction of revenue			1,265
Payments			(1,274	)
Ending balance		$	1,576

 

  

SIGMA DESIGNS, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

 

5.          Intangible assets

 

The tables below present the balances of our intangible assets (in thousands, except for years):

 

		July 29, 2017
		Gross Value				Impairment				Accumulated Amortization and Effect of Currency Translation				Net Value				Weighted Average Remaining Amortization Period (Years)
Acquired intangible assets:
Developed technology		$	85,427			$	(24,614	)		$	(53,675	)		$	7,138				7.2
Customer relationships			54,505				(30,486	)			(21,169	)			2,850				5.3
Trademarks and other			4,078				-				(3,918	)			160				1.3
Purchased IP - amortizing			35,978				(5,516	)			(25,111	)			5,351				2.0
Total amortizing			179,988				(60,616	)			(103,873	)			15,499				5.0
Purchased IP - not yet deployed			19,146				(7,446	)			-				11,700
Total intangibles		$	199,134			$	(68,062	)		$	(103,873	)		$	27,199

  

		January 28, 2017
		Gross Value				Impairment				Accumulated Amortization and Effect of Currency Translation				Net Value				Weighted Average Remaining Amortization Period (Years)
Acquired intangible assets:
Developed technology		$	85,427			$	(24,614	)		$	(52,854	)		$	7,959				7.4
Customer relationships			54,505				(30,486	)			(20,897	)			3,122				5.8
Trademarks and other			4,078				-				(3,858	)			220				1.9
Purchased IP - amortizing			36,007				(5,516	)			(23,057	)			7,434				2.3
Total amortizing			180,017				(60,616	)			(100,666	)			18,735				5.0
Purchased IP - not yet deployed			16,449				(4,440	)			-				12,009
Total intangibles		$	196,466			$	(65,056	)		$	(100,666	)		$	30,744

 

Acquired intangible assets represent intangible assets acquired through business combinations. Purchased intellectual property (“IP”) represents intangible assets acquired through direct purchases of licensed technology from vendors which is incorporated into our products.

 

Purchased IP not yet deployed relates to purchased IP from third parties for our products that are currently in development. We begin amortizing such IP upon the earlier of the beginning of the term of the license agreement, as appropriate, or at the time we begin shipment of the associated products into which such IP is incorporated. The table above includes, as of July 29, 2017, purchased IP not yet deployed of $1.0 million, which represents our share of the cost incurred in connection with the collaborative arrangement discussed in Note 11.

 

As part of our restructuring plan as discussed in Note 7, we recorded impairment charges for purchased IP not yet deployed for the three and six months ended July 29, 2017 of zero and $3.0 million, respectively.

 

The following table presents the amortization of intangible assets in the accompanying condensed consolidated statements of operations (in thousands):

 

		Three Months Ended								Six Months Ended
		July 29, 2017				July 30, 2016				July 29, 2017				July 30, 2016
Cost of revenue		$	1,120			$	1,975			$	2,293			$	4,028
Operating expenses			448				713				895				1,430
Total intangibles amortization expense		$	1,568			$	2,688			$	3,188			$	5,458

  

As of July 29, 2017, we expect amortization expense in future periods to be as follows (in thousands):

 

Fiscal year		Total
2018 (remaining six months)		$	2,484
2019			4,319
2020			2,833
2021			1,588
2022			1,243
Thereafter			3,032
Total		$	15,499

 

 

SIGMA DESIGNS, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

  

6.          Commitments and contingencies

 

Commitments

 

Purchase commitments

 

We place non-cancelable orders to purchase semiconductor products from our suppliers on an eight to twelve week lead-time basis.  As of July 29, 2017, the total amount of outstanding non-cancelable purchase orders was approximately $14.3 million.

 

Third-party licensed technology

 

In October 2015, we entered into an agreement with a vendor to purchase $6.1 million of licensed technology for integration into future iterations of our products. Payments under this agreement are being made on an annual basis from December 2015 through December 2018. As of July 29, 2017, remaining payments under this agreement totaled $3.0 million.  In addition to this agreement, we have entered into other purchase arrangements for certain licensed technology; remaining payments under these agreements totaled $2.2 million as of July 29, 2017. Payments under these arrangements are being made through fiscal 2019. We have fully accrued these amounts as of July 29, 2017.

 

Design Tools

 

In June 2016, we entered into an agreement with a vendor to purchase $7.8 million of design tools. Payments under this agreement are being made on a quarterly basis from August 2016 through May 2019. As of July 29, 2017, remaining payments under this agreement totaled $5.2 million. In addition to this agreement, we have entered into other purchase arrangements for certain design tools; remaining payments under these agreements totaled $1.5 million as of July 29, 2017. Payments under these arrangements are being made through fiscal 2021. We have fully accrued these amounts as of July 29, 2017.

 

Royalties

 

We pay royalties for the right to sell certain products under various license agreements. During the three and six months ended July 29, 2017, we recorded gross royalty expense of $0.8 million and $1.4 million, respectively, and $1.6 million and $2.9 million for the three and six months ended July 30, 2016, respectively, in cost of revenue in the accompanying condensed consolidated statements of operations.

 

Our wholly-owned subsidiary, Sigma Designs Israel SDI Ltd. (formerly CopperGate Communications, Ltd.), participated in programs sponsored by the Office of the Chief Scientist of Israel's Ministry of Industry, Trade and Labor, or the OCS, for the support of research and development activities that we conducted in Israel. Through July 29, 2017, we had obtained grants from the OCS aggregating to $5.2 million of our research and development projects in Israel. We completed the most recent of these projects in 2013. We are obligated to pay royalties to the OCS, amounting up to 4.5% of the sales of certain products up to an amount equal to the grants received, plus LIBOR-based interest. As of July 29, 2017, our remaining potential obligation under these programs was approximately $1.2 million.

 

Contingencies

 

Product warranty

 

In general, we sell products with a one-year limited warranty that our products will be free from defects in material and workmanship.  Warranty cost is estimated at the time revenue is recognized based on historical activity, and additionally, for any specific known product warranty issues.  Accrued warranty cost includes hardware repair and/or replacement and is included in accrued liabilities in the accompanying condensed consolidated balance sheets.

 

Details of the change in accrued warranty as of July 29, 2017 and July 30, 2016 are as follows (in thousands):

 

Three Months Ended		Balance Beginning of Period				Additions and Adjustments				Deductions				Balance End of Period
July 29, 2017		$	727			$	112			$	(143	)		$	696
July 30, 2016		$	960			$	143			$	(151	)		$	952

 

Six Months Ended		Balance Beginning of Period				Additions and Adjustments				Deductions				Balance End of Period
July 29, 2017		$	783			$	196			$	(283	)		$	696
July 30, 2016		$	959			$	282			$	(289	)		$	952

 

 

SIGMA DESIGNS, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) 

 

Litigation

 

From time to time, we are involved in claims and legal proceedings that arise in the ordinary course of business. We expect that the number and significance of these matters will increase as our business expands. In particular, we could face an increasing number of patent and other intellectual property claims as the number of products and competitors in our industry grows. Any claims or proceedings against us, whether meritorious or not, could be time consuming, result in costly litigation, require significant amounts of management time, result in the diversion of significant operational resources or cause us to enter into royalty or licensing agreements which, if required, may not be available on terms favorable to us. If an unfavorable outcome were to occur against us, there exists the possibility of a material adverse impact on our financial position and results of operations for the period in which the unfavorable outcome occurs and, potentially, in future periods.

 

Advanced Micro Device, Inc. Litigation: On January 23, 2017, Advanced Micro Devices, Inc. and ATI Technologies ULC (collectively “AMD”), filed suit against us and many other named defendants, including VIZIO, Mediatek and LG in the United States District Court for the District of Delaware asserting infringement of U.S. Patent Nos. 7,633,506 and 7,796,133. On January 24, 2017, AMD instituted proceedings in the United States International Trade Commission (“ITC”) asserting infringement of U.S. Patent Nos. 7,633,506 and 7,796,133. The Delaware and ITC complaint seek unspecified monetary damages and injunctive relief.  At this time, we are unable to determine the outcome of this matter and, accordingly, cannot estimate the potential financial impact this action could have on our business, operating results, cash flows or financial position.

 

Broadcom Corporation Litigation: On March 7, 2017, Broadcom Corporation (“Broadcom”), filed suit against us in the United States District Court for the Central District of California asserting infringement of U.S. Patent No. 7,310,104. On March 8, 2017, Broadcom instituted proceedings in the United States ITC asserting infringement of U.S. Patent No. 7,310,104 and has subsequently filed a motion seeking to also assert infringement of U.S. Patent Nos. 8,284,844 and 7,590,059. The California and ITC complaint seek unspecified monetary damages and injunctive relief.  At this time, we are unable to determine the outcome of this matter and, accordingly, cannot estimate the potential financial impact this action could have on our business, operating results, cash flows or financial position. 

 

Advanced Silicon Technologies S.a.r.l. Litigation: On June 21, 2017, Advanced Silicon Technologies S.a.r.l. (“AST”), filed suit against Sigma Designs Technology Denmark ApS and Sigma Designs Technology Germany GmbH in the District Court of Düsseldorf, Germany asserting alleged infringement of Patent No. EP 1424653. The complaint seeks certain monetary damages, while the Düsseldorf court is empowered to grant injunctive relief.  At this time, we are unable to determine the outcome of this matter and, accordingly, cannot estimate the potential financial impact this action could have on our business, operating results, cash flows or financial position. 

   

Indemnifications

 

In certain limited circumstances, we have agreed and may agree in the future to indemnify certain customers against intellectual property infringement claims from third parties related to the use of our technology. In these limited circumstances, the terms and conditions of sale or our standing agreement with such customers generally limit the scope of the available remedies to a variety of industry-standard methods including, but not limited to, a right to control the defense or settlement of any claim, procure the right for continued usage, and a right to replace or modify the infringing products to render them non-infringing. To date, we have not incurred or accrued any costs related to any claims under such indemnification provisions.

 

Our articles of incorporation and bylaws require that we indemnify our officers and directors against expenses, judgments, fines, settlements and other amounts actually and reasonably incurred in connection with any proceedings arising out of their services to us. In addition, we have entered into separate indemnification agreements with each of our directors and executive officers, which provide for indemnification of these individuals under similar circumstances and under additional circumstances. The indemnification obligations are more fully described in our charter documents and the form of indemnification agreement filed with our SEC reports. We purchase insurance to cover claims or a portion of the claims made against our directors and officers. Since a maximum obligation is not explicitly stated in our charter documents or in our indemnification agreements and will depend on the facts and circumstances that arise out of any future claims, if any, the overall maximum amount of the obligations cannot be reasonably estimated.

 

Third-party licensed technology

 

We regularly license technology from various third party licensors and incorporate that technology into our product offerings. Some of these technology licenses require us to pay royalties directly to the licensor, while others require us to report sales activities to our licensors so that royalties may be collected from our customers. From time to time, we are audited by our licensors for compliance with the terms of our license agreements. On February 10, 2017, we received a letter from one of our licensors notifying us of their intent to audit our compliance with the terms of the license agreements. On May 15, 2017, we started the audit proceedings and intend to cooperate with the licensor to bring the audit process to a resolution. At this time, we are unable to determine the outcome of this audit and, accordingly, cannot estimate the potential financial impact this audit could have on our business, operating results, cash flows or financial position.

 

We may be required to make additional payments as a result of pending or future compliance audits. For license agreements where we have royalty obligations, we charge any settlement-related payments that we make in connection with compliance audits to cost of revenue. For license agreements where we have reporting obligations, we treat any settlement-related payments as penalties, and charge the amounts to operating expenses in sales and marketing. As of the date of this filing, we believe we are substantially in compliance with the terms of our license agreements.

 

 

SIGMA DESIGNS, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

 

7.           Restructuring charges

 

On March 24, 2017, we initiated restructuring activities (the “Fiscal 2018 Plan”) in order to realign resources with our core target markets, such as the IoT market. We expect the Fiscal 2018 Plan to be completed by the end of fiscal 2018. Our restructuring activities include targeted reductions in labor costs through headcount reductions, a facility closure, and impairment of certain purchased IP. Restructuring liabilities are reported within accrued liabilities on the condensed consolidated balance sheets.

 

During the three and six months ended July 29, 2017, we communicated a plan of termination to several employees, which consisted of headcount reductions mainly in our Europe and North America operations. A summary of the recent activities of our restructuring plan is as follows (in thousands):

 

		Severance
Charges for the three months ended April 29, 2017		$	243
Cash payments			(5	)
Accrued balance as of April 29, 2017			238
Charges for the three months ended July 29, 2017			1,723
Cash payments			(364	)
Accrued balance as of July 29, 2017		$	1,597
Total cost incurred to date as of July 29, 2017		$	1,966

 

In addition, we recorded an impairment charge for purchased IP not yet deployed of zero and $3.0 million for the three and six months ended July 29, 2017, respectively, as we no longer intend to use this IP. Our restructuring measures could negatively impact our revenue and results of operations in the future as a result of less employees developing future products and working to sell our products.

 

8.           Earnings per share

 

Basic net loss per share is computed by dividing net loss by the weighted-average number of common shares outstanding for the fiscal period. The weighted-average number of shares outstanding used in the computation of basic and diluted loss per share does not include the effect of the following potential outstanding shares of common stock. The effects of these potentially outstanding shares were not included in the calculation of basic and diluted loss per share because the effect would have been anti-dilutive (in thousands):

 

		Three Months Ended								Six Months Ended
		July 29, 2017				July 30, 2016				July 29, 2017				July 30, 2016
Stock options			2,387				2,477				2,409				2,465
Restricted stock units and awards			464				422				406				564

 

 

SIGMA DESIGNS, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

 

9.           Employee benefits

 

401(k) tax deferred savings plan

 

We maintain a 401(k) tax deferred savings plan for the benefit of qualified employees who are based in the United States.  Under the 401(k) tax deferred savings plan, U.S. based employees may elect to reduce their current annual taxable compensation up to the statutorily prescribed limit, which is $18,000 in calendar year 2017.  Employees age 50 or over may elect to contribute an additional $6,000. We made matching contributions to the 401(k) tax deferred savings plan during the three and six months ended July 29, 2017 of $0.2 million and $0.4 million, respectively, and $0.1 million and $0.3 million for the three and six months ended July 30, 2016, respectively.

 

Endowment insurance pension plan

 

Related to our acquisition of our DTV business in May 2012, we added operations in Shanghai, China.  It is required by the “Procedures of Shanghai Municipality on Endowment Insurance for Town Employees” to provide pension insurance for Shanghai employees.  The mandatory plan is managed by the local authority.  Under the current plan, an employee will contribute 8.0% of the annual base to the plan and the employer will match 20% of the annual base.  From April 2016 to March 2017, the annual base is capped at RMB 17,817 per employee and from April 2017 to March 2018, the annual base is capped at RMB 19,512 per employee. For the three and six months ended July 29, 2017, we made matching contributions of $0.5 million and $1.1 million, respectively, and $0.6 million and $1.2 million for the three and six months ended July 30, 2016, respectively.

 

Retirement pension plans

 

We maintain retirement pension plans for the benefit of qualified employees in Denmark, Taiwan, The Netherlands, and Germany. We made matching contributions under these plans of $0.2 million for each of the three months ended July 29, 2017 and July 30, 2016; and $0.4 million for each of the six months ended July 29, 2017 and July 30, 2016.

 

Severance plan

 

We maintain a severance plan for several Israeli employees pursuant to Israel's Severance Pay Law based on the most recent salary of the employees multiplied by the number of years of employment.  Upon termination of employment, employees are entitled to one month salary for each year of employment or a portion thereof.  As of July 29, 2017, we have an accrued severance liability of $0.9 million partially offset by $0.8 million of severance employee funds. We made contributions of less than $0.1 million for each of the three and six months ended July 29, 2017 and July 30, 2016.

 

Employee termination benefits

 

Termination benefits are payable when an employee is involuntarily terminated, or whenever an employee accepts voluntary termination in exchange for termination benefits. For the accounting treatment and timing recognition of involuntarily termination benefits, the Company distinguishes between one-time termination benefit arrangements and ongoing termination benefit arrangements. A one-time termination benefit arrangement is established by a termination plan and applies to a specified termination event. One-time involuntary termination benefits are recognized as a liability when the termination plan meets certain criteria and has been communicated to employees. If employees are required to render future service in order to receive these one-time termination benefits, the liability is recognized ratably over the future service period. Termination benefits other than one-time termination benefits are termination benefits for which the communication criterion is not met but that are committed to by management, or termination obligations that are not specifically determined in a new and single plan. These termination benefits include all legal, contractual and past practice termination obligations to be paid to employees in case of involuntary termination. These termination benefits are accrued for when commitment creates a present obligation to our employees for the benefits expected to be paid, when it is probable that employees will be entitled to the benefits and the amount can be reasonably estimated.  As discussed in Note 7, we recorded termination benefits of $1.7 million and $1.9 million for the three and six months ended July 29, 2017, respectively.

 

 

 SIGMA DESIGNS, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

 

Employee stock purchase plan

 

During the first quarter of fiscal 2016, we discovered that we inadvertently sold shares of our common stock to our employees during fiscal 2015 in excess of the shares of common stock authorized to be issued under our 2010 Employee Stock Purchase Plan (“2010 ESPP”). As a result, we may have failed to comply with the registration or qualification requirements of the federal securities law. Certain purchasers of the shares that were issued in excess of the shares authorized under our 2010 ESPP may have the right to rescind their purchases from us for an amount equal to the purchase price paid for shares, plus interest from the date of purchase. These shares were treated as issued and outstanding for financial reporting purposes as of the original date of issuance.

 

As of July 29, 2017, there were approximately 38,374 shares issued to participants in the 2010 ESPP during the impacted offering periods that continued to be held by the original purchasers of such shares which may be subject to the rescission rights referenced above. All of these shares were originally purchased for $3.89 per share. We have not classified the shares themselves outside of permanent equity as these shares are legally outstanding with all rights and privileges therein. We also may be subject to civil and other penalties by regulatory authorities as a result of the failure to register these shares with the Securities and Exchange Commission. We do not believe that the failure to register the shares will have a material impact on our condensed consolidated financial statements.

 

On August 22, 2016, we reached a closing agreement with the Internal Revenue Service on behalf of our employees for issuing shares in excess of the number of shares reserved under our 2010 ESPP and in March 2017, we settled with the relevant state tax authorities.

 

10.           Income taxes

 

We recorded a provision for income taxes of $1.0 million and $1.8 million for the three months ended July 29, 2017 and July 30, 2016, respectively. The provision for income taxes was $2.0 million and $3.1 million for the six months ended July 29, 2017 and July 30, 2016, respectively. The decrease in tax expense for the three and six months ended July 29, 2017 is primarily attributable to lower profitability in taxable jurisdictions as compared to the same period in fiscal year 2017 and changes in tax reserves. During the three and six months ended July 29, 2017 and July 30, 2016, we were unable to reasonably project our annual effective tax rate, and therefore computed our provision for income taxes based on year-to-date actual financial results. Included in our provision for income taxes are foreign exchange gains or losses on unsettled income tax liabilities.

 

11.           Collaborative arrangement

 

In September 2016, we entered into a joint collaboration agreement with Telechips Inc. (“Telechips”) to develop and commercialize a set-top box microprocessor SoC solution. Martin Manniche, a member of our board of directors, also serves on the board of directors of Telechips. Telechips is responsible for the manufacture of the products and is also the principal in the end customer product sales. Telechips’ wholly-owned subsidiary has the primary responsibility for order fulfillment, collection of receivables and handling of sales returns in all territories. We receive a marketing service fee in an amount equal to 50% of the net profit from the collaboration agreement, which is included in net revenue. The marketing service fee is recognized when products are shipped and all risks and rewards of ownership have been transferred to third-party customers, minus the cost of production and related operating expenses incurred by Telechips. Research and development costs are shared equally and cost reimbursement to Telechips is recognized as incurred and included in research and development expenses. The agreement will continue until the later of July 31, 2018 or cessation of the sale of products. The term may be extended by mutual agreement of both parties.

 

Net profit from this collaborative arrangement, included in net revenue, was less than $0.1 million for both the three and six months ended July 29, 2017. Research and development expense recorded in connection with this collaboration agreement was $0.2 million and $0.7 million for the three and six months ended July 29, 2017, respectively.

 

As discussed in Note 13, both parties mutually agreed to terminate the joint collaboration agreement effective August 14, 2017, and released each party’s obligation to pay any invoices that may be due and payable under the joint collaboration agreement. As a result, we will reverse our share of costs of $0.9 million in the third quarter of fiscal 2018.

    

 

 SIGMA DESIGNS, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

 

12.           Segment and geographical information

 

Operating segments are defined as components of an enterprise for which separate financial information is available and evaluated regularly by the chief operating decision-maker in deciding how to allocate resources and in assessing performance.  We are organized as, and operate in, one reportable segment.  Our operating segment consists of our geographically based entities in the United States, Israel and Singapore.  Our chief operating decision-maker reviews consolidated financial information, accompanied by information about revenue by product group, target market and geographic region.  We do not assess the performance of our geographic regions on other measures of income, expense or net income.

 

Our net revenue is derived principally from the sales of integrated SoC solutions, which we sell across both of our target markets. Connected Smart TV Platforms consist of all products that are sold into digital televisions as well as other adjacent markets using chipset products that are designed for video post-processing, products delivering IP streaming video, including hybrid versions of these products, and communication devices that use a standard protocol to connect equipment inside the home and stream IP-based video and audio, VoIP, or data through wired or wireless connectivity. IoT Devices consist of both smart home applications (including gateways and automated consumer devices) and mobile IoT applications (primarily tracking tags). Our smart home product line is marketed under our Z-Wave brand of wireless chips, modules and Z-Wave mesh networking protocol.

 

Our License and other markets include revenue derived from the licensing of our technology to third parties and other sources. Revenue derived from other sources includes software development kits, and engineering support services for hardware and software; that revenue is not significant as it represented zero of our total net revenue for the three and six months ended July 29, 2017, respectively; and 0.2% and 0.3% of our total net revenue for the three and six months ended July 30, 2016.

 

The following table sets forth net revenue attributable to each target market (in thousands):

 

		Three Months Ended								Six Months Ended
		July 29, 2017				July 30, 2016				July 29, 2017				July 30, 2016
Connected Smart TV Platforms		$	26,111			$	51,678			$	54,001			$	95,386
IoT Devices			13,397				9,488				25,071				19,405
License and other			-				150				-				300
Net revenue		$	39,508			$	61,316			$	79,072			$	115,091

 

The following table sets forth net revenue for each geographic region based on the ship-to location of customers (in thousands):

 

		Three Months Ended								Six Months Ended
		July 29, 2017				July 30, 2016				July 29, 2017				July 30, 2016
Asia		$	34,573			$	47,873			$	66,495			$	93,914
North America			2,527				11,391				8,346				18,006
Europe			2,408				2,038				4,231				3,157
Other Regions			-				14				-				14
Net revenue		$	39,508			$	61,316			$	79,072			$	115,091

 

The following table sets forth net revenue for each significant country based on the ship-to location of customers (in thousands):

 

		Three Months Ended								Six Months Ended
		July 29, 2017				July 30, 2016				July 29, 2017				July 30, 2016
China, including Hong Kong		$	18,665			$	33,110			$	40,455			$	60,567
Taiwan			11,806				9,991				18,757				23,955
United States			2,132				11,269				7,652				17,858
Republic of Korea			2,112				1,606				3,787				3,117
Thailand			998				2,916				1,852				5,737
Rest of the world			3,795				2,424				6,569				3,857
Net revenue		$	39,508			$	61,316			$	79,072			$	115,091

 

During the three months ended July 29, 2017, Sunjet Components Corporation, Silicon Application and Arris Global accounted for 27%, 14% and 11% of our net revenue, respectively. During the six months ended July 29, 2017, Sunjet Components Corporation, Silicon Application and Arris Global accounted for 21%, 15% and 15% of our net revenue, respectively. During the three months ended July 30, 2016, Arris Global, Silicon Application, Arrow Electronics and Sunjet Components Corporation accounted for 18%, 18%, 15% and 13% of our net revenue, respectively. During the six months ended July 30, 2016, Sunjet Components Corporation and Silicon Application accounted for 17% and 15% of our net revenue, respectively.

 

13.           Subsequent events

  

On August 14, 2017, we entered into an agreement to license certain set-top box semiconductor technology to Telechips for an aggregate payment of $4.7 million. The payment includes reimbursement of $2.5 million paid by us for a mask set which was capitalized with a corresponding accumulated amortization of $0.6 million. The payment is to be paid to us in tranches, with an initial payment to be made within 30 days of the date of the agreement, and later payments based on satisfaction of certain milestones. Both parties mutually agreed to terminate the joint collaboration agreement and released each party’s obligation to pay any invoices that may be due and payable under the joint collaboration agreement. As a result, we will reverse our share of costs of $0.9 million in the third quarter of fiscal 2018.

    

 

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

 

You should read the following discussion in conjunction with our condensed consolidated financial statements and related notes in this Form 10-Q.  Except for historical information, the following discussion contains forward-looking statements within the meaning of Section 27A of the Securities Exchange Act of 1933 and Section 21E of the Securities Exchange Act of 1934. In some cases, you can identify forward-looking statements by terms such as "may," "might," "will," "objective," "intend," "should," "could," "can," "would," "expect," "believe," "estimate," "predict," "potential," "plan,", “anticipate” or the negative of these terms, and similar expressions intended to identify forward-looking statements.  These forward-looking statements, include, but are not limited to: statements about our capital resources and needs, including the adequacy of our current cash reserves; the expectation that our revenue from the IoT Devices market will likely increase in the foreseeable future; anticipated deployments and design wins in the Connected Smart TV Platforms target market, if any; anticipated seasonality associated with our Connected Smart TV Platforms and IoT Devices target markets; our ability to successfully execute our restructuring activities in fiscal 2018; and our expectations that our gross margin will vary from period to period. These forward-looking statements involve risks and uncertainties.  Our actual results may differ significantly from those projected in the forward-looking statements.  Factors that might cause future results to differ materially from those discussed in the forward-looking statements include, but are not limited to, those discussed under Part II, Item 1A “Risk Factors” in this Form 10-Q as well as other information found in the documents we file from time to time with the Securities and Exchange Commission.  Also, these forward-looking statements represent our estimates and assumptions only as of the date of this Form 10-Q.  Unless required by U.S. federal securities laws, we do not intend to update any of these forward-looking statements to reflect circumstances or events that occur after the statement is made.

 

Overview

 

We are a global integrated system-on-chip, or SoC, solutions provider offering intelligent platforms for use in a variety of home entertainment and home control appliances. Our goal is to ensure that our chipsets serve as the foundation for some of the world’s leading consumer products, including televisions, media connectivity, smart home devices, and mobile Internet of Things, or IoT, products. Our business generates revenue primarily by delivery of relevant, cost-effective semiconductors that are targeted toward end-product manufacturers, Original Equipment Manufacturers, or OEMs, and Original Design Manufacturers, or ODMs. We also derive a portion of our revenue from other products and services, including technology licenses, software development kits, and engineering support services for hardware and software.

  

Our chipset products and target markets

 

We consider our semiconductor products primarily to be chipsets because each of our products is comprised of multiple semiconductors.  We believe our chipsets enable our customers to efficiently bring consumer multimedia devices to market.  We design our highly integrated products to significantly improve performance, lower power consumption and reduce cost. We sell our products into two target markets: Connected Smart TV Platforms and IoT Devices.

 

Connected Smart TV Platforms Market

 

The Connected Smart TV Platforms market consists of all products that are sold into digital televisions as well as other adjacent markets using chipset products that are designed for video post-processing, products delivering IP streaming video, including hybrid versions of these products and communication devices that use a standard protocol to connect equipment inside the home and stream IP-based video and audio, VoIP, or data through wired or wireless connectivity. We serve this market with our media processor chips, dedicated post-processing products and home networking controllers.

 

IoT Devices Market

 

The IoT Devices market consists of both smart home applications (including gateways and automated consumer devices) and mobile IoT applications (primarily tracking tags). Our smart home product line is marketed under our Z-Wave brand of wireless chips, modules and Z-Wave mesh networking protocol.

 

License and Other Markets

 

License and other markets includes other products and services, including technology licenses, software development kits, and engineering support services for hardware and software.

  

Critical accounting policies and estimates

 

There have been no significant changes in our critical accounting policies during the six months ended July 29, 2017, as compared to the critical accounting policies described in our Annual Report on Form 10-K for the year ended January 28, 2017. For a complete summary of our significant accounting policies, refer to Note 1, "Organization and Summary of Significant Accounting Policies”, in Part II, Item 8 of our fiscal 2017 Annual Report.

 

 

Results of operations

 

The following table is derived from our unaudited condensed consolidated financial statements and sets forth our historical operating results as a percentage of net revenue for each of the periods indicated (in thousands, except percentages):

 

		Three Months Ended																Six Months Ended
		July 29, 2017				% of Net Revenue				July 30, 2016				% of Net Revenue				July 29, 2017				% of Net Revenue				July 30, 2016				% of Net Revenue
Net revenue		$	39,508				100%			$	61,316				100%			$	79,072				100%			$	115,091				100%
Cost of revenue			20,688				52%				31,734				52%				41,628				53%				61,508				54%
Gross profit			18,820				48%				29,582				48%				37,444				47%				53,583				46%
Operating expenses
Research and development			17,993				46%				18,836				31%				36,162				46%				37,991				33%
Sales and marketing			5,113				13%				5,939				10%				10,486				13%				11,662				10%
General and administrative			4,945				13%				4,820				8%				10,155				13%				9,958				9%
Restructuring charges			1,723				4%				-				-%				1,966				2%				-				-%
Impairment of IP			-				-%				300				-%				3,006				4%				300				-%
Total operating expenses			29,774				76%				29,895				49%				61,775				78%				59,911				52%
Loss from operations			(10,954	)			(28%	)			(313	)			(1%	)			(24,331	)			(31%	)			(6,328	)			(6%	)
Interest and other (expense) income, net			(758	)			(2%	)			415				1%				(1,223	)			(2%	)			(336	)			-%
(Loss) income before income taxes			(11,712	)			(30%	)			102				-%				(25,554	)			(33%	)			(6,664	)			(6%	)
Provision for income taxes			965				2%				1,824				3%				1,982				2%				3,156				3%
Net loss		$	(12,677	)			(32%	)		$	(1,722	)			(3%	)		$	(27,536	)			(35%	)		$	(9,820	)			(9%	)

 

Net revenue

 

Our net revenue for the three months ended July 29, 2017 decreased by $21.8 million, or 36%, as compared to the corresponding period in the prior fiscal year due to decreases within the Connected Smart TV Platforms market, partially offset by an increase within the IoT Devices market.

 

For the six months ended July 29, 2017, our net revenue decreased by $36.0 million, or 31%, as compared to the corresponding period in the prior fiscal year due to decreases within the Connected Smart TV Platforms market, partially offset by an increase within the IoT Devices market.

 

Net revenue by target market

 

The following table sets forth our net revenue by target market and the percentage of net revenue represented by our product sales to each of those markets (in thousands, except percentages):

 

		Three Months Ended																Six Months Ended
		July 29, 2017				% of Net Revenue				July 30, 2016				% of Net Revenue				July 29, 2017				% of Net Revenue				July 30, 2016				% of Net Revenue
Connected Smart TV Platforms		$	26,111				66%			$	51,678				84%			$	54,001				68%			$	95,386				83%
IoT Devices			13,397				34%				9,488				16%				25,071				32%				19,405				17%
License and other			-				-%				150				-%				-				-%				300				-%
Net revenue		$	39,508				100%			$	61,316				100%			$	79,072				100%			$	115,091				100%

  

 

Connected Smart TV Platforms: For the three months ended July 29, 2017, net revenue from sales of our products into the Connected Smart TV Platforms market decreased by $25.6 million, or 49%, as compared to the corresponding period in the prior fiscal year. For the six months ended July 29, 2017, net revenue decreased by $41.4 million, or 43%, as compared to the corresponding period in the prior fiscal year. We experienced a decrease of 25% and 26% in units shipped during the three and six months ended July 29, 2017, respectively. The volume decline in our Connected Smart TV Platforms market resulted primarily from the lower demand for our chipsets used in ultra-high definition televisions, also known as Ultra-HD televisions, and the continued decline of demand for our older legacy products, many of which are now approaching end-of-life. In addition, our wired home networking controller chipsets contributed to this volume decline primarily due to reduced demand due to the continued expansion of wireless technologies in the market impacting our existing product offerings.

 

In September 2016, we entered into a joint collaboration agreement with Telechips Inc. (“Telechips”) to develop and commercialize a set-top box microprocessor SoC solution. Martin Manniche, a member of our board of directors, also serves on the board of directors of Telechips. We receive a marketing service fee in an amount equal to 50% of the net profit from the collaboration agreement, which is included in net revenue. Net profit from this collaborative arrangement was less than $0.1 million for both the three and six months ended July 29, 2017. On August 14, 2017, we entered into an agreement to license certain set-top box semiconductor technology to Telechips for an aggregate payment of $4.7 million. The payment includes reimbursement of $2.5 million paid by us for a mask set which was capitalized with a corresponding accumulated amortization of $0.6 million. The payment is to be paid to us in tranches, with an initial payment to be made within 30 days of the date of the agreement, and later payments based on satisfaction of certain milestones. Both parties mutually agreed to terminate the joint collaboration agreement and released each party’s obligation to pay any invoices that may be due and payable under the joint collaboration agreement.

  

Our Connected Smart TV Platforms revenue was derived mainly from the Asia region. We typically expect our strongest Connected Smart TV Platforms sales in the third calendar quarter and declining Connected Smart TV Platforms sales in the first and fourth quarter of each calendar year. We expect our net revenue from the Connected Smart TV Platforms market to continue to be a significant percentage of net revenue but will fluctuate in future periods as we continue to develop and introduce new products for this market and as a result of seasonality typically experienced in the consumer electronics market.

 

IoT Devices:  For the three months ended July 29, 2017, net revenue from sales of our products into the IoT Devices market increased by $3.9 million, or 41%, compared to the corresponding period in the prior fiscal year.  For the six months ended July 29, 2017, net revenue increased by $5.7 million, or 29%, as compared to the corresponding period in the prior fiscal year. In both cases, the increase was primarily the result of higher demand, mainly in the Asia region. This was evidenced by an increase of 47% and 56% in units shipped during the three and six months ended July 29, 2017, respectively. In addition, we derive a portion of our IoT Devices revenues in the form of fees from members of a wholly-owned entity dedicated to the marketing, development and proliferation of the Z-Wave brand. During the three and six months ended July 29, 2017, membership revenue was $0.3 million and $0.8 million, respectively, as compared to the corresponding periods in the prior fiscal year of $0.3 million and $0.9 million, respectively.

 

We have compelling products for our IoT Devices market and we continue to target large operators who are introducing home control and automation products primarily in the North America region. We expect our revenue from the IoT Devices market to increase in the foreseeable future.

 

License and other markets:  Our license and other markets consist primarily of technology license revenue and revenue from other ancillary markets. For the three and six months ended July 29, 2017 and July 30, 2016, net revenue was nominal as we had no significant source of license or other revenue in either period. We do not expect our license and other revenue to be a significant source of revenue, but this may fluctuate in future periods if we enter into a license agreement in the future. We do not have a sales program based around licensing our technology. However, we continue to evaluate opportunities as they arise in the future.

 

 

Net revenue by geographic region

 

The following table sets forth net revenue for each geographic region based on the ship-to location of customers (in thousands, except percentages):

 

		Three Months Ended																Six Months Ended
		July 29, 2017				% of Net Revenue				July 30, 2016				% of Net Revenue				July 29, 2017				% of Net Revenue				July 30, 2016				% of Net Revenue
Asia		$	34,573				88%			$	47,873				78%			$	66,495				84%			$	93,914				81%
North America			2,527				6%				11,391				19%				8,346				11%				18,006				16%
Europe			2,408				6%				2,038				3%				4,231				5%				3,157				3%
Other regions			-				-%				14				-%				-				-%				14				-%
Net revenue		$	39,508				100%			$	61,316				100%			$	79,072				100%			$	115,091				100%

 

Asia: Our net revenue from Asia decreased by $13.3 million, or 28%, for the three months ended July 29, 2017, compared to the corresponding period in the prior fiscal year. Our net revenue for the six months ended July 29, 2017 decreased by $27.4 million, or 29%, as compared to the corresponding period in the prior fiscal year. In both cases, the decreases were largely attributable to the decreasing deployments of new generation products by our customers within the Connected Smart TV Platforms market. This decrease was compounded by reduced demand of our wired home networking controller chipsets due to the continued expansion of wireless technologies in the market impacting our existing product offerings. These decreases were partially offset by an increase in demand within the IoT Devices market. Net revenue from customers in Asia as a percentage of our total net revenue for the three and six months ended July 29, 2017 increased by 10 and 3 percentage points, respectively, as compared to the corresponding period in the prior fiscal year. The increase for both periods was primarily due to the significant decrease in revenue in North America.

 

North America: Our net revenue from North America decreased by $8.9 million, or 78%, for the three months ended July 29, 2017, as compared to the corresponding period in the prior fiscal year. Our net revenue for the six months ended July 29, 2017 decreased by $9.7 million, or 54%, as compared to the corresponding period in the prior fiscal year. In both cases, the decreases were mainly attributable to the decreasing deployments of new generation products by our customers within the Connected Smart TV Platforms market. The decrease was compounded by lower IoT revenue derived from non-recurring engineering contracts. Net revenue from North American customers as a percentage of our total net revenue for the three and six months ended July 29, 2017 decreased by 13 and 5 percentage points, respectively, as compared to the corresponding period in the prior fiscal year primarily due to the decrease experienced within our Connected Smart TV Platforms.

  

Europe:  Our net revenue from Europe increased by $0.4 million, or 18%, for the three months ended July 29, 2017, as compared to the corresponding period in the prior fiscal year. Our net revenue for the six months ended July 29, 2017 increased by $1.1 million, or 34%, as compared to the corresponding period in the prior fiscal year. Net revenue from European customers as a percentage of our total net revenue for the three and six months ended July 29, 2017 increased by 3 and 2 percentage points, respectively, compared to the corresponding periods in the prior fiscal year. The increase for both periods was mainly the result of an increase in shipments within our IoT Devices market, primarily in Poland.

 

Other regions: Our net revenue from other regions was nominal for both the three and six months ended July 29, 2017 and July 30, 2016.

 

Major customers

 

During the three months ended July 29, 2017, Sunjet Components Corporation, Silicon Application and Arris Global accounted for 27%, 14% and 11% of our net revenue, respectively. During the six months ended July 29, 2017, Sunjet Components Corporation, Silicon Application and Arris Global accounted for 21%, 15% and 15% of our net revenue, respectively. During the three months ended July 30, 2016, Arris Global, Silicon Application, Arrow Electronics and Sunjet Components Corporation accounted for 18%, 18%, 15% and 13% of our net revenue, respectively. During the six months ended July 30, 2016, Sunjet Components Corporation and Silicon Application accounted for 17% and 15% of our net revenue, respectively

 

 

Gross profit and gross margin

 

The following table sets forth our gross profit and gross margin (in thousands, except percentages):

 

		Three Months Ended												Six Months Ended
		July 29, 2017				% Change				July 30, 2016				July 29, 2017				% Change				July 30, 2016
Gross profit		$	18,820				(36%	)		$	29,582			$	37,444				(30%	)		$	53,583
Gross margin %			47.6	%			(0.6%	)			48.2	%			47.4	%			0.9%				46.5	%

 

Gross profit decreased by $10.8 million, or 36%, for the three months ended July 29, 2017, as compared to the corresponding period in the prior fiscal year. Gross profit decreased by $16.1 million, or 30%, for the six months ended July 29, 2017, as compared to the corresponding period in the prior fiscal year. The decrease for both periods was primarily due to lower sales volumes within the Connected Smart TV Platforms market. Our gross margin change was nominal for the three and six months ended July 29, 2017, as compared to the corresponding periods in the prior fiscal year.

 

Our future gross margin could be impacted by our product mix and could be adversely affected by further growth in sales of products that have lower gross margins. Our gross margin may also be impacted by the geographic mix of our revenue and may be adversely affected by increased sales discounts, rebates, royalties, and product pricing attributable to competitive factors. Additionally, our manufacturing-related costs may be negatively impacted by constraints in our supply chain, which in turn could negatively affect gross margin. If any of the preceding factors that in the past have negatively impacted our gross margin arises in the future, our gross margin could decline.

 

Research and development expense

 

Research and development expense consists of compensation and benefits costs including variable compensation expense, development and design costs such as mask, prototyping, testing and subcontracting costs, depreciation of our equipment costs, amortization of our engineering design tools and third-party licensed technology, stock-based compensation expense, and other expenses such as costs for facilities and travel. During certain periods, research and development expense may fluctuate relative to product development phases and project timing. The following table sets forth our research and development expense and the related change (in thousands, except percentages):

 

		Three Months Ended
		July 29, 2017				July 30, 2016				$ Change				% Change
Research and development expense		$	17,993			$	18,836			$	(843	)			(4	%)
Percent of net revenue			45.5	%			30.7	%

 

		Six Months Ended
		July 29, 2017				July 30, 2016				$ Change				% Change
Research and development expense		$	36,162			$	37,991			$	(1,829	)			(5	%)
Percent of net revenue			45.7	%			33.0	%

 

Research and development expense decreased during the three and six months ended July 29, 2017, as compared to the corresponding periods in the prior fiscal year. The decrease for both periods was primarily due to lower amortization of design tools, compensation and benefits. We had 491 employees in research and development as of July 29, 2017 compared to 530 employees as of July 30, 2016.

 

 

Sales and marketing expense

 

Sales and marketing expense consists primarily of compensation and benefits costs, including commissions to our direct sales force, stock-based compensation expense, trade shows, travel and entertainment expenses and external commissions. Our sales and marketing expense is summarized as follows (in thousands, except percentages):

 

		Three Months Ended
		July 29, 2017				July 30, 2016				$ Change				% Change
Sales and marketing expense		$	5,113			$	5,939			$	(826	)			(14	%)
Percent of net revenue			12.9	%			9.7	%

 

		Six Months Ended
		July 29, 2017				July 30, 2016				$ Change				% Change
Sales and marketing expense		$	10,486			$	11,662			$	(1,176	)			(10	%)
Percent of net revenue			13.3	%			10.1	%

 

Sales and marketing expense decreased during the three and six months ended July 29, 2017, as compared to the corresponding periods in the prior fiscal year. The decrease for both periods was primarily due to lower amortization of acquired intangibles related to customer relationships and marketing programs. We had 92 employees in sales and marketing as of July 29, 2017 compared to 99 employees as of July 30, 2016.

 

General and administrative expense

 

General and administrative expense consists primarily of compensation and benefits costs, stock-based compensation expense, legal, accounting and other professional fees and facilities expenses. Our general and administrative expense is summarized as follows (in thousands, except percentages):

 

 

		Three Months Ended
		July 29, 2017				July 30, 2016				$ Change				% Change
General and administrative expense		$	4,945			$	4,820			$	125				3	%
Percent of net revenue			12.5	%			7.9	%

 

		Six Months Ended
		July 29, 2017				July 30, 2016				$ Change				% Change
General and administrative expense		$	10,155			$	9,958			$	197				2	%
Percent of net revenue			12.8	%			8.7	%

 

General and administrative expense increased during the three and six months ended July 29, 2017, as compared to the corresponding periods in the prior fiscal year. The increase for both periods was primarily due to increased legal services associated with the restructuring plan, partially offset by lower personnel related compensation costs. We had 72 employees in general and administrative as of July 29, 2017 compared to 81 employees as of July 30, 2016.

 

 

Restructuring charges

 

On March 24, 2017, we initiated restructuring activities (the “Fiscal 2018 Plan”) in order to realign resources with our core target markets, such as the IoT market. We expect our Fiscal 2018 Plan to be completed by the end of fiscal 2018. Our restructuring activities include targeted reductions in labor costs through headcount reductions, a facility closure, and impairment of certain purchased intellectual property, or IP.  We expect our headcount reduction to be completed by the end of fiscal 2018 and we currently anticipate that the majority of these departing employees will be from our research and development group for the Connected Smart TV Platforms market. Restructuring liabilities are reported within accrued liabilities on the condensed consolidated balance sheets.

 

During the three and six months ended July 29, 2017, we communicated a plan of termination to several employees, which consisted of headcount reductions mainly in our Europe and North America operations. A summary of the recent activities of our restructuring plan is as follows (in thousands):

 

		Severance
Charges for the three months ended April 29, 2017		$	243
Cash payments			(5	)
Accrued balance as of April 29, 2017			238
Charges for the three months ended July 29, 2017			1,723
Cash payments			(364	)
Accrued balance as of July 29, 2017		$	1,597
Total cost incurred to date as of July 29, 2017		$	1,966

 

In addition, we recorded an impairment charge for purchased IP not yet deployed of zero and $3.0 million for the three and six months ended July 29, 2017, respectively, as we no longer intend to use this IP. Our restructuring measures could negatively impact our revenue and results of operations in the future as a result of less employees developing future products and working to sell our products.

 

Impairment of IP, mask sets and design tools

 

We test long-lived assets, including our purchased intangible assets, for impairment whenever events or changes in circumstances, such as a change in technology, indicate that the carrying value of these assets may not be recoverable. If indicators of impairment exist, we determine whether the carrying value of an asset or asset group is recoverable, based on comparisons to undiscounted expected future cash flows that the assets are expected to generate. If an asset is not recoverable, we record an impairment loss equal to the amount by which the carrying value of the asset exceeds its fair value. We primarily use the income valuation approach to determine the fair value of our long-lived assets and purchased intangible assets. We also periodically review our current assets for other-than-temporary declines in fair-value based on the specific identification method and write-down the carrying value when an other-than temporary decline has occurred.

 

Our business requires investment in purchased IP, mask sets and design tools that are technologically advanced but can quickly become significantly underutilized or rendered obsolete by rapid changes in demand in the semiconductor industry. We periodically review our purchased IP, mask sets and design tools for possible impairment or whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable. We recorded zero and $3.0 million of impairment charges related to certain purchased IP during the three and six months ended July 29, 2017, respectively. During the three and six months ended July 30, 2016, we recorded impairment charges of $0.3 million.

 

 

Interest and other (expense) income, net

 

The following table sets forth net interest and other (expense) income and the related change (in thousands, except percentages):

 

		Three Months Ended												Six Months Ended
		July 29, 2017				% change				July 30, 2016				July 29, 2017				% change				July 30, 2016
Interest and other (expense) income, net		$	(758	)			(283%	)		$	415			$	(1,223	)			264	%		$	(336	)

 

Interest and other (expense) income primarily consist of interest income from marketable securities, income from refundable research and development credits, gains or losses on foreign exchange transactions, gains or losses on sales of marketable securities, and gains or losses on disposals of software, equipment and leasehold improvements. Interest and other expense increased during the three and six months ended July 29, 2017, as compared to the corresponding periods in the prior fiscal year. The increase for both periods was primarily due to unfavorable changes in foreign currency fluctuations.

 

Provision for income taxes

 

We recorded a provision for income taxes of $1.0 million and $1.8 million for the three months ended July 29, 2017 and July 30, 2016, respectively.  The provision for income taxes was $2.0 million and $3.1 million for the six months ended July 29, 2017 and July 30, 2016, respectively. The decrease in tax expense for the three and six months ended July 29, 2017 is primarily attributable to lower profitability in taxable jurisdictions as compared to the same period in fiscal year 2017 and changes in tax reserves. During the three and six months ended July 29, 2017 and July 30, 2016, we were unable to reasonably project our annual effective tax rate, and therefore computed our provision for income taxes based on year-to-date actual financial results. Included in our provision for income taxes are foreign exchange gains or losses on unsettled income tax liabilities.

 

 

Liquidity and Capital Resources

 

As of July 29, 2017, our principal sources of liquidity consisted of cash and cash equivalents and short-term marketable securities of $67.2 million, which represents approximately $1.75 per share of outstanding common stock as compared to $1.87 as of January 28, 2017. Working capital as of July 29, 2017 was $77.4 million. Total cash and cash equivalents decreased by $0.5 million compared to January 28, 2017, primarily due to $13.0 million of net loss after non-cash adjustments of $14.6 million and purchases of tangible and intangible assets of $9.7 million, partially offset by favorable changes in operating assets and liabilities of $17.3 million and net sales and maturities of marketable securities and long-term investment of $3.7 million.

 

We believe our existing balances of cash, cash equivalents and marketable securities will be sufficient to satisfy our working capital needs, capital asset purchases, outstanding commitments and other liquidity requirements associated with existing operations over the next 12 months.

 

The following table sets forth the primary net cash inflows and outflows (in thousands):

 

		Six Months Ended
		July 29, 2017				July 30, 2016
Net cash provided by (used in):
Operating activities		$	4,288			$	2,733
Investing activities			(5,994	)			755
Financing activities			1,098				1,140
Effect of foreign exchange rate changes on cash and cash equivalents			95				(65	)
Net decrease in cash and cash equivalents		$	(513	)		$	4,563

 

Cash flows from operating activities

 

Net cash provided by operating activities of $4.3 million for the six months ended July 29, 2017 was primarily due to a favorable net change of $17.3 million in operating assets and liabilities, partially offset by $13.0 million of net loss after non-cash adjustments of $14.6 million, such as stock-based compensation expense, impairment of IP, depreciation and amortization. The increase in cash flow from operating activities during the six months ended July 29, 2017 as compared to the corresponding period in fiscal 2017, was primarily due to an increase in the net change in operating assets and liabilities of $21.1 million. This was partially offset by an increase in net loss of $17.7 million. The favorable changes in operating assets and liabilities were primarily driven by the timing of collections and payments.

 

Cash flows from our operating activities will continue to fluctuate based upon our ability to grow net revenues while reducing our costs and managing the timing of payments to us from customers and to vendors from us, the timing of inventory purchases and subsequent manufacture and sale of our products.

 

Cash flows from investing activities

 

Net cash used in investing activities was $6.0 million for the six months ended July 29, 2017, which was primarily due to purchases of IP and software, equipment and leasehold improvements of $3.2 million and $6.5 million, respectively, partially offset by net sales and maturities of marketable securities and long-term investment of $3.7 million. Purchases of intangible and tangible property were primarily to support the development and advancement of emerging technologies within our target markets.

 

For the six months ended July 29, 2017, net cash used in investing activities was $6.0 million compared to net cash provided by investing activities of $0.8 million during the corresponding period in fiscal 2017. The change was primarily due to higher purchases of tangible property and equipment of $3.8 million. In addition, we received reimbursement of costs related to purchased IP of $2.2 million during the six months ended July 30, 2016, with no corresponding reimbursement during the six months ended July 29, 2017. 

 

 

Cash flows from financing activities

 

Net cash provided by financing activities was $1.1 million for the six months ended July 29, 2017, which was due to the proceeds from the exercise of employee stock options and stock purchase rights, partially offset by employee payroll taxes paid related to net share settlement of restricted stock units. Net cash provided by investing activities remained flat as compared to the corresponding period in fiscal 2017.

 

Our marketable securities primarily include corporate bonds, fixed income mutual funds and money market funds.  We monitor all of our marketable securities for impairment and if these securities are reported to have had a decline in fair value, we may need to use significant judgment to identify events or circumstances that would likely have a significant adverse effect on the future value of each investment including: (i) the nature of the investment; (ii) the cause and duration of any impairment; (iii) the financial condition and near term prospects of the issuer; (iv) for securities with a reported decline in fair value, our ability to hold the security for a period of time sufficient to allow for any anticipated recovery of fair value; (v) the extent to which fair value may differ from cost; and  (vi) a comparison of the income generated by the securities compared to alternative investments. If a decline in the fair value of our marketable securities is judged to be other-than-temporary, we would recognize an impairment charge.

 

Off-Balance Sheet Arrangements

 

As of July 29, 2017, we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.

 

Contractual obligations and commitments

 

We generally do not have guaranteed price or quantity commitments from any of our suppliers.  Additionally, we generally acquire products for sale to our customers based on purchase orders received as well as forecasts from such customers.  Purchase orders with delivery dates greater than twelve weeks are typically cancelable without penalty to our customers.  We currently place non-cancelable orders to purchase semiconductor wafers, other materials and finished goods from our suppliers on an eight to twelve week lead-time basis. For further discussion, refer to Note 6, “Commitments and contingencies” of the Notes to the unaudited condensed consolidated financial statements of this Form 10-Q included in Item 1 of this report.

 

The following table sets forth the amounts of payments due under specified contractual obligations as of July 29, 2017 (in thousands):

 

		Payments due by Period
		Fiscal 2018 (Remaining six months)				Fiscal 2019 - 2020				Fiscal 2021 - 2022				Thereafter				Total
Operating leases		$	2,024			$	5,136			$	2,261			$	-			$	9,421
Third-party licensed IP			3,263				1,942				-				-				5,205
Design tools			1,807				4,740				198				-				6,745
Non-cancelable purchase obligations			14,323				-				-				-				14,323
Total contractual obligations		$	21,417			$	11,818			$	2,459			$	-			$	35,694

   

 

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

There has been no significant change in our exposure to market risk since January 28, 2017.

 

The following discussion about our market risk disclosures involves forward-looking statements.  Actual results could differ materially from those projected in the forward-looking statements.  We face exposure to market risk from adverse movements in interest rates and foreign currency exchange rates, which could impact our operations and financial condition.  In the past, to mitigate some of the foreign currency exchange rate risk, we utilized derivative financial instruments to hedge certain foreign currency exposures.  However, we discontinued this practice in fiscal 2015 as we determined the balance sheet exposure to be relatively low based on the factors described below.

 

Interest rate sensitivity:  As of July 29, 2017 and January 28, 2017, we held approximately $67.2 million and $71.2 million, respectively, of cash, cash equivalents and short-term marketable securities.  If short-term interest rates were to decrease 10%, the decreased interest income associated with these cash, cash equivalents and marketable securities would not have a significant impact on our net loss and cash flows.

 

Foreign currency exchange rate sensitivity: We transact our revenue in U.S. dollars.  The U.S. dollar is our reporting currency and is our functional currency except for our subsidiaries in China, Denmark, Japan, Taiwan, South Korea, Vietnam, France, Germany, and The Netherlands where the Chinese Yuan, Danish krone, Japanese yen, Taiwanese dollar, Korean won, Vietnamese dong and the Euro are the functional currencies, respectively.  Additionally, significant portions of our Israel subsidiary’s expenses are payroll-related and are denominated in Israeli shekels.  This foreign currency exposure gives rise to market risk associated with exchange rate movements of the U.S. dollar against the Israeli shekel.  To the extent the U.S. dollar weakens against the Israeli shekel, our Israeli subsidiary will experience a negative impact on its results of operations.

 

As of July 29, 2017 and January 28, 2017, we did not have any foreign exchange forward contracts to hedge certain balance sheet exposures and inter-company balances against future movements in foreign exchange rates.

 

We maintain certain cash balances denominated in the Chinese Yuan, Danish krone, Euro, Japanese yen, Hong Kong dollar, Israeli shekel, Singapore dollar, Taiwanese dollar, Korean won and Vietnamese dong.  If foreign exchange rates were to weaken against the U.S. dollar immediately and uniformly by 10% from the exchange rates at July 29, 2017 and January 28, 2017, the fair value of these foreign currency amounts would decline and we would record a charge of approximately $1.1 million and $0.8 million, respectively.

 

ITEM 4.  CONTROLS AND PROCEDURES

 

Evaluation of Disclosure Controls and Procedures

 

We are committed to maintaining disclosure controls and procedures designed to ensure that information required to be disclosed in our periodic reports filed under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating our disclosure controls and procedures, we recognize that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and we necessarily are required to apply our judgment in evaluating the cost-benefit relationship of possible controls and procedures and implementing controls and procedures.

 

As of July 29, 2017, the end of the period covered by this Quarterly Report on Form 10-Q, we have, with the participation of our Chief Executive Officer and Chief Financial Officer evaluated the effectiveness of the design and effectiveness of our disclosure controls and procedures, as such terms are defined in Rule 13a-15(e) and Rule 15d-15(e) under the Securities and Exchange Act of 1934 as amended (the “Exchange Act”).  Based on this evaluation, we have concluded that our disclosure controls and procedures were effective as of July 29, 2017.

 

Changes in Internal Control Over Financial Reporting

 

There has been no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the period covered by this Quarterly Report on Form 10Q that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

  

 

PART II.  OTHER INFORMATION

 

ITEM 1.  LEGAL PROCEEDINGS

 

For a discussion of legal proceedings, see Note 6, “Commitments and contingencies,” in the Notes to our condensed consolidated financial statements, included in Part I, Item 1, of this Form 10-Q.

 

ITEM 1A.  RISK FACTORS

 

In July 2017, we announced the engagement of a financial advisor to assist in our exploration of strategic alternatives that may enhance shareholder value. There can be no assurance that this exploration will result in a transaction, or that if a transaction does occur, that it will successfully enhance shareholder value. In addition, our business could be negatively affected by the announcement that we are exploring strategic alternatives.

 

On July 26, 2017, we announced that our board of directors had engaged a financial advisor to assist in our exploration of strategic alternatives that may enhance shareholder value. These alternatives may include continuing to operate as a standalone company. There can be no assurance that this process will result in a strategic transaction, or that if a transaction does occur, that it will successfully enhance shareholder value. In addition, the announcement that we have commenced a review of strategic alternatives may create uncertainty about our prospects as an independent business entity, cause concern to our current or potential customers and partners, and make it more difficult to attract and retain qualified executive and other key personnel. If customers choose to reduce spending with us or do business with our competitors instead of us because of any such issues or perceptions, then our business, operating results and financial condition would be adversely affected. The review process may also be costly, time-consuming, disrupt our operations, divert the attention of management and our employees or result in changes in our management team or our board of directors, all of which could materially and adversely affect our operations and operating results. In addition, our stock price may experience periods of increased volatility as a result of these activities or related rumors and speculation.

 

Except as disclosed above, there has been no material changes in the risk factors previously disclosed in “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended January 28, 2017.

 

ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

None.

 

ITEM 3.  DEFAULTS UPON SENIOR SECURITIES

 

None.

 

ITEM 4.  MINE SAFETY DISCLOSURES

 

None.

 

ITEM 5.  OTHER INFORMATION

 

None.

 

ITEM 6.  EXHIBITS

 

The required exhibits are included at the end of the Form 10-Q or are incorporated herein by reference and are described in the Index to Exhibits immediately following the signatures page.

   

 

SIGNATURES

 

Pursuant to the requirement of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

	SIGMA DESIGNS, INC.
Date: September 7, 2017
	By:	/s/ Thinh Q. Tran
		Thinh Q. Tran
		President and Chief Executive Officer (Principal Executive Officer)
	By:	/s/ Elias N. Nader
		Elias N. Nader
		Senior Vice-President, Chief Financial Officer and Secretary (Principal Financial and Accounting Officer)

   

 

EXHIBIT INDEX

 

31.1

Certification of the President and Chief Executive Officer pursuant to Exchange Act Rule 13a-14(a) or 15d-14(a), as adopted pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002.

 

31.2

Certification of the Chief Financial Officer and Secretary pursuant to Exchange Act Rule 13a-14(a) or 15d-14(a), as adopted pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002.

 

32.1

Certificate of President and Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.  (1)

 

32.2

Certificate of Chief Financial Officer and Secretary pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.  (1)

 

101.INS XBRL Instance Document.

101.SCH XBRL Taxonomy Extension Schema Document.

101.CAL XBRL Taxonomy Extension Calculation Linkbase Document.

101.DEF XBRL Taxonomy Extension Definition Linkbase Document.

101.LAB XBRL Taxonomy Extension Label Linkbase Document.

101.PRE XBRL Taxonomy Extension Presentation Linkbase Document.

 

  

(1)  The certificates contained in Exhibits 32.1 and 32.2 are not deemed “filed” for purposes of Section 18 of the Securities and Exchange Act of 1934 and are not to be incorporated by reference into any filing of the registrant under the Securities Act of 1933 or the Securities Exchange Act of 1934, whether made before or after the date hereof irrespective of any general incorporation by reference language contained in any such filing, except to the extent that the registration specifically incorporates it by reference.

 

 

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