ITEM 1. BUSINESS
GENERAL
Conexant Systems, Inc. ("Conexant" or the "Company") is the world's largest independent company focused exclusively on providing semiconductor products and system solutions for a wide variety of communications electronics. With more than 30 years of experience in developing communications products, Conexant draws upon its expertise in mixed-signal processing technology to deliver semiconductor integrated circuit products and system-level solutions for a broad range of communications applications. These products facilitate communications worldwide through wireline voice and data communications networks, cordless and cellular wireless telephony systems, personal imaging devices and equipment, and emerging cable and wireless broadband communications networks. The Company operates in two business segments: the Personal Networking business and the Internet Infrastructure business.
On December 31, 1998, Conexant became an independent, separately traded, publicly-held company when Rockwell International Corporation ("Rockwell") spun off its wholly-owned subsidiary, Conexant, by means of a distribution (the "Distribution") of all the outstanding shares of common stock of Conexant to the shareholders of Rockwell in a tax-free spin-off. Prior to the Distribution, Conexant (formerly named Rockwell Semiconductor Systems, Inc.), together with certain other subsidiaries of Rockwell, operated Rockwell's semiconductor systems business ("Semiconductor Systems"). As part of the Distribution, Rockwell transferred to the Company the assets and liabilities of Semiconductor Systems not already owned by the Company, including the stock of certain subsidiaries, and Conexant transferred to Rockwell all assets and liabilities not constituting part of Semiconductor Systems, including all assets and liabilities of Rockwell's electronic commerce business. Conexant was incorporated as Rockwell Semiconductor Systems, Inc. in Delaware on September 16, 1996, and changed its name to Conexant Systems, Inc., on October 14, 1998. All references herein to Conexant or the Company for periods prior to the Distribution include Semiconductor Systems.
On September 13, 2000, Conexant announced a plan to spin off its Internet Infrastructure business ("Spinco") through a two-step process. The first step will consist of an initial public offering of common stock of Spinco targeted for January 2001. After completion of the initial public offering, Conexant will continue to own a majority of Spinco's outstanding common stock and a majority of the voting power of Spinco's outstanding common stock. In the second step, Conexant intends, within several months after Spinco's initial public offering, subject to the satisfaction of certain conditions, to distribute to its shareholders all of the shares of Spinco's common stock that Conexant owns. However, there can be no assurance that the initial public offering or the spin-off will be successfully completed.
PERSONAL NETWORKING BUSINESS
The Personal Networking business designs, develops and sells semiconductor products and system solutions in four general personal communications applications markets -- Personal Computing, Personal Imaging, Digital Infotainment and Wireless Communications. Personal Computing products include telephony-based communications solutions for personal computing terminals and other communication devices such as gaming consoles, web browsers and handheld devices. Personal Imaging products consist of semiconductor and software products that enable image capture, processing and output for fax machines, printers and digital still and video cameras. Digital Infotainment products include semiconductor solutions that perform communication and media processing functions within a variety of information and entertainment platforms. Wireless Communications products are comprised of components, subsystems and system-level semiconductor solutions for wireless voice and data communication applications, including digital cellular handsets and base stations, cordless telephones and global positioning system ("GPS") receivers.
Personal Computing
Personal Computing products include telephony-based communications solutions for personal computing terminals and other communications devices such as gaming consoles, web browsers and handheld devices.
The Company is the world's leading supplier of V.90 dial-up modem chipsets to modem subsystem manufacturers who supply modems to personal computer ("PC") original equipment manufacturers ("OEMs") and retail modem markets. To provide a broader range of modem products to its customers, the Company is supplying mixed-signal intensive, controllerless modem chipsets and software modem solutions which take advantage of the increasing power of PC central processors and use software to perform functions traditionally enabled by semiconductor components. In addition, the Company has transitioned its V.90 dial-up modem technology to other end-user products and is a leading supplier of embedded modems for a host of emerging Internet appliances.
Further, Cisco Systems and Conexant each contributed key technologies toward the new V.92 modem specification. The V.92 standard provides a number of features including QuickConnect(TM) which improves how quickly users can connect with internet service providers ("ISPs") and modem-on-hold, which enables users to suspend and re-activate their dial-up connection to either receive or initiate a call, without having to implement the entire dial-up sequence. The V.92 standard also includes a capability called pulse code modulation ("PCM") upstream, which boosts the upstream data rates from the user to the ISP to reduce transfer times for large files and e-mail attachments sent by the user. In November 2000, the Company endorsed the International Telecommunications Union ("ITU") ratification in favor of a final set of V.92 modem specifications.
The Company has also developed integrated audio/modem solutions which combine highly-integrated semiconductor hardware solutions with audio software products. Additionally, Personal Computing offers home networking products that enable personal communications devices to share data, voice and video utilizing existing telephone lines, coaxial cable, power line and wireless links.
Capitalizing on its core mixed-signal processing technologies and its digital subscriber line ("DSL") technology, the Company has begun volume shipments of full rate and G.lite asymmetric DSL ("ADSL") modem chipsets permitting broadband digital transmission of data, voice and video over existing standard telephone lines at speeds of up to 8 megabits per second ("Mbps").
Personal Imaging
Personal Imaging products consist of semiconductor and software products that enable image capture, processing and output for fax machines, printers and digital still and video cameras. The market for integrated image-communications systems is rapidly emerging, driven by increased demand for color documents, print quality improvements, new digital-video applications and integration with the Internet. The Company provides system-level solutions in support of these applications.
The Company's fax modem products, which are found in three out of every four fax machines in the world, include the industry's broadest portfolio of highly integrated single-chip fax modems and engines. The Company has expanded its fax modem product line to address multifunction peripheral systems ("MFPs") by combining fax, print, copy and scan capabilities into a highly-integrated chipset. This complete, scalable solution supports the full range of capture-to-copy functionality, including a MFP controller, a fax modem and a printer interface application specific integrated circuit ("ASIC"), along with comprehensive reference designs and a full suite of embedded firmware and software.
Capitalizing on core imaging technologies originally developed by Rockwell's Science Center, the Company offers a family of complementary metal oxide semiconductor ("CMOS") image sensors, camera engines, software, and reference designs for PC teleconferencing and digital still and video cameras. In May 2000, the Company acquired Sierra Imaging, Inc. ("Sierra") to accelerate participation in the CMOS imaging market. The combination of Sierra's "back-end" digital image processors and image management software, together with Conexant's "front-end" CMOS image sensors, offers digital camera manufacturers the industry's first complete silicon-based digital camera solution. The Company's solutions also provide the
enabling technology for new imaging functionality in personal communications platforms such as personal digital assistants ("PDAs"), web browsers and cell phones, each of which draws on the Company's broad portfolio of core communications technologies. In addition to CMOS imaging sensors and back-end processors, Personal Imaging is investing in next generation MFP chipsets.
Digital Infotainment
Digital Infotainment products include semiconductor solutions that perform communication and media processing functions within a variety of information and entertainment platforms. The Company offers a variety of key silicon-based products including video encoders/decoders, MPEG processors and single-chip cable modems, as well as satellite, cable and fixed wireless receiver tuners and demodulators.
The Company is a leading supplier of semiconductor system solutions that deliver television and radio broadcasts to mainstream PCs. The Company's video encoder and decoder portfolio has enabled millions of analog PC video and television cards. More recent products are turning the PC into an interactive platform for true high-definition TV ("HDTV") applications. In January 2000, the Company acquired the wireless broadband business unit of Oak Technology, Inc. to extend its reach into the digital terrestrial TV broadband communications arena. Additionally, the Company provides a significant portion of the electronics and software contained in set-top box receivers that can operate in multiple interactive network environments. The Company's set-top box-oriented portfolio includes tuners, demodulators, encoders, decoders and back channel telephony solutions.
Further, the Company has developed and commenced volume shipment of the industry's first North American Data Over Cable Service Interface Specification ("DOCSIS") certified single chip cable modem architecture supporting the peripheral component interconnect ("PCI") interface. The Company's cable modem portfolio also supports the universal serial bus ("USB") and Ethernet interfaces, as well as solutions for European DOCSIS and digital video broadcasting ("DVB") applications.
The Company is building a comprehensive broadband portfolio for a range of new applications including interactive digital set-top boxes and telephony over cable. Digital Infotainment is positioned to address these applications as a variety of broadband access, delivery and display technologies converge on the PC and other consumer-electronics platforms.
Wireless Communications
Wireless Communications products are comprised of components, subsystems and system-level semiconductor solutions for wireless voice and data communication applications, including digital cellular handsets and base stations, cordless telephones and GPS receivers. The Company's solutions span the full range of the world's most widely adopted wireless protocols in both multiband and multimode configurations, including:
- Global System for Mobile Communications ("GSM");
- Code Division Multiple Access ("CDMA"); and
- Time Division Multiple Access ("TDMA").
Within GSM, the world's most prevalent cellular standard, the Company offers power amplifiers, radio frequency subsystems and complete antenna-to-microphone system solutions supporting both the 900 MHz and 1800 MHz GSM bands. The Company's GSM system solution combines a power amplifier and controller, a radio frequency ("RF") transceiver, a power management integrated circuit ("IC"), a signal converter and a baseband processor, all in a single solution along with GSM protocol stack software, an applications programming interface, a real-time operating system, a complete man-machine interface and device drivers. Additionally, the Company provides GSM RF components for wireless infrastructure applications. For CDMA and TDMA protocols, the Company provides a full suite of power amplifiers and RF subsystems and is an industry leader in supplying CDMA power amplifiers.
The Company's complete system chipset for digital spread spectrum cordless phones has been designed into handsets and base stations of leading cordless phone manufacturers. The Company has combined its
cordless expertise with other wireless data technologies, such as the rapidly emerging Bluetooth(TM)(1) standard for short-reach wireless connectivity to help phone manufacturers shape home-based wireless communications. Additionally, the Company continues to build on its wireless technology leadership by offering GPS receiver solutions for handheld receivers and advanced emergency locator systems for automotive and marine applications, as well as for cellular phone integration.
In May 2000, the Company acquired Philsar Semiconductor Inc. ("Philsar"), a developer of RF semiconductor solutions for personal wireless connectivity, including emerging standards such as Bluetooth(TM) and RF components for third generation ("3G") digital cellular handsets. Philsar's competencies, augmented by Conexant's technology portfolio and extensive design and manufacturing resources position Wireless Communications to address the convergence of voice and data services in next generation wireless terminals and infrastructure systems.
INTERNET INFRASTRUCTURE BUSINESS
The Internet Infrastructure business designs, develops and sells semiconductor products and system solutions for some of the highest growth segments of the broadband communications market including broadband access, multi-service access and wide area network ("WAN") transport. The Company's broad product portfolio allows it to provide network infrastructure OEMs with system level semiconductor solutions including multi-service access and high-speed DSL products used in a variety of network access platforms such as remote access concentrators, voice gateways, digital loop carriers, DSL access multiplexers and integrated access devices. The Company also provides network infrastructure OEMs with an extensive family of communication solutions that support the aggregation, transmission and switching of data, video and voice from the edge of the network to the optical backbone, including T/E carrier, asynchronous transfer mode ("ATM") and synchronous optical networking ("SONET")/synchronous digital hierarchy ("SDH") products and network processors. These products are used in a variety of network equipment including high-speed routers, ATM switches, optical switches, add-drop multiplexers and digital cross-connect systems.
The Company has developed one of the industry's broadest lines of multi-megabit DSL transceivers for high bit-rate DSL ("HDSL"), symmetric DSL ("SDSL"), symmetric high bit-rate DSL ("SHDSL"), and ADSL connectivity in commercial applications. The Company's HDSL products facilitate deployment of high-speed T/E transmission lines by eliminating the need for repeaters and other line conditioning equipment. The Company's family of SDSL products provides incumbent and competitive local exchange carriers the ability to deliver Internet access at various rates and to support telecommuting and branch office functions. Additionally, the Company has developed a low-power, multi-port DSL product utilizing the next generation DSL standard called G.shdsl, which enables simultaneous voice and data communications for worldwide DSL applications. This variable rate product is compatible with pre-existing transport systems based on the prevailing 2B1Q modulation standard. The AccessRunner(TM) central-office ADSL modem device set offers full-rate and G.lite functionality with extended reach and full compliance with industry standards. These products support downstream data rates of up to 8 Mbps (full-rate) and 1.5 Mbps (G.lite) and upstream data rates of up to 1 Mbps (full-rate) and 512 kilobits per second ("Kbps") (G.lite).
The Company is a leading supplier of multi-service access ("MSA") processors which are used in a variety of access platforms, including remote access concentrators, voice gateways, private branch exchanges, digital loop carriers and integrated access devices. The Company's AnyPort(TM) MSA processors are software configurable to implement a variety of services including dial-up and dedicated Internet access, wholesale Internet access provisioned for ISPs, voice-over-Internet Protocol, voice-over-ATM, voice-over-DSL, Internet fax, wireless and multicast-based services. The AnyPort architecture combines the performance of digital signal processors with the flexibility of Advanced RISC Machines' microcontrollers to support the Company's extensive suite of field proven modulations, echo cancellers, speech coders and communications protocols.
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(1) The Bluetooth(TM) trademarks are owned by Telefonaktiebolaget LM Ericsson, Sweden, and licensed to Conexant Systems, Inc. and Philsar Semiconductor Inc.
The Company offers one of the industry's broadest portfolios of WAN physical and link layer communications products to aggregate and transport data, video and voice from network access to the optical backbone, including T1/E1 and T3/E3 carrier, ATM and SONET/SDH products. The Company's T1/E1 and T3/E3 carrier solutions enable digital communications over twisted copper wire and include dual, triple and quad framers and line interface units ("LIUs") for 1.5 Mbps to 45 Mbps data transmission as well as multi-channel high-level data link channel ("HDLC") protocol controllers. The Company also provides broadband internetworking products, including ATM physical layer and segmentation and reassembly ("SAR") devices supporting 155 and 622 Mbps applications. As the Company's customers move toward greater levels of product integration, Conexant's ATM technology is being increasingly combined with its T/E carrier chipsets, HDLC devices, multi-service access processors and DSL products to create complete system-level solutions.
For the WAN core, the Company is aggressively building a broad portfolio of end-to-end transmission products used in fiber-optic network equipment. The Company's portfolio of optical networking physical layer solutions spans the entire spectrum of transceiver products, from 155 Mbps (OC-3) to 10 gigabits per second ("Gbps") (OC-192) speeds, in support of SONET/SDH applications. Optical networking products include laser drivers, transimpedance amplifiers, post amplifiers, clock and data recovery circuits, serializers and deserializers, cross-point switches and broadband access multiplexers. The Company's physical and link layer products are complemented by high performance network processors, which are designed to offer advanced switching and routing capabilities normally performed by complex ASICs. These software-programmable integrated circuits are also designed to combine the real-time control and management capabilities of an embedded processor to support scalable system designs. The advanced capabilities offered by network processors include multi-protocol switching to enable integrated local area network ("LAN")/WAN systems, multi-layer programmable switching and routing capabilities to support policy-based traffic management, and programmable quality of service for traffic prioritization across disparate networks.
The Company also offers a comprehensive set of software subsystems that support next-generation, carrier-class network infrastructure equipment. These software subsystems span the technologies of Internet protocol ("IP"), ATM, multiprotocol label switching ("MPLS") and voice-over-ATM. In addition to protocol systems, the Company also offers several software infrastructure modules that improve OEMs' time-to-market. Combined with extensive documentation and software tooling, this suite of software systems has been deployed by several OEMs in a number of networks worldwide.
During fiscal 2000, the Company completed six acquisitions with an aggregate value of $1.6 billion to accelerate development efforts and fill technology gaps in its Internet Infrastructure product portfolio. In January 2000, the Company acquired Microcosm Communications Limited ("Microcosm"), a technology leader in the field of fiber optic communications. In March 2000, the Company acquired Maker Communications, Inc. ("Maker"), a company that develops and markets programmable network processors, software solutions and development tools. In June 2000, the Company acquired HotRail, Inc. ("HotRail"), a developer of high-speed switching, interconnect and scalable processing solutions for networking systems. During fiscal 2000, the Company also completed the acquisitions of Applied Telecom, Inc. ("Applied Telecom") and NetPlane Systems, Inc. ("NetPlane"), each engaged in the development of communications software, and Novanet Semiconductor Ltd. ("Novanet"), focused on optical networking product development.
Internet Infrastructure research and development investment is focused on developing solutions to support optical framing/mapping functions, edge and core network processors, scalable switch fabrics, OC-768 or 40 Gbps transceivers, multi-port G.shdsl, and next generation multi-service access processors that offer increased performance, higher density and lower power consumption for specific target platforms.
COMPANY STRATEGY
The Company's strategy is to provide highly-valued, differentiated products for wireline voice and data communications, cordless and cellular wireless telephony systems and emerging telephony, cable and wireless broadband communications networks by leveraging competencies in signal conversion, signal processing,
communications algorithms and protocols and applications software. Key elements of the Company's strategy include:
Core Technology The Company believes that executing a core technology strategy, which deploys technology building blocks such as digital signal processors ("DSPs"), radio frequency integrated circuits ("RFICs"), mixed-signal processing cores and software across multiple product platforms, is fundamental to its growth objectives. This strategy enables creation of economies of scale in research and development and facilitates a reduction in the time-to-market for its key products. The Company intends to extend its technology portfolio and, in parallel, seek alliances to gain access to critical intellectual property, thereby ensuring continued agility and flexibility to meet changing market and technology requirements.
Manufacturing Excellence The Company intends to maintain access to leading edge, high-volume semiconductor design and wafer manufacturing processes including CMOS, bipolar, bipolar CMOS ("BiCMOS"), RF CMOS, gallium arsenide ("GaAs") and silicon germanium ("SiGe") that are the driving force behind today's smaller, more integrated, lower power and lower cost devices. In addition, the Company will continue to follow a balanced manufacturing strategy of internal wafer fabrication production augmented by external foundries to optimize capacity availability while seeking to reduce capital and operating infrastructure requirements.
Time-to-Market Through integrated engineering and manufacturing teams, the Company pursues the rapid design and cost-effective production of semiconductor system solutions for its targeted markets. The Company believes that the combination of design expertise and wafer fabrication and assembly capability allows the Company to develop prototypes in a shorter amount of time relative to its competitors.
System Solution Focus The Company seeks to capitalize on its design capabilities and communications systems knowledge by providing suppliers of communications electronics products with complete semiconductor system solutions. High levels of integration allow the Company to enhance the benefits of its products by reducing production costs through fewer external components, reduced board space and improved system assembly yields. By combining all of the necessary communication functions for a complete system solution, the Company can deliver additional semiconductor content, thereby offering its existing and potential customers more compelling and cost-effective solutions.
Customer Intimacy The Company believes a business partnership approach yields maximum value to the customer through multi-level organizational engagement and product roadmap alignment. Further, the Company believes that the strength of its relations with leading customers in each of its markets is a competitive advantage that enables it to more effectively target its research and development investments. The Company has established relationships with market leaders in each of its addressed markets and will seek to build upon its existing leadership market positions and gain market share in new high-growth markets by continuing to work closely with industry leading system and service providers. This strategy provides the Company with rapid feedback from customers during the design process and increases the likelihood that products will meet customers' cost and performance requirements for high-volume applications.
RESEARCH AND DEVELOPMENT
The Company has significant research, development, engineering and product design capabilities. At September 30, 2000, the Company employed approximately 2,000 engineers working at 28 design centers worldwide. The Company's design centers provide design engineering and product application support as well as after-sales customer service. The design centers are strategically located around the world to be in close proximity to the Company's OEM customers and to take advantage of key technical and engineering talent worldwide.
The Company incurred research and development expenses of approximately $414.5 million, $310.0 million, and $342.3 million in fiscal 2000, 1999, and 1998, respectively.
MANUFACTURING
The Company operates its own manufacturing, assembly and test facilities. These facilities include two wafer fabrication facilities, an IC assembly and test facility and a module assembly and test facility. The Company also has arrangements with third parties, including entities outside the United States, for the production, assembly and testing of certain semiconductor products. The Company's assembly and test facility in Mexicali, Mexico and international subcontract manufacturing arrangements are subject to a number of risks of operating abroad.
The Company's major manufacturing facilities include:
The primary wafer fabrication facility, located in Newport Beach, California, consists of approximately 130,000 square feet. The Company manufactures GaAs products at its wafer fabrication facility located in Newbury Park, California.
The Company owns an approximately 198,000 square foot assembly and test facility in Mexicali, Mexico, which has been in operation for over 25 years. The Mexicali facility assembles semiconductor die from the Company's wafer fabrication facilities and outside foundry sources into various types of chipset packages and tests the packages using automatic test equipment with a full range of analog, digital and radio frequency capability. This facility is ISO 9002 certified and focuses on high-volume, industry standard plastic packaging but has the capability to manufacture a wide variety of high- and low-volume and specialized packages using conventional and proprietary assembly techniques.
The Company operates a fully-integrated electronic module design and assembly facility in El Paso, Texas, consisting of approximately 133,000 square feet of leased manufacturing space. This facility provides full turnkey design capabilities and the ability to manufacture and test standard and custom products ranging from prototypes to high-volume production. At this facility, the Company integrates its semiconductor chipset devices into electronic modules, such as internal cards for PCs and digital infotainment equipment and standard PCMCIA interface cards, as well as custom products and complete, market-ready systems. This facility has been ISO 9002 certified since 1993. See Item 2, "Properties".
RAW MATERIALS AND SUPPLIES
The Company believes it has adequate sources for the supply of raw materials and components for its manufacturing needs with suppliers located around the world. Raw wafers and other raw materials used in the production of the Company's CMOS products are available from several suppliers. The Company is currently dependent on two suppliers for epitaxial wafers used in the GaAs semiconductor manufacturing processes at its Newbury Park, California facility.
CUSTOMERS, MARKETING AND SALES
The Company markets and sells its semiconductor products and system solutions directly to leading OEMs of communication electronics products and third-party electronic manufacturing service providers, and
indirectly through electronic components distributors. Selected direct and indirect OEM customers include the following:
Personal Networking
Internet Infrastructure
- --------------- * Indirect OEM customer
The Company has a worldwide sales organization comprised of approximately 300 employees as of September 30, 2000, with 13 domestic and 20 international sales offices. To complement its direct sales and customer support efforts, the Company also sells its products through approximately 47 independent manufacturers' representatives and approximately 39 distributors and dealers. In addition, the Company's design and applications engineering staff is actively involved with customers during all phases of design and production and provides customer support through the Company's worldwide sales offices, which are generally in close proximity to customers' facilities.
The Company continues to seek close technical collaboration with its customers during the design phase of new programs to facilitate integration of the Company's products into such programs, to improve the Company's ability to rapidly reach high manufacturing volumes, and to position the Company to be a primary supplier for new programs.
BACKLOG
The Company's sales are made primarily pursuant to standard purchase orders for delivery of products, with such purchase orders officially acknowledged by the Company according to its own terms and conditions. Due to industry practice, which allows customers to cancel orders with limited advance notice to the Company prior to shipment, the Company believes that backlog as of any particular date is not a reliable indicator of future revenue levels.
COMPETITION
The communications semiconductor industry in general, and the markets in which the Company competes in particular, are intensely competitive. The Company competes worldwide with a number of U.S. and international suppliers that are both larger and smaller than the Company in terms of resources and
market share. The Company anticipates that additional competitors will enter its markets and expects intense product competition to continue.
The specific bases on which the Company competes vary by market. The Company believes that the principal competitive factors for semiconductor suppliers in each of its addressed markets are:
- time-to-market;
- product performance;
- level of integration;
- price and total system cost;
- compliance with industry standards;
- design and engineering capabilities;
- strategic relationships with customers;
- customer support; and
- new product innovation and quality.
The Company believes it competes favorably with respect to each of these factors.
For the Personal Networking business, in Personal Computing applications, the Company competes primarily with Centillium Communications, Inc., Lucent Technologies, Inc., Motorola, Inc., PC-Tel, Inc., Texas Instruments Incorporated and Virata Corporation. The Company's competitors in the Personal Imaging market include Agilent Technologies, Inc., OmniVision Technologies, Inc., Samsung Electronics Co., Ltd., Toshiba Corporation and Zoran Corporation. In the Digital Infotainment market, competitors of the Company include Broadcom, Inc., C-Cube Microsystems, LSI Logic Corporation, Microtune, Inc., Philips Electronics N.V., STMicroelectronics N.V., and Texas Instruments Incorporated. The Company's competitors in the Wireless Communications market include ANADIGICS, Inc., Analog Devices, Inc., Hitachi Ltd., Infineon Technologies A.G., Lucent Technologies, Inc., Motorola, Inc., Philips Electronics N.V., RF Micro Devices, Inc. and Texas Instruments Incorporated.
For the Internet Infrastructure business, the Company's competitors include Analog Devices, Inc., Applied Micro Circuits Corporation, Centillium Communications, Inc., GlobeSpan, Inc., IBM Microelectronics Division, Infineon Technologies A.G., Intel Corporation, Lucent (Microelectronics Group), Metalink Ltd., Motorola, Inc., PMC-Sierra, Inc., Texas Instruments Incorporated, TranSwitch Corporation, and Vitesse Semiconductor Corporation.
INTELLECTUAL PROPERTY AND PROPRIETARY RIGHTS
Numerous United States and foreign patents and patent applications are owned or licensed by the Company related to its manufacturing operations and other activities. The Company has filed federal and international trademark applications seeking registered protections of the Conexant name and logo. In addition, the Company owns a number of other trademarks applicable only to certain of its products. Management believes that intellectual property, including patents, patent applications and licenses, and trademarks are of material importance to the Company. In addition to the protection of its proprietary technologies and processes, the Company is seeking to strengthen its intellectual property portfolio to enhance its ability to obtain cross-licenses of intellectual property from others, whether to obtain access to intellectual property the Company does not possess or to resolve potential intellectual property claims against the Company, without the need to make financial payments.
Various claims of patent infringement have been made against the Company. Management believes that none of these claims will have a material adverse effect on the consolidated financial statements of the Company. Pursuant to the Distribution, Conexant assumed all liabilities in respect of intellectual property matters related to current and former operations of Semiconductor Systems. See Item 3, "Legal Proceedings".
ENVIRONMENTAL REGULATION
Federal, state and local requirements relating to the discharge of substances into the environment, the disposal of hazardous wastes, and other activities affecting the environment have had and will continue to have an impact on the Company's manufacturing operations. Thus far, compliance with environmental requirements and resolution of environmental claims have been accomplished without material effect on the Company's liquidity and capital resources, competitive position or financial statements.
The Company has been designated as a potentially responsible party ("PRP") at one Superfund site located at a former silicon wafer manufacturing facility and steel fabrication plant in Parker Ford, Pennsylvania formerly occupied by the Company. The site was also formerly occupied by Recticon Corporation and Allied Steel Products Corporation, each of whom has also been named as a PRP and each of whom is insolvent. The remediation plan for the site includes installation of a public water supply line and a groundwater pump and treatment system, as well as routine groundwater sampling. Management estimates the remaining costs for the remediation of this Superfund site to be approximately $2.1 million and has accrued for these costs as of September 30, 2000.
In addition, the Company is engaged in two other remediations of groundwater contamination at its Newport Beach and Newbury Park, California facilities. Management currently estimates the remaining costs for these remediations to be approximately $3.0 million and has accrued for these costs as of September 30, 2000.
In connection with the Distribution, the Company assumed all liabilities in respect of environmental matters related to then current and former operations of Conexant.
Management of the Company believes that the Company's expenditures for environmental capital investment and remediation necessary to comply with present regulations governing environmental protection and other expenditures for the resolution of environmental claims will not have a material adverse effect on the Company's liquidity and capital resources, competitive position or financial statements. Management cannot assess the possible effect of compliance with future requirements.
CYCLICALITY; SEASONALITY
The semiconductor industry is highly cyclical. Sales of the Company's Personal Computing, Wireless Communications and Personal Imaging products are subject to seasonal fluctuation related to the increase in sales of products which include the Company's products, such as PCs, cordless and cellular telephones and fax machines, generally associated with the holiday season in December. The Company's sales of these products generally increase beginning in August and September and continue at a higher level through the end of the calendar year.
EMPLOYEES
As of September 30, 2000, the Company had approximately 8,800 full-time employees, of whom approximately 2,000 are engineers. Approximately 550 Conexant employees in the United States and approximately 2,100 employees in Mexico are covered by collective bargaining agreements. In July 1998, following a 50-day strike by members of the International Brotherhood of Electrical Workers (IBEW) Local 2295, the Company entered into a collective bargaining agreement with that union covering the union employees at the Company's Newport Beach, California facility. The agreement will expire in May 2003. No other significant work stoppages have occurred in the past five years.
The Company believes its future success will depend in large part upon its ability to continue to attract, retain, train and motivate highly skilled and dedicated employees.
CERTAIN BUSINESS RISKS
The Company's business, financial condition and operating results can be impacted by a number of factors including, but not limited to, those set forth below, any one of which could cause the Company's actual results to vary materially from recent results or from the Company's anticipated future results.
You should carefully consider and evaluate all of the information in this Report, including the risk factors listed below. Any of these risks could materially and adversely affect our business, financial condition and results of operations, which in turn could materially and adversely affect the price of our common stock or other securities.
We operate in the highly cyclical semiconductor industry, which is subject to significant downturns.
The semiconductor industry is highly cyclical and is characterized by constant and rapid technological change, rapid product obsolescence and price erosion, evolving standards, short product life cycles and wide fluctuations in product supply and demand.
The industry has experienced significant downturns, often in connection with, or in anticipation of, maturing product cycles (of both semiconductor companies' and their customers' products) and declines in general economic conditions. These downturns have been characterized by diminished product demand, production overcapacity, high inventory levels and accelerated erosion of average selling prices.
We have experienced these conditions in our business in the past and may experience such downturns in the future. Any future downturns of this nature could have a material adverse effect on our business, financial condition and results of operations. From time to time the semiconductor industry also has experienced periods of increased demand and production capacity constraints. We may experience substantial changes in future operating results due to general semiconductor industry conditions and general economic conditions.
We are subject to intense competition and could lose business to our competitors.
The semiconductor industry in general and the markets in which we compete in particular are intensely competitive. We compete worldwide with a number of United States and international semiconductor manufacturers that are both larger and smaller than us in terms of resources and market share. We currently face significant competition in our markets and expect that intense price and product competition will continue. This competition has resulted and is expected to continue to result in declining average selling prices for our products. We also anticipate that additional competitors will enter our markets as a result of growth opportunities in communications electronics, the trend toward global expansion by foreign and domestic competitors, technological and public policy changes and relatively low barriers to entry in certain markets of the industry. Moreover, as with many companies in the semiconductor industry, customers for certain of our products offer other products that compete with similar products offered by us.
We believe that the principal competitive factors for semiconductor suppliers in our market are:
- time-to-market;
- product performance;
- level of integration;
- price and total system cost;
- compliance with industry standards;
- design and engineering capabilities;
- strategic relationships with customers;
- customer support;
- new product innovation; and
- quality.
The specific bases on which we compete vary by market. We cannot assure you that we will be able to successfully address these factors.
Many of our current and potential competitors have certain advantages over us, including:
- longer operating histories and presence in key markets;
- greater name recognition;
- access to larger customer bases; and
- significantly greater financial, sales and marketing, manufacturing, distribution, technical and other resources.
As a result, these competitors may be able to adapt more quickly to new or emerging technologies and changes in customer requirements or may be able to devote greater resources to the development, promotion and sale of their products than we can.
Current and potential competitors also have established or may establish financial or strategic relationships among themselves or with our existing or potential customers, resellers or other third parties. These relationships may affect customers' purchasing decisions. Accordingly, it is possible that new competitors or alliances among competitors could emerge and rapidly acquire significant market share. We cannot assure you that we will be able to compete successfully against current and potential competitors. We also cannot assure you that competition will not have a material adverse effect on our business, financial condition and results of operations.
Many of our competitors have combined with each other and consolidated their businesses, including the consolidation of competitors with our customers. This is attributable to a number of factors, including the high-growth nature of the communications electronic industry and the time-to-market pressures on suppliers to decrease the time required for product conception, research and development, sampling and production launch before a product reaches the market. This consolidation trend is expected to continue, since investments, alliances and acquisitions may enable semiconductor suppliers, including us and our competitors, to augment technical capabilities or to achieve faster time-to-market for their products than would be possible solely through internal development.
Consolidations by industry participants, including in some cases, acquisitions of certain of our customers by our competitors, are creating entities with increased market share, customer base, technology and marketing expertise in markets in which we compete. These developments may significantly and adversely affect our current markets, the markets we are seeking to serve and our ability to compete successfully in those markets.
Our success is dependent upon our ability to timely develop new products and reduce costs.
Our operating results will depend largely on our ability to continue to introduce new and enhanced semiconductor products on a timely basis. Successful product development and introduction depends on numerous factors, including, among others:
- our ability to anticipate customer and market requirements and changes in technology and industry standards;
- our ability to accurately define new products;
- our ability to timely complete development of new products and bring our products to market on a timely basis;
- our ability to differentiate our products from offerings of our competitors; and
- market acceptance of our products.
Furthermore, we are required to continually evaluate expenditures for planned product development and to choose among alternative technologies based on our expectations of future market growth. We cannot
assure you that we will be able to develop and introduce new or enhanced products in a timely and cost-effective manner, that our products will satisfy customer requirements or achieve market acceptance, or that we will be able to anticipate new industry standards and technological changes. We also cannot assure you that we will be able to respond successfully to new product announcements and introductions by competitors.
In addition, prices of established products may decline, sometimes significantly, over time. We believe that in order to remain competitive we must continue to reduce the cost of producing and delivering existing products at the same time that we develop and introduce new or enhanced products. We cannot assure you that we will be able to continue to reduce the cost of our products to remain competitive.
We must incur substantial research and development expenses.
The semiconductor industry requires substantial investment in research and development. In order to remain competitive, we must continue to make substantial investments in research and development to develop new and enhanced products. We cannot assure you that we will have sufficient resources to develop new and enhanced technologies and competitive products. Our failure to continue to make sufficient investments in research and development programs could have a material adverse effect on our business, financial condition and results of operations.
We may not be able to keep abreast of the rapid technological changes in our markets.
The demand for our products can change quickly and in ways we may not anticipate because our markets generally exhibit the following characteristics:
- rapid technological developments;
- evolving industry standards;
- changes in customer requirements;
- frequent new product introductions and enhancements; and
- short product life cycles with declining prices over the life cycle of the product.
Our products could become obsolete sooner than anticipated because of a faster than anticipated change in one or more of the technologies related to our products or in market demand for products based on a particular technology, particularly due to the introduction of new technology that represents a substantial advance over current technology. Currently accepted industry standards are also subject to change, which may contribute to the obsolescence of our products. If we are unable to keep abreast of these developments, these events could have a material adverse effect on our business, financial condition and results of operations.
We may not be able to attract and retain qualified personnel necessary for the design, development, manufacture and sale of our products. Our success could be negatively affected if key personnel leave.
Our future success depends on our ability to continue to attract, retain and motivate qualified personnel, including executive officers and other key management and technical personnel. As the source of our technological and product innovations, our key technical personnel represent a significant asset. The competition for such personnel is intense in the semiconductor industry. We cannot assure you that we will be able to continue to attract and retain qualified management and other personnel necessary for the design, development, manufacture and sale of our products.
We may have particular difficulty attracting and retaining key personnel during periods of poor operating performance, given the significant use of equity-based compensation by our competitors and us. The loss of the services of one or more of our key employees, including Dwight W. Decker, our Chairman and Chief Executive Officer, or certain key design and technical personnel, or our inability to attract, retain and motivate qualified personnel could have a material adverse effect on our ability to operate our business and on our financial condition and results of operations.
If OEMs of communications electronics products do not design our products into their equipment, we will have difficulty selling those products. Moreover, a design win from a customer does not guarantee future sales to that customer.
Our products are not sold directly to the end-user but are components of other products. As a result, we rely on OEMs of communications electronics products to select our products from among alternative offerings to be designed into their equipment. Without these "design wins" from OEMs, we would have difficulty selling our products. Once an OEM designs another supplier's semiconductors into its products, it will be more difficult for us to achieve future design wins with that OEM's product platform because changing suppliers involves significant cost, time, effort and risk. Achieving a design win with a customer does not ensure that we will receive significant revenues from that customer. Even after a design win, the customer is not obligated to purchase our products and can choose at any time to stop using our products, for example, if its own products are not commercially successful or for any other reason. Our inability to achieve design wins or to convert design wins into actual sales could have a material adverse effect on our business, financial condition and results of operations.
Because of the lengthy sales cycles of many of our products, we may incur significant expenses before we generate any revenues related to those products.
Our customers may need six months or longer to test and evaluate our products and an additional six months or more to begin volume production of equipment that incorporates our products. The lengthy period of time required also increases the possibility that a customer may decide to cancel or change product plans, which could reduce or eliminate sales to that customer. As a result of this lengthy sales cycle, we may incur significant research and development, and selling, general and administrative expenses before we generate the related revenues for these products, and we may never generate the anticipated revenues if our customer cancels or changes its product plans.
Uncertainties involving the ordering and shipment of our products could adversely affect our business.
Our sales are typically made pursuant to individual purchase orders and we generally do not have long-term supply arrangements with our customers. Generally, our customers may cancel orders until 30 days prior to shipment. In addition, we sell a portion of our products through distributors, some of whom have rights to return unsold products to us. Sales to distributors accounted for approximately 19% of fiscal 2000 net revenues. Moreover, we routinely purchase inventory based on estimates of customer demand for their products, which is difficult to predict. This difficulty may be compounded when we sell to OEMs indirectly through distributors or contract manufacturers, or both, as our forecasts of demand are then based on estimates provided by multiple parties. In addition, our customers may change their inventory practices on short notice for any reason. The cancellation or deferral of product orders, the return of previously sold products or overproduction due to the failure of anticipated orders to materialize could result in our holding excess or obsolete inventory, which could result in write-downs of inventory that would have a material adverse effect on our operating results.
Our manufacturing process is extremely complex and specialized.
Our manufacturing operations are complex and subject to disruption due to causes beyond our control. The fabrication of integrated circuits is an extremely complex and precise process consisting of hundreds of separate steps. It requires production in a highly controlled, clean environment. Minute impurities, errors in any step of the fabrication process, defects in the masks used to print circuits on a wafer or a number of other factors can cause a substantial percentage of wafers to be rejected or numerous die on each wafer not to function.
Our operating results are highly dependent upon our ability to produce large volumes of integrated circuits at acceptable manufacturing yields. Our operations may be affected by lengthy or recurring disruptions of operations at any of our production facilities or those of our subcontractors. These disruptions may include labor strikes, work stoppages, fire, earthquake, flooding or other natural disasters. These disruptions could
cause significant delays in shipments until we could shift the products from an affected facility or subcontractor to another facility or subcontractor.
In the event of these types of delays, we cannot assure you that the required alternate capacity, particularly wafer production capacity, would be available on a timely basis or at all. Even if alternate wafer production capacity is available, we may not be able to obtain it on favorable terms, which could result in a loss of customers. Any inability to obtain sufficient manufacturing capacities to meet demand, either at our own facilities or through foundry or similar arrangements with others, could have a material adverse effect on our business, financial condition and results of operations. Certain of our manufacturing facilities are located near major earthquake fault lines, including our California and Mexico facilities. We maintain only minimal earthquake insurance coverage on these facilities.
Due to the highly specialized nature of the gallium arsenide semiconductor manufacturing process, in the event of a disruption at our Newbury Park, California wafer fabrication facility, alternate gallium arsenide production capacity would not be readily available from third-party sources. Although we recently entered into a multi-year agreement with a foundry that guarantees us access to additional gallium arsenide wafer production capacity beginning in the fourth quarter of calendar year 2000, a disruption of operations at our Newbury Park wafer fabrication facility or the interruption in the supply of epitaxial wafers used in our gallium arsenide process could have a material adverse effect on our business, financial condition and results of operations, particularly with respect to our Wireless Communications products.
Our ability to sustain our revenue growth is also dependent on our ability to secure adequate additional manufacturing capacity, including wafer production capacity. We have recently entered into agreements with outside foundries to secure additional wafer manufacturing capacity, including additional gallium arsenide wafer production capacity. In addition, we continue to explore wafer manufacturing alternatives, which may include increased use of outside foundries, entering into new or expanded business relationships with respect to wafer manufacturing or other actions related to our wafer manufacturing facilities. We cannot assure you that we will be successful in securing adequate additional manufacturing capacity. Our inability to do so could result in delays in customer shipments and the possible loss of customers.
We may not be able to achieve manufacturing yields to maintain our profitability.
Minor deviations in the manufacturing process can cause substantial manufacturing yield loss, and in some cases, cause production to be suspended. Manufacturing yields for new products initially tend to be lower as we complete product development and commence volume manufacturing, and will typically increase as we ramp to full production. Our forward product pricing includes this assumption of improving manufacturing yields and, as a result, material variances between projected and actual manufacturing yields have a direct effect on our gross margin and profitability. The difficulty of forecasting manufacturing yields accurately and maintaining cost competitiveness through improving manufacturing yields will continue to be magnified by the ever-increasing process complexity of manufacturing semiconductor products. Our manufacturing operations also face pressures arising from the compression of product life cycles which requires us to bring new products on line faster and for shorter periods while maintaining acceptable manufacturing yields and quality without, in many cases, reaching the longer-term, high-volume manufacturing conducive to higher manufacturing yields and declining costs.
We are dependent upon third parties for the supply of raw materials and components.
We believe we have adequate sources for the supply of raw materials and components for our manufacturing needs with suppliers located around the world. Although we currently purchase wafers used in the production of our CMOS products from one major supplier, such wafers are available from several other suppliers. We are currently dependent on two suppliers for epitaxial wafers used in the gallium arsenide semiconductor manufacturing processes at our Newbury Park, California facility and we are in the process of arranging another supplier for epitaxial wafers. The number of qualified alternative suppliers for wafers is limited and the process of qualifying a new wafer supplier could require a substantial lead-time. Although we historically have not experienced any significant difficulties in obtaining an adequate supply of raw materials
and components necessary for our manufacturing operations, the loss of a significant supplier or the inability of a supplier to meet performance and quality specifications or delivery schedules could have a material adverse effect on our business, financial condition and results of operations.
We must incur significant capital expenditures for manufacturing technology and equipment to remain competitive.
The semiconductor industry is highly capital intensive. Semiconductor manufacturing requires a constant upgrading of process technology to remain competitive, as new and enhanced semiconductor processes are developed which permit smaller, more efficient and more powerful semiconductor devices. We maintain our own manufacturing, assembly and test facilities, which have required and will continue to require significant investments in manufacturing technology and equipment.
We have made substantial capital expenditures and installed significant production capacity to support new technologies and increased demand for our products. We made capital expenditures during fiscal 2000 of approximately $315 million, compared to approximately $214 million during fiscal 1999. We expect our capital expenditures for fiscal 2001 will exceed $350 million.
There can be no assurance that we will have sufficient capital resources to make necessary investments in manufacturing technology and equipment.
Our success depends on our ability to effect suitable investments, alliances or acquisitions.
Although we invest significant resources in research and development activities, the complexity and rapidity of technological changes make it impractical for us to pursue development of all technological solutions on our own. As part of our goal to provide advanced semiconductor product systems, we have and will continue to review on an ongoing basis investment, alliance and acquisition prospects that would complement our existing product offerings, augment our market coverage or enhance our technological capabilities. However, we cannot assure you that we will be able to identify and consummate suitable investment, alliance or acquisition transactions in the future.
Moreover, if we consummate such transactions, they could result in:
- issuances of equity securities dilutive to our existing shareholders;
- large one-time write-offs;
- the incurrence of substantial debt and assumption of unknown liabilities;
- the potential loss of key employees from the acquired company;
- amortization expenses related to goodwill and other intangible assets; and
- the diversion of management's attention from other business concerns.
Any of these events could have a material adverse effect on our business, financial condition and results of operations and the price of our common stock or other securities.
In fiscal 2000, we incurred a net loss of $190.9 million, primarily due to charges of $215.7 million for purchased in-process research and development and amortization expenses of $160.2 million for acquisition-related intangible assets, principally related to the ten acquisitions we completed in fiscal 2000. In addition, as a result of these acquisitions, we expect to record amortization expense related to goodwill and intangible assets in excess of $320 million annually for five years.
We may have difficulty integrating companies we acquire.
We completed ten acquisitions in fiscal 2000. We evaluate acquisitions on an ongoing basis and we may make additional acquisitions in the future. Integrating acquired organizations and their products and services may be expensive, time-consuming and a strain on our resources. We could face several challenges integrating current and future acquisitions, including:
- the difficulty of integrating acquired technology into our product offerings;
- the impairment of relationships with employees and customers;
- the difficulty of coordinating and integrating overall business strategies and worldwide operations;
- the potential disruption of our ongoing business and distraction of management;
- the inability to maintain brand recognition of acquired businesses;
- the inability to maintain corporate controls, procedures and policies;
- the failure of acquired features, functions, products or services to achieve market acceptance; and
- the potential unknown liabilities associated with acquired businesses.
Our inability to address any of these challenges successfully could have a material adverse effect on our business, financial condition and results of operations.
We face a risk that capital needed for our business will not be available when we need it.
We believe that cash flows from operations, existing cash reserves, and available borrowings under our $475 million revolving credit facility will be sufficient to satisfy our future research and development, capital expenditure, working capital and other financing requirements. However, we cannot assure you that this will be the case or that we will have access to alternative sources of capital on favorable terms or at all.
In addition, we have and will continue to review, on an ongoing basis, strategic investments and acquisitions, which will help us grow our business. These investments and acquisitions may require additional capital resources. We cannot assure you that the capital required to fund these investments and acquisitions will be available in the future.
Our credit facility may restrict our operating and financial flexibility.
We have a $475 million revolving credit facility which expires in 2003. This credit facility includes covenants that may restrict our operating and financial flexibility in the future. The credit facility includes restrictions on capital expenditures, indebtedness, acquisitions, mergers, asset sales and liens on assets that apply to us and our subsidiaries. We also must meet certain financial tests and maintain certain financial ratios. Although we believe that we will be able to comply with these requirements, compliance with these requirements may restrict our operating and financial flexibility. We cannot assure you that we will in fact be able to satisfy all of the requirements in the credit facility. If we do not satisfy the financial ratios or comply with the other covenants included in the credit facility, the lenders under the credit facility could declare all amounts owed to them due and payable and proceed against their collateral. Such a foreclosure on the collateral could have a material adverse effect on our business, financial condition and results of operations. The credit facility is secured by a pledge of the stock of our significant subsidiaries (as that term is defined in the credit facility), subject to certain exceptions for stock of foreign significant subsidiaries, and by a pledge of certain intercompany indebtedness owed by any significant subsidiary to us or any other subsidiary. If there is a downgrading of the ratings on our long-term, unsecured indebtedness by Standard & Poor's Rating Services Group to B or less and a rating by Moody's Investor Service of B2 or less (in the event of a rating by Moody's), we will be required to secure the credit facility by pledging substantially all of our assets and the assets of our domestic subsidiaries and the stock of all of our subsidiaries, subject to certain exceptions. Our obligations under the credit facility must be guaranteed by any domestic significant subsidiary.
We are subject to the risks of doing business internationally.
For fiscal 2000, approximately 70 percent of our net revenues were from customers located outside the United States, primarily in the Asia-Pacific and European countries. In addition, we have facilities and suppliers located outside the United States, including our assembly and test facility in Mexicali, Mexico and third-party foundries located in the Asia-Pacific region. Our international sales and operations are subject to a number of risks inherent in selling and operating abroad. These include, but are not limited to, risks regarding:
- currency exchange rate fluctuations;
- local economic and political conditions;
- disruptions of capital and trading markets;
- restrictive governmental actions (such as restrictions on transfer of funds and trade protection measures, including export duties and quotas and customs duties and tariffs);
- changes in legal or regulatory requirements;
- limitations on the repatriation of funds;
- difficulty in obtaining distribution and support;
- the laws and policies of the United States and other countries affecting trade, foreign investment and loans, and import or export licensing requirements;
- tax laws; and
- limitations on our ability under local laws to protect our intellectual property.
Because most of our international sales, other than sales to Japan (which are denominated principally in Japanese yen), are currently denominated in U.S. dollars, our products could become less competitive in international markets if the value of the U.S. dollar increases relative to foreign currencies. Moreover, we may be competitively disadvantaged relative to our competitors located outside the United States who may benefit from a devaluation of their local currency. We cannot assure you that the factors described above will not have a material adverse effect on our ability to increase or maintain our foreign sales or on our business, financial condition and results of operations.
Our past operating performance has been impacted by adverse economic conditions in the Asia-Pacific region, which have increased the uncertainty with respect to the long-term viability of certain of our customers and suppliers in the region. Sales to customers in Japan and other countries in the Asia-Pacific region, principally Taiwan, South Korea and Hong Kong, represented approximately 57 percent of net revenues in fiscal 2000.
We enter into foreign currency forward exchange contracts, principally for the Japanese yen, to minimize risk of loss from currency exchange rate fluctuations for foreign currency commitments entered into in the ordinary course of business. We have not experienced nor do we anticipate any material adverse effect on our results of operations or financial condition related to these foreign currency forward exchange contracts. We have not entered into foreign currency forward exchange contracts for other purposes and our financial condition and results of operations could be affected (negatively or positively) by currency fluctuations.
Our operating results may be negatively affected by substantial quarterly and annual fluctuations and market downturns.
Our revenues, earnings and other operating results have fluctuated in the past and may fluctuate in the future. These fluctuations are due to a number of factors, many of which are beyond our control. These factors include, among others:
- the effects of competitive pricing pressures, including decreases in average selling prices of our products;
- production capacity levels and fluctuations in manufacturing yields;
- availability and cost of products from our suppliers;
- the gain or loss of significant customers;
- our ability to develop, introduce and market new products and technologies on a timely basis;
- new product and technology introductions by competitors;
- changes in the mix of products produced and sold;
- market acceptance of our products and our customers' products;
- intellectual property disputes;
- seasonal customer demand;
- the timing of receipt, reduction or cancellation of significant orders by customers; and
- the timing and extent of product development costs.
The foregoing factors are difficult to forecast, and these, as well as other factors, could materially adversely affect our quarterly or annual operating results. If our operating results fail to meet the expectations of analysts or investors, it could materially and adversely affect the price of our common stock and other securities.
The value of our common stock may be adversely affected by market volatility.
The trading price of our common stock fluctuates significantly. Since our common stock began trading publicly, the reported sale price of our common stock on the NASDAQ National Market has been as high as $132 1/2 and as low as $6 27/32 per share. This price may be influenced by many factors, including:
- our performance and prospects;
- the depth and liquidity of the market for our common stock;
- investor perception of Conexant and the industry in which we operate;
- changes in earnings estimates or buy/sell recommendations by analysts;
- general financial and other market conditions; and
- domestic and international economic conditions.
In addition, public stock markets have experienced, and are currently experiencing, extreme price and trading volume volatility, particularly in high technology sectors of the market. This volatility has significantly affected the market prices of securities of many technology companies for reasons frequently unrelated to or disproportionately impacted by the operating performance of these companies. These broad market fluctuations may adversely affect the market price of our common stock.
We may be subject to claims of infringement of third-party intellectual property rights or demands that we license third-party technology, which could result in significant expense and loss of our intellectual property rights.
The semiconductor industry is characterized by vigorous protection and pursuit of intellectual property rights. From time to time, third parties may assert patent, copyright, trademark and other intellectual property rights to technologies that are important to our business and may demand that we license their technology. Any litigation to determine the validity of claims that our products infringe or may infringe these rights, including claims arising through our contractual indemnification of our customers, regardless of their merit or resolution, could be costly and divert the efforts and attention of our management and technical personnel. We cannot assure you that we would prevail in litigation given the complex technical issues and inherent uncertainties in intellectual property litigation. If litigation results in an adverse ruling we could be required to:
- pay substantial damages;
- cease the manufacture, use or sale of infringing products;
- discontinue the use of infringing technology;
- expend significant resources to develop non-infringing technology; or
- license technology from the third party claiming infringement, which license may not be available on commercially reasonable terms, or at all.
Any of the foregoing results could have a material adverse effect on our business, financial condition and results of operations.
If we are not successful in protecting our intellectual property rights, it may harm our ability to compete.
We rely primarily on patent, copyright, trademark and trade secret laws, as well as nondisclosure and confidentiality agreements and other methods, to protect our proprietary technologies and processes. In addition, we often incorporate the intellectual property of our customers into our designs, and we have obligations with respect to the non-use and non-disclosure of their intellectual property. In the past, we have found it necessary to engage in litigation to enforce our intellectual property rights, to protect our trade secrets or to determine the validity and scope of proprietary rights of others, including our customers. We expect future litigation on similar grounds, which may require us to expend significant resources and to divert the efforts and attention of our management from our business operations. We cannot assure you that:
- the steps we take to prevent misappropriation or infringement of our intellectual property or the intellectual property of our customers will be successful;
- any existing or future patents will not be challenged, invalidated or circumvented; or
- any of the measures described above would provide meaningful protection.
Despite these precautions, it may be possible for a third party to copy or otherwise obtain and use our technology without authorization, develop similar technology independently or design around our patents. If any of our patents fails to protect our technology it would make it easier for our competitors to offer similar products. In addition, effective copyright, trademark and trade secret protection may be unavailable or limited in certain countries.
We may be liable for penalties under environmental laws, rules and regulations, which could adversely impact our business.
We use a variety of chemicals in our manufacturing operations and are subject to a wide range of environmental protection regulations in the United States, Mexico and Canada. While we have not experienced any material adverse effect on our operations as a result of such regulations, we cannot assure you that current or future regulations would not have a material adverse effect on our business, financial condition and results of operations.
In the United States, environmental regulations often require parties to fund remedial action regardless of fault. Consequently, it is often difficult to estimate the future impact of environmental matters, including potential liabilities. We cannot assure you that the amount of expense and capital expenditures that might be required to complete remedial actions and to continue to comply with applicable environmental laws will not have a material adverse effect on our business, financial condition and results of operations.
We have been designated as a potentially responsible party at one Superfund site located at a former silicon wafer manufacturing facility and steel fabrication plant in Parker Ford, Pennsylvania formerly occupied by Semiconductor Systems. The site was also formerly occupied by Recticon Corporation and Allied Steel Products Corporation, each of whom has also been named as a potentially responsible party and each of whom is insolvent. We have accrued approximately $2.1 million at September 30, 2000 for the cost of groundwater remediation, including installation of a public water supply line and groundwater pump and treatment system, as well as routine groundwater sampling. In addition, we are engaged in two other remediations of groundwater contamination at our Newport Beach and Newbury Park, California facilities for which we have accrued approximately $3.0 million for the costs of remediation at September 30, 2000. Pursuant to our agreement with Rockwell, we have assumed liabilities in respect of environmental matters related to current and former operations of Conexant.
Our management team may be subject to a variety of demands for its attention.
Our management currently faces a variety of challenges. These include implementing our ongoing diversification and expansion strategy and continuing to expand the infrastructure and systems necessary for us to operate as an independent public company and to integrate our recent acquisitions. While we believe that we have sufficient management resources to execute each of these initiatives, we cannot assure you that we will have these resources or that our initiatives will be successfully implemented. Failure to implement these initiatives successfully could have a material adverse effect on our business, financial condition and results of operations.
Certain provisions in our organizational documents and rights agreement and Delaware law may make it difficult for someone to acquire control of Conexant.
We have established certain anti-takeover measures that may affect our common stock and convertible notes. Our restated certificate of incorporation, our by-laws, our rights agreement with ChaseMellon Shareholder Services, L.L.C., as rights agent, dated as of November 30, 1998, as amended, and the Delaware General Corporation Law contain several provisions that would make more difficult an acquisition of control of Conexant in a transaction not approved by our board of directors. Our restated certificate of incorporation and by-laws include provisions such as:
- the ability of our board of directors to issue shares of our preferred stock in one or more series without further authorization of our shareowners;
- a fair price provision;
- a prohibition on shareowner action by written consent;
- a requirement that shareowners provide advance notice of any shareowner nominations of directors or any proposal of new business to be considered at any meeting of shareowners;
- a requirement that a supermajority vote be obtained to remove a director for cause or to amend or repeal certain provisions of our restated certificate of incorporation or by-laws;
- elimination of the right of shareowners to call a special meeting of shareowners; and
- the division of our board of directors into three classes to be elected on a staggered basis, one class each year.
We also have a rights agreement which gives our shareowners certain rights that would substantially increase the cost of acquiring us in a transaction not approved by our board of directors.
In addition to the rights agreement and the provisions in our restated certificate of incorporation and by-laws, Section 203 of the Delaware General Corporation Law provides that, subject to certain exceptions, a corporation shall not engage in any business combination with any interested shareowner during the three-year period following the time that such shareowner becomes an interested shareowner. The restrictions of Section 203 of the Delaware General Corporation Law, in certain circumstances, make it more difficult for a person who would be an interested shareowner to effect various business combinations with a corporation during this three-year period. The provisions of Section 203 of the Delaware General Corporation Law provide that the shareowner approval requirement may be avoided if a majority of the directors then in office approved either the business combination or the transaction that resulted in the shareowner becoming an interested shareowner.
We may be responsible for certain federal income tax liabilities that relate to our spin-off from Rockwell.
In connection with our spin-off from Rockwell, the Internal Revenue Service issued a tax ruling to Rockwell stating that the spin-off would qualify as a tax-free reorganization within the meaning of Section 368(a)(1)(D) of the Internal Revenue Code of 1986, as amended. While the tax ruling generally is binding on the Internal Revenue Service, the continuing validity of the tax ruling is subject to certain factual representations and assumptions. We are not aware of any facts or circumstances that would cause such representations and assumptions to be untrue.
The Tax Allocation Agreement dated as of December 31, 1998 between Conexant and Rockwell provides that we will be responsible for any taxes imposed on Rockwell, Conexant or Rockwell shareowners as a result of either:
- the failure of the spin-off from Rockwell to qualify as a tax-free reorganization within the meaning of Section 368(a)(1)(D) of the Internal Revenue Code or
- the subsequent disqualification of the spin-off from Rockwell as a tax-free transaction to Rockwell under Section 361(c)(2) of the Internal Revenue Code,
if the failure or disqualification is attributable to certain post-spin-off actions by or in respect of Conexant (including our subsidiaries) or our shareowners, such as our acquisition by a third party at a time and in a manner that would cause such failure or disqualification.
The Tax Allocation Agreement also provides, among other things, that neither Rockwell nor Conexant is to take any action inconsistent with, nor fail to take any action required by, the request for the tax ruling or the tax ruling unless:
- required to do so by law;
- the other party has given its prior written consent; or
- in certain circumstances, a supplemental ruling permitting such action is obtained.
Rockwell and Conexant have indemnified each other for any tax liability resulting from each entity's failure to comply with these provisions.
In addition, we effected certain tax-free intragroup spin-offs as a result of Rockwell's spin-off of Meritor Automotive, Inc. (now ArvinMeritor, Inc.) on September 30, 1997. The Tax Allocation Agreement provides that we will be responsible for any taxes imposed on Rockwell, Conexant or Rockwell shareowners in respect of those intragroup spin-offs if such taxes are attributable to certain actions taken after the spin-off from Rockwell by or in respect of Conexant (including our subsidiaries) or our shareowners, such as our acquisition by a third party at a time and in a manner that would cause the taxes to be incurred.
If we were required to pay any of the taxes described above, such payment could have a material adverse effect on our financial position, results of operations and cash flow.
EXECUTIVE OFFICERS
The Company's executive officers are:
Messrs. Halim, Iyer, Petry, Stites and Yates have been, or are expected to be, named executive officers of Spinco and are expected to cease service as executive officers of the Company upon completion of the initial public offering of shares of Spinco.
There are no family relationships among directors or executive officers of the Company. Set forth below are the name, office and position held with the Company and principal occupations and employment during the past five years of each of the executive officers of the Company.
Dwight W. Decker -- Chairman of the Board and Chief Executive Officer. Mr. Decker served as Senior Vice President of Rockwell International Corporation (electronic controls and communications) and President, Rockwell Semiconductor Systems from July 1998 to December 1998; Senior Vice President of Rockwell and President, Rockwell Semiconductor Systems and Electronic Commerce from March 1997 to July 1998; President, Rockwell Semiconductor Systems from October 1995 to March 1997; and President, Telecommunications of Rockwell prior thereto. Mr. Decker received a Ph.D. in applied mathematics from the California Institute of Technology and a B.Sc. in mathematics and physics from McGill University.
Moiz M. Beguwala -- Senior Vice President and General Manager, Wireless Communications. Mr. Beguwala served as Vice President and General Manager, Wireless Communications Division of Rockwell Semiconductor Systems from October 1998 to December 1998; Vice President and General Manager, Personal Computing Division of Rockwell Semiconductor Systems from January 1998 to October 1998; Vice President, Worldwide Sales of Rockwell Semiconductor Systems from October 1995 to January 1998; and Vice President Worldwide Sales of Rockwell's Telecommunications Division prior thereto. Mr. Beguwala received an M.B.A. and a B.S. in engineering from the University of California -- Los Angeles and an M.S. and a Ph.D. in electrical engineering from the University of Southern California.
Lewis C. Brewster -- Senior Vice President, Worldwide Sales. Mr. Brewster served as Vice President, Worldwide Sales of Rockwell Semiconductor Systems from January 1998 to December 1998; Executive Director, Americas Sales of Rockwell Semiconductor Systems from June 1997 to January 1998; Director,
Americas Sales of Rockwell Semiconductor Systems from June 1996 to June 1997; Director, Strategic Sales and Operations of Rockwell Semiconductor Systems from October 1995 to June 1996; and Director, Strategic Sales and Operations, Digital Communications Division of Rockwell's Telecommunications Division prior thereto. Mr. Brewster received an M.B.A. from Stanford University and a B.S. in electrical engineering and biomedical engineering from Duke University.
Terry L. Ellis -- Senior Vice President, Operations. Mr. Ellis served as Vice President of Operations of Rockwell Semiconductor Systems from September 1998 to December 1998; Executive Director, Semiconductor Manufacturing of Rockwell Semiconductor Systems from August 1997 to August 1998; Director, Die Manufacturing of Rockwell Semiconductor Systems from October 1995 to August 1997; and Director, Die Manufacturing of Rockwell's Telecommunications Division prior thereto. Mr. Ellis received a B.S. in electrical engineering from the University of Texas.
Raouf Y. Halim -- Senior Vice President and General Manger, Network Access. Mr. Halim served as Vice President and General Manager, Network Access Division of Rockwell Semiconductor Systems from February 1997 to December 1998; Vice President -- VLSI Engineering of Rockwell Semiconductor Systems from October 1995 to February 1997; Vice President -- VLSI Engineering of Rockwell's Telecommunications Division from September 1995 to October 1995; and Division Director, VLSI Engineering, Digital Communications of Rockwell's Telecommunications Division prior thereto. Mr. Halim received an M.S. in electrical engineering from the Georgia Institute of Technology and a B.Sc. in electrical engineering from Alexandria University.
Balakrishnan S. Iyer -- Senior Vice President and Chief Financial Officer. Mr. Iyer served as Senior Vice President and Chief Financial Officer of Rockwell Semiconductor Systems from October 1998 to December 1998; Senior Vice President and Chief Financial Officer of VLSI Technology, Inc. (semiconductors) from January 1997 to October 1998; and Vice President and Corporate Controller of VLSI Technology, Inc. prior thereto. Mr. Iyer received an M.B.A. from The Wharton School of the University of Pennsylvania, an M.S. in industrial engineering from the University of California, Berkeley and a B.S. in mechanical engineering from the Indian Institute of Technology.
Shu Li -- Senior Vice President, Quality and Supply Chain Management. Mr. Li served as Divisional Vice President and General Manager, Semiconductor Packaging of AlliedSignal, Inc. (semiconductors) from January 1999 to January 2000; Divisional Vice President and General Manager, Commercial Spares and Total Logistics Services of AlliedSignal, Inc. from January 1996 to January 1999; and Vice President, Operations of AlliedSignal Aerospace Marketing, Sales, and Services, Inc. prior thereto. Mr. Li received a Ph.D. in operations research from Harvard University, an M.S. in electrical engineering and computer sciences from the University of Illinois and a B.S. in electrical engineering from the Huazhong University of Sciences and Technologies in the People's Republic of China.
Daniel A. Marotta -- Senior Vice President and General Manager, Digital Infotainment. Mr. Marotta served as Vice President and General Manager, Digital Infotainment from March 1999 to January 2000; Vice President of Engineering from January 1999 to March 1999; Director of Engineering from August 1998 to January 1999; and Integrated Circuit Designer of the Graphic/Imaging Sub-Business Unit of Conexant's Brooktree subsidiary prior thereto. Mr. Marotta received a B.S. in electrical engineering from State University of New York in Buffalo.
Dennis E. O'Reilly -- Senior Vice President, General Counsel and Secretary. Mr. O'Reilly served as Director of Business Development of Intel Corporation's Mobile and Handheld Products Group (semiconductors) from September 1997 to December 1998; Group Counsel of Intel Corporation prior thereto. Mr. O'Reilly received a J.D. from Boston University School of Law and a B.A. from the State University of New York at Binghamton.
Kerry K. Petry -- Vice President and Treasurer. Mr. Petry served as Vice President and Treasurer of Rockwell Semiconductor Systems from October 1998 to December 1998; Assistant Treasurer and Director of Domestic Treasury Operations of Rockwell prior thereto. Mr. Petry received an M.B.A. from Virginia Polytechnic Institute & State University and a B.S. in accounting from West Virginia University.
Ashwin Rangan -- Senior Vice President and Chief Information Officer. Mr. Rangan served as Senior Vice President and Chief Information Officer of Rockwell Semiconductor Systems from October 1998 to December 1998; Executive Director, Business Process Re-engineering and Information Technology of Rockwell Semiconductor Systems from December 1996 to October 1998; and Director, Business Process Re-engineering and Information Technology of Rockwell Semiconductor Systems prior thereto. Mr. Rangan received an M.S. in industrial engineering and management with an emphasis in operations management and information systems from the National Institute of Industrial Engineering in Bombay, India, a B. Engr. in mechanical engineering and an A.A. from Bangalore University.
F. Matthew Rhodes -- Senior Vice President and General Manager, Personal Computing. Mr. Rhodes served as Vice President and General Manager, Personal Computing Division of Rockwell Semiconductor Systems from October 1998 to December 1998; Director, Software Products Marketing of Rockwell Semiconductor Systems from January 1997 to October 1998; Director, VLSI Technology of Pacific Communications Sciences Inc. (communications system design) prior thereto. Mr. Rhodes received an M.B.A. from the Anderson Graduate School of Management of the University of California, Los Angeles, an M.S. in electrical engineering from Lehigh University and a B.S. in physics from The Pennsylvania State University.
James P. Spoto -- Senior Vice President, Platform Technologies. Mr. Spoto served as Vice President, Platform Technologies of Rockwell Semiconductor Systems from October 1997 to December 1998; Vice President, Business Development of Cadence Design Systems, Inc. (software) from March 1996 to July 1997; and Vice President, Engineering and Mixed-Signal and Physical Design of Cadence Design Systems, Inc. prior thereto. Mr. Spoto received an M.S. and a B.S. in electrical engineering from the University of Florida.
Thomas A. Stites -- Senior Vice President, Communications. Mr. Stites served as Vice President, Communications of Advanced Micro Devices (semiconductors) from 1992 to December 1998. Mr. Stites received a B.A. in journalism from the University of Colorado.
Kevin V. Strong -- Senior Vice President and General Manager, Personal Imaging. Mr. Strong served as Vice President and General Manager, Personal Imaging Division of Rockwell Semiconductor Systems from September 1998 to December 1998; Division Director, Digital Communications Products, Personal Computing Division of Rockwell Semiconductor Systems from June 1998 to September 1998; Division Director, Technology Planning, Personal Computing Division of Rockwell Semiconductor Systems from June 1997 to June 1998; Business Director, Personal Computing Products, Multimedia Communications Division of Rockwell Semiconductor Systems from August 1996 to June 1997; Director Technology Planning of Media Processing, Multimedia Communications Division of Rockwell Semiconductor Systems from January 1996 to August 1996; Manager of Business Development, Multimedia Communications Division of Rockwell Semiconductor Systems prior thereto. Mr. Strong received a B.S. in electronic engineering from Southampton University.
Steven M. Thomson -- Vice President and Controller. Mr. Thomson served as Vice President and Controller of Rockwell Semiconductor Systems from October 1998 to December 1998; Director of Financial Planning and Control of Rockwell Semiconductor Systems from October 1995 to October 1998; Director, Financial Planning and Control of Rockwell's Telecommunications Division prior thereto. Mr. Thomson received an M.S. in financial management from West Coast University and a B.A. in accounting from California State University, Fullerton.
Paul D. Walker -- Senior Vice President, Leadership and Team Development. Mr. Walker served as Senior Vice President and Managing Principal of Senn-Delaney Leadership Consulting Group (consulting) from October 1984 to May 1999. Mr. Walker received a B.A. from Northern Michigan University.
Bradley W. Yates -- Senior Vice President, Human Resources. Mr. Yates served as Vice President, Human Resources of Siebel Systems, Inc. (software) from September 1999 to December 1999; Vice President, Human Resources of AT&T Wireless Services' Los Angeles Cellular partnership with Bell South Corporation from September 1996 to September 1999; and Vice President, Human Resources for AT&T Global Information Solutions' Americas Region prior thereto. Mr. Yates received an M.S. in strategic human
resource management from the University of Dayton and a B.S. in business administration from San Diego State University.
ITEM 2.
ITEM 2. PROPERTIES
At September 30, 2000, the Company operated three manufacturing facilities in the United States and one facility in Mexico. It also had 28 design centers and 33 sales offices. These facilities had an aggregate floor space of approximately 2.5 million square feet, approximately 45% of which were owned and approximately 55% of which were leased. In the opinion of management, the Company's properties have been well maintained, are in sound operating condition and contain all the equipment and facilities necessary to operate at present levels. A summary of floor space of the Company's facilities at September 30, 2000 is as follows (in thousands of square feet):
The Company's headquarters and primary wafer fabrication facility are located in Newport Beach, California, consisting of approximately 633,000 square feet of owned and approximately 520,000 square feet of leased floor space. This location includes an approximately 130,000 square foot wafer fabrication facility. The Company manufactures GaAs products at its wafer fabrication facility located in Newbury Park, California.
Certain of the Company's facilities, including the California and Mexico facilities are located near major earthquake fault lines. The Company maintains only minimal earthquake insurance with respect to these facilities. A portion of the Mexico facility is seismically isolated and the Company has substantially completed a $36 million program to seismically isolate certain portions of its California facilities. See Part I, Item 1, "Business -- Manufacturing".
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
On October 14, 1997, Brent Townshend ("Townshend") filed suit against Rockwell and Conexant in the Superior Court of California for San Mateo County seeking an injunction to halt the sale of products containing Conexant's K56Flex(TM) chipsets and requesting unspecified damages, claiming that Conexant had engaged in unfair competition, misappropriation of trade secrets, breach of contract and breach of confidence by using technical information allegedly disclosed in confidence by Townshend to accelerate its development of 56 Kbps modem technology. In January 1999, Townshend dismissed his State Court action and re-filed the same claims and three new claims for patent infringement in the U.S. District Court for the Northern District of California. In the Federal action, Townshend alleged that each of his patents (the "Townshend Patents") covers certain aspects of the V.90 standard that are infringed by Conexant's 56 Kbps products. In October 2000, Townshend and Conexant entered into a written understanding as to settlement of all outstanding litigation. Under the settlement, Conexant will pay cash, and in certain circumstances non-cash, consideration, all outstanding litigation will be dismissed with prejudice, and Townshend will grant to Conexant and certain future spin-off entities of Conexant a non-exclusive license to the Townshend Patents and other defined voiceband modem technology. The settlement calls for certain contingent cash obligations of Conexant, all of which have been accrued as of September 30, 2000.
On July 29, 1991, Shumpei Yamazaki filed suit against a Japanese subsidiary of Rockwell in the Tokyo District Court, Twenty-ninth Civil Division for patent infringement relating to Conexant's facsimile modem chipsets seeking 685 million yen (approximately $6.2 million based on the exchange rate on November 30, 2000) and court costs. In October 1998, the District Court rendered its decision dismissing the suit against Conexant, from which decision Mr. Yamazaki appealed. On April 12, 1999, Mr. Yamazaki presented his position, as well as additional causes of action at the first portion of the appellate hearing. The Tokyo High Court rejected Mr. Yamazaki's additional claims and set the calendar for appellate hearings, the last of which
is scheduled for December 19, 2000, with final disposition expected in the first calendar quarter of 2001. Conexant believes it has meritorious defenses to these claims and is vigorously defending this action.
On May 30, 1997, Klaus Holtz filed suit against Rockwell in the U.S. District Court for the Northern District of California for patent infringement relating to Conexant's modem products utilizing the V.42bis standard for data compression. On September 30, 1998, the Court barred any alleged damages arising before May 30, 1997. On December 17, 1998, the Court issued an order construing the claims of the patent. Conexant filed a motion for Summary Judgment of Non-Infringement on February 22, 1999. A hearing was held thereon on June 14, 1999. On October 25, 1999, the Court found in favor of Conexant and the case was dismissed. On July 10, 2000 the District Court granted Conexant's motion to declare the case an exceptional case under 35 U.S.C. 285, and awarded Conexant $250,000. Holtz filed a notice of appeal to the court of appeals for the Federal Circuit, challenging the District Court's findings on claim construction, non-infringement and laches. Conexant began collection efforts on the approximately $275,000 owed to Conexant by Holtz as a result of the litigation so far. On August 22, 2000, Holtz filed for bankruptcy protection under Chapter 7 of the bankruptcy laws in the State of California. The Federal Circuit appeals were placed under the control of the trustee in bankruptcy, and were stayed pending resolution of the bankruptcy. Conexant was able to reach agreement with the bankruptcy trustee, wherein Holtz' appeals against Conexant will be dismissed and Conexant will receive a license under Holtz' patents. This agreement is subject to approval of the Bankruptcy Court.
Various other lawsuits, claims and proceedings have been or may be instituted or asserted against Rockwell or Conexant or their respective subsidiaries, including those pertaining to product liability, intellectual property, environmental, safety and health, and employment matters. In connection with the Distribution, Conexant assumed responsibility for all current and future litigation (including environmental and intellectual property proceedings) against Rockwell or its subsidiaries in respect of Semiconductor Systems.
The outcome of litigation cannot be predicted with certainty and some lawsuits, claims or proceedings may be disposed of unfavorably to the Company. Many intellectual property disputes have a risk of injunctive relief and there can be no assurance that a license will be granted. Injunctive relief could have a material adverse effect on the financial condition or results of operations of the Company. Based on its evaluation of matters which are pending or asserted and taking into account the Company's reserves for such matters, management believes the disposition of such matters will not have a material adverse effect on the Company's financial condition or results of operations.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the Company's shareholders during the quarter ended September 30, 2000.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Conexant Systems, Inc. common stock began trading on the NASDAQ National Market under the symbol "CNXT" on January 4, 1999. The following table lists the high and low per share sale prices for the Company's common stock as reported by the NASDAQ National Market for the periods indicated. These per share sales prices reflect the 2-for-1 stock split effected in the form of a stock dividend on October 29, 1999.
At November 30, 2000, there were 49,963 holders of record of the Company's common stock.
The Company has never paid cash dividends on its capital stock. The Company currently intends to retain any earnings for use in its business, and does not anticipate paying cash dividends in the foreseeable future.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data was derived from the consolidated financial statements of Conexant and subsidiaries and its predecessor Rockwell Semiconductor Systems, Inc., representing the semiconductor systems business of Rockwell International Corporation and subsidiaries. The financial data as of and for the years ended September 30, 2000 and 1999 are derived from the audited consolidated financial statements of Conexant. The financial data as of and for the years ended September 30, 1998, 1997 and 1996 have been derived from the audited financial statements of Semiconductor Systems as part of Rockwell. The fiscal 1999 selected financial data includes the operating results of Conexant while it was part of Rockwell prior to January 1, 1999. The selected financial data for periods prior to January 1, 1999 are not necessarily indicative of what the financial position or results of operations would have been had Conexant been an independent public company during the those periods. The selected financial data should be read in conjunction with Management's Discussion and Analysis of Financial Condition and Results of Operations and the consolidated financial statements and notes thereto appearing elsewhere in this Annual Report on Form 10-K.
- --------------- (1) In September 1996, Conexant acquired Brooktree Corporation and in fiscal 1997 Conexant acquired the Hi-Media broadband communication chipset business of ComStream Corporation. In fiscal 2000, Conexant completed the following acquisitions: Microcosm Communications Limited and the wireless broadband business unit of Oak Technology, Inc. in January, Maker Communications, Inc. in March, Applied Telecom, Inc. in April, Philsar Semiconductor Inc. in May, HotRail, Inc. in June, and Novanet Semiconductor Ltd. and NetPlane Systems, Inc. in September. As a result of these acquisitions, during fiscal 2000 the Company recorded $160.2 million in amortization of goodwill and other acquisition-related intangible assets and in fiscal 2000, 1997 and 1996 the Company recorded charges of $215.7 million, $29.9 million, and $121.0 million, respectively, related to purchased in-process research and development.
(2) In fiscal 1998, the Company recorded special charges of approximately $147.3 million related to its decision to close and dispose of the wafer fabrication facilities in Colorado Springs, Colorado, a worldwide workforce reduction and certain other actions. In fiscal 1999, the Company recorded additional special charges of approximately $37.9 million related to the restructuring actions initiated in fiscal 1998.
(3) Net income (loss) per share for all periods reflects the Company's October 1999 2-for-1 stock split. Because Conexant was not an independent company during all of fiscal years 1996-1999, net income (loss) per share for those years is calculated as if the spin-off of Conexant from Rockwell had occurred on October 1, 1995.
(4) Adjusted operating income (loss), adjusted net income (loss) and adjusted net income (loss) per share exclude the amortization of intangible assets, purchased in-process research and development, special charges and, in fiscal 2000, a $6.8 million charge for the value of compensatory stock options granted to employees. Adjusted net income (loss) also excludes the income tax effect of the above items, using the Company's marginal tax rate for the periods presented. These measures of earnings are not in accordance with, or an alternative for, generally accepted accounting principles and may not be consistent with measures used by other companies. However, the Company believes these measures of earnings provide its investors additional insight on its underlying operating results and the Company uses these measures internally to evaluate its operating performance. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Results of Operations -- Adjusted Earnings".
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Conexant is the world's largest independent company focused exclusively on providing semiconductor products and system solutions for a wide variety of communications electronics. The Company's products facilitate communications worldwide through wireline voice and data communications networks, cordless and cellular wireless telephony systems, personal imaging devices and equipment, and emerging cable and wireless broadband communications networks. The Company operates in two business segments: the Personal Networking business and the Internet Infrastructure business.
The Personal Networking business designs, develops and sells semiconductor products and system solutions in four general personal communications applications markets -- Personal Computing, Personal Imaging, Digital Infotainment and Wireless Communications. Personal Computing products include telephony-based communications solutions for personal computing terminals and other communication devices such as gaming consoles, web browsers and handheld devices. Personal Imaging products consist of semiconductor and software products that enable image capture, processing and output for fax machines, printers and digital still and video cameras. Digital Infotainment products include semiconductor solutions that perform communication and media processing functions within a variety of information and entertainment platforms. Wireless Communications products are comprised of components, subsystems and system- level semiconductor solutions for wireless voice and data communication applications, including digital cellular handsets and base stations, cordless telephones and GPS receivers.
The Internet Infrastructure business designs, develops and sells semiconductor products and system solutions for some of the highest-growth areas in the broadband communications markets including broadband access, multi-service access and WAN transport. The Company's broad product portfolio allows it to provide network infrastructure OEM's with system level semiconductor solutions including multi-service access and high-speed DSL products used in a variety of network access platforms such as remote access concentrators, voice gateways, digital loop carriers, DSL access multiplexers and integrated access devices. The Company also provides network infrastructure OEM's with an extensive family of communication solutions that support the aggregation, transmission and switching of data, video and voice from the edge of the network to the optical backbone, including T/E carrier, ATM and SONET/SDH products and network processors. These products are used in a variety of network equipment including high-speed routers, ATM switches, optical switches, add-drop multiplexers and digital cross-connect systems.
The Company markets and sells its semiconductor products and system solutions directly to leading OEMs of communication electronics products and third-party electronic manufacturing service providers, and indirectly through electronic components distributors. Sales to distributors accounted for approximately 19% of fiscal 2000 net revenues. No one customer accounted for more than 10% of net revenues in fiscal 2000. The Company's top 20 customers accounted for approximately 50% of fiscal 2000 net revenues. Revenues derived from customers located in the Americas, Europe, Japan, and the Asia-Pacific region were 32%, 11%, 10% and 47%, respectively, of the Company's net revenues in fiscal 2000.
The semiconductor industry is highly cyclical and is characterized by constant and rapid technological change, rapid product obsolescence and price erosion, evolving standards, short product life cycles and wide fluctuations in product supply and demand. In addition, the Company's operating results may be negatively affected by substantial quarterly and annual fluctuations and market downturns due to a number of factors, such as changes in demand for end-user equipment, the timing of the receipt, reduction or cancellation of significant customer orders, the gain or loss of significant customers, market acceptance of the Company's products and its customer's products, the Company's ability to develop, introduce and market new products and technologies on a timely basis, availability and cost of products from the Company's suppliers, new product and technology introductions by competitors, changes in the mix of products produced and sold, intellectual property disputes, the timing and extent of product development costs and general economic conditions. In the past, average selling prices of established products have generally declined over time and the Company expects this trend to continue in the future.
The Company believes strategic acquisitions are an important element in maintaining its competitive and technological position as a leading provider of semiconductor products and system solutions to communications OEMs. During fiscal 2000, the Company completed ten acquisitions, with an aggregate value of $1.8 billion, to accelerate development efforts and fill technology gaps in its product portfolio. In January 2000, the Company acquired Microcosm, a technology leader in the field of fiber optic communications and Oak Technology's wireless broadband unit, a supplier of demodulator/decoder solutions, primarily for digital TV applications. In March 2000, the Company acquired Maker, a company that develops and markets programmable network processors, software solutions and development tools. In May 2000, the Company completed the acquisition of Philsar, a leading developer of RF semiconductor solutions for personal wireless connectivity applications including Bluetooth(TM) and third generation digital cellular handsets. In June 2000, the Company acquired HotRail, a developer of high-speed switching, interconnect and scalable processing solutions for networking systems and Sierra, a pioneer in the development of "back-end" digital image processor solutions for the digital still camera market. Fiscal 2000 acquisitions also included Applied Telecom and NetPlane, each engaged in the development of communications software. Finally, the Company acquired Novanet, focused on optical networking product development, and Istari Design, Inc., a provider of contract engineering services for communications system design and implementation. Each of these acquisitions was treated as a purchase for financial accounting purposes and the Company's results of operations reflect the operations of these businesses after the dates of acquisition. The Company evaluates opportunities for other strategic acquisitions from time to time, and may make additional acquisitions in the future.
On September 13, 2000, the Company announced a plan to spin off its Internet Infrastructure business through a two-step process. The first step will consist of an initial public offering of common stock of Spinco targeted for January 2001. After completion of the initial public offering, Conexant will continue to own a majority of Spinco's outstanding common stock and a majority of the voting power of Spinco's outstanding common stock. In the second step, Conexant intends, within several months after Spinco's initial public offering, subject to the satisfaction of certain conditions, to distribute to its shareholders all of the shares of Spinco's common stock that Conexant owns. However, there can be no assurance that the initial public offering or the spin-off will be successfully completed.
RESULTS OF OPERATIONS
NET REVENUES
The Company generally recognizes revenues from product sales directly to its customers and to certain distributors upon shipment and transfer of title. The Company provides for warranty costs, sales returns, rebates and other pricing adjustments at the time of shipment based on prior experience. Some products are sold to electronic component distributors under agreements allowing for price protection and/or a right of return on unsold products. Recognition of revenue is deferred on sales to these distributors until the products are sold by the distributors.
The following table summarizes the Company's net revenues by business segment:
Net revenues for fiscal 2000 include an aggregate of approximately $31.7 million generated by the ten businesses acquired during the year.
Personal Networking
The following table summarizes the net revenues of the Personal Networking segment by product:
Personal Computing product revenues for fiscal 2000 grew 15% year-over-year reflecting continued solid demand for V.90 dial-up modem solutions for personal computing applications. The business also achieved strong growth in sales of its embedded modems, which enable communications in a variety of personal communications devices such as gaming consoles, web browsers, and handheld devices. Revenues in fiscal 2000 also included initial production shipments of client ADSL chipset solutions supporting delivery of broadband communication services for residential applications. The recent weakening worldwide demand for consumer PCs is expected to negatively affect Personal Computing product revenues in the near term. Net revenues for Personal Computing products decreased 2% during fiscal 1999 as compared to fiscal 1998 primarily due to the shift toward lower-priced modem products.
Revenues from Personal Imaging products for fiscal 2000 increased 33% compared to fiscal 1999, driven by strong demand for fax modems and increased penetration of the expanding multifunction peripheral market. Fiscal 2000 revenues also reflect increased shipments of CMOS imagers and system solutions for emerging PC camera and digital still camera applications. Net revenues for Personal Imaging products decreased 12% during fiscal 1999 as compared to fiscal 1998 as a result of the lingering effects of the Asia-Pacific economic recession that impacted performance during the latter part of 1998.
For Digital Infotainment products, the 58% increase in revenues for fiscal 2000, as compared to fiscal 1999, reflected the strong demand experienced throughout the year for video processing solutions used in personal computing applications as well as increased shipments of tuners, demodulators, encoders, and back-channel telephony solutions, primarily for satellite set-top box applications. Fiscal 2000 results also included initial volume shipments of cable modem products for European digital video broadcast and North American DOCSIS applications. Net revenues for Digital Infotainment products increased 27% during fiscal 1999 as compared to fiscal 1998 due to solid demand for tuners and demodulators, video encoders and back channel telephony solutions.
Wireless Communications product revenues for fiscal 2000 grew 47% over fiscal 1999, driven by strong overall demand for digital cellular wireless components, subsystems and system solutions. In particular, significant revenue growth was derived from accelerating unit shipments of GSM power amplifiers, radio frequency subsystems and full system solutions. However, revenues derived from the CDMA product portfolio declined during the second half of the year as a result of the Korean government's decision to impose a ban on
Korean service providers subsidizing new digital cellular handsets. The subsidy ban curtailed domestic demand for CDMA digital cellular handset production and attendant semiconductor component supply. The Korean government's action, coupled with a recent deceleration in overall demand for digital cellular handsets, is likely to continue to affect Wireless Communications product revenues in the near term. Net revenues for Wireless Communications products increased 56% during fiscal 1999 as compared to fiscal 1998 due to strong demand for CDMA digital cellular handsets worldwide.
Internet Infrastructure
In fiscal 2000, Internet Infrastructure segment revenues increased 109% from fiscal 1999 levels as demand for networking semiconductor products and system solutions increased significantly due to the need for network infrastructure OEMs to support the ongoing build-out and upgrade of both public and private communications networks. Demand increased for optical networking, ATM, network processor and T/E carrier products, used in network infrastructure equipment for metropolitan and optical backbone networks. The Company also experienced greater demand for high-speed DSL products, used by network infrastructure OEMs in DSL access multiplexers, integrated access devices and other products for the delivery of SDSL services, as well as increased demand from network infrastructure OEMs for the AnyPort(TM) family of multi-service access processors.
Increased demand for the Company's AnyPort(TM) family of multi-service access processors was a major contributor to revenue growth of 94% achieved in fiscal 1999. Revenue growth in fiscal 1999 also resulted from higher demand from OEMs for high-speed DSL products in response to the rapid expansion of SDSL services provided by competitive and incumbent local exchange carriers. Revenue growth during fiscal 1999 also reflected the continued expansion of high-speed optical networking, with the transition from lower speed OC3/12 to higher speed OC48/192, which created greater demand for the Company's semiconductor system solutions used in optical networking equipment.
GROSS MARGIN
Cost of goods sold consists predominantly of purchased materials, labor and overhead (including depreciation) associated with product manufacturing, royalty and other intellectual property costs, warranties and sustaining engineering expenses pertaining to products sold. The gross margin improvement in fiscal 2000 principally reflects the continued shift in the Company's product mix toward higher margin products. The gross margin improvement also reflects higher factory utilization at the Company's wafer fabrication facilities that resulted from increased unit sales volume. Gross margin for fiscal 1999 was adversely affected by unusually high inventory costs which resulted from low manufacturing capacity utilization during the last four months of fiscal 1998.
The improvement in gross margin as a percentage of net revenues during fiscal 1999 was mainly due to increased unit sales volume, which allowed for fixed costs to be allocated over a higher number of semiconductor products produced. Gross margin improvement also resulted from a continued transition to a higher-margin product mix, the favorable market environment for purchasing processed wafers, and the successful implementation of cost reduction initiatives in the fourth quarter of fiscal 1998, including headcount reductions. Gross margin in fiscal 1998 was adversely impacted by a $66 million inventory write-off and $19 million of expenses related to the underutilization of manufacturing capacity.
RESEARCH AND DEVELOPMENT
The Company's research and development ("R&D") expenses consist principally of direct personnel costs, costs for pre-production evaluation and testing of new devices and design and test tool costs. R&D expenses also include the costs for advanced semiconductor process development, design automation and advanced package development for the benefit of each of the Company's businesses.
The increase in R&D expenses for fiscal 2000 compared to fiscal 1999 primarily reflects higher headcount and personnel-related costs as the Company expanded its R&D efforts in the areas of the Internet infrastructure, wireless communications and broadband access. Subsequent to September 1999, the Company's recruiting programs have increased its engineering team by over 450 engineers, including approximately 350 engineers joining the Company through the acquisition of ten businesses. Key product development efforts were targeted at client and multiport ADSL and G.shdsl products, home networking solutions, cable modems, CMOS imager solutions, GSM RF subsystems and system solutions, and broadband optical networking products. The Company expects fiscal 2001 R&D expenses to increase from fiscal 2000 amounts as it continues to invest in semiconductor system solutions and products for key high-growth market opportunities.
The decrease in R&D expenses during fiscal 1999 compared to fiscal 1998 was mainly due to cost reduction actions initiated in the fourth quarter of fiscal 1998 to reduce the Company's overall cost structure. These actions included headcount reductions, design center closures, and project cancellations.
SELLING, GENERAL AND ADMINISTRATIVE
The Company's selling, general and administrative ("SG&A") expenses include personnel costs, sales representative commissions, advertising and other marketing costs. The SG&A expenses also include costs of corporate functions including legal, accounting, treasury, human resources, real estate, information systems, customer service, sales, marketing, field application engineering and other services.
The increase in SG&A expenses for fiscal 2000 as compared to fiscal 1999 resulted from the Company's continued development of its sales, marketing and business support functions since the spin-off from Rockwell at the end of the fiscal 1999 first quarter. In particular, the Company invested in the expansion of its sales and marketing organizations, increasing its worldwide sales organization to over 300 personnel to support recent and anticipated sales growth. The increase also reflected higher sales representative commissions driven by the Company's revenue growth and the addition of the selling, marketing and administrative teams of the businesses acquired in fiscal 2000. The higher SG&A costs also reflected the continued development of corporate infrastructure, including the Company's information systems, human resources, and finance teams. These factors were partially offset by lower spending in fiscal 2000 for co-op advertising programs. The Company expects fiscal 2001 SG&A expenses to increase from the fiscal 2000 amounts as it continues to invest in marketing and sales functions in support of anticipated revenue growth.
The decrease in SG&A expenses in fiscal 1999 compared to fiscal 1998 was mainly due to reductions in headcount as a result of the Company's efforts to restructure its business during the fourth quarter of fiscal 1998 in response to general market conditions, as well as lower advertising and consulting expenses.
AMORTIZATION OF INTANGIBLE ASSETS
- --------------- nm = not meaningful
The higher amortization expense in fiscal 2000 resulted from the ten business acquisitions completed during the year. In connection with these acquisitions, the Company recorded an aggregate of $1.6 billion of identified intangible assets and goodwill. These assets are being amortized over their estimated lives (principally five years), increasing amortization expense by approximately $151.8 million in fiscal 2000. Consequently, the Company expects to record amortization expense related to goodwill and intangible assets in excess of $320 million annually for five years. The Company may make other business acquisitions in the future, and the completion of any such business acquisitions may result in further increases in the level of amortization expense. In addition, the terms of the acquisition agreements relating to the Company's fiscal 2000 acquisitions provide for additional consideration payable under earn-outs and under indemnity, escrow or holdback provisions. When issued, the additional consideration will result in additional goodwill, further increasing amortization expense. The aggregate amount of such consideration is approximately $148 million (based on the closing price of the Company's common stock on November 30, 2000), but is subject to further increases based upon changes in the market price of the Company's common stock.
Amortization expense for fiscal 1999 and 1998 principally represents amortization of developed technology and other intangible assets related to acquisitions completed in fiscal 1996 and 1997.
PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT
In connection with its fiscal 2000 business acquisitions, the Company recorded charges totaling $215.7 million for the fair value of purchased in-process research and development ("IPRD"). The fair value of the IPRD for each of the acquisitions was determined using the income approach. Under the income approach, expected future after-tax cash flows from each of the projects or product families ("projects") under development are estimated and discounted to their net present value at an appropriate risk-adjusted rate of return. Each project was analyzed to determine the technological innovations included in the project; the existence and utilization of core technology; the complexity, cost and time to complete the remaining development efforts; the existence of any alternative future use or current technological feasibility; and the stage of completion in development. Future cash flows for each project were estimated based on forecasted revenues and costs, taking into account the expected life cycles of the products and the underlying technology, relevant market sizes and industry trends.
The projects were then classified as developed technology, IPRD or future development. The estimated future cash flows for each project were discounted to approximate fair value. Discount rates were derived from a weighted average cost of capital analysis, adjusted upward to reflect additional risks inherent in the development process, including the probability of achieving technological success and market acceptance. The fair value assigned to developed technology is included in identifiable intangible assets. The IPRD charge includes the fair value of the portion of IPRD completed as of the date of acquisition. The fair values assigned to the portion of IPRD to-be-completed and to future development are included in goodwill. The Company believes the amounts determined for IPRD, as well as developed technology, are representative of fair values and do not exceed the amounts an independent party would pay for these projects. Failure to deliver new projects to the market on a timely basis, or to achieve expected market acceptance or revenue and expense forecasts, could have a significant impact on the financial results and operations of the acquired businesses.
The total charge for IPRD for the acquisition of Maker (which the Company agreed to acquire in December 1999) was $118.5 million. IPRD projects relating to seven product families, directed toward the development of high-performance programmable communications processors and applications software, were identified and valued. Maker's IPRD projects ranged from 55% to 92% complete and averaged approximately
75% complete, with aggregate estimated costs to complete all of the projects of $5.7 million. The IPRD projects principally are expected to be completed within one year of the acquisition date. The average discount rates used were 30% for IPRD projects and 20% for developed technology, which reflect the specific risks associated with each of the intangible assets. The weighted average cost of capital was estimated at 18%.
The total charge for IPRD for the acquisition of Microcosm (completed in January 2000) was $27.4 million. IPRD projects relating to four product families, directed toward the development of high-performance programmable communications processors, were identified and valued. Microcosm's IPRD projects ranged from 77% to 90% complete and averaged approximately 84% complete, with total estimated costs to complete all of the projects of $0.8 million. The IPRD projects are principally expected to be completed within one year of the acquisition date. The average discount rates used were 35% for IPRD projects and 25% for developed technology, which reflect the specific risks associated with each of the intangible assets. The weighted average cost of capital was estimated at 20%.
The total charge for IPRD for the Philsar acquisition (completed in May 2000) was $24.4 million. IPRD projects relating to five product families, directed toward the development of Bluetooth(TM) products including RF transceivers, a baseband controller, and an integrated single-chip Bluetooth(TM) solution, were identified and valued. Philsar's IPRD projects ranged from 41% to 78% complete and averaged approximately 60% complete, with total estimated costs to complete all of the projects of $5.4 million. The IPRD projects are principally expected to be completed within one year of the acquisition date. The average discount rates used were 30% for IPRD projects and 25% for developed technology, which reflect the specific risks associated with each of the intangible assets. The weighted average cost of capital was estimated at 20%.
The total charge for IPRD for the HotRail acquisition (completed in June 2000) was $26.1 million. IPRD projects relating to two product families, directed toward the development of scalable, high-speed switch fabric systems and the HotRail Channel parallel CMOS transceiver, were identified and valued. HotRail's IPRD projects ranged from 34% to 95% complete and averaged approximately 74% complete, with total estimated costs to complete all of the projects of $11.7 million. The IPRD projects are principally expected to be completed within one year of the acquisition date. The average discount rates used were 34% for IPRD projects and 24% for developed technology, which reflect the specific risks associated with each of the intangible assets. The weighted average cost of capital was estimated at 24%.
The total charge for IPRD for the Novanet acquisition (completed in September 2000) was $17.3 million. Three IPRD projects, directed toward the development of high-speed semiconductor solutions for asynchronous transfer mode and packet-over-SONET applications, were identified and valued. Novanet's IPRD projects ranged from 45% to 90% complete and averaged approximately 70% complete, with total estimated costs to complete all of the projects of $10.8 million. The IPRD projects are principally expected to be completed within one year of the acquisition date. The average discount rates used were 22% to 27% for IPRD projects and 28% for developed technology, which reflect the specific risks associated with each of the intangible assets. The weighted average cost of capital was estimated at 20%.
The total charge for IPRD for the NetPlane acquisition (completed in September 2000) was $2.0 million. Four IPRD projects, directed toward the development of network control software and subsystems, including advanced MPLS for optical Internet backbone equipment and an IP routing protocol product suite, were identified and valued. NetPlane's IPRD projects ranged from 5% to 60% complete and averaged approximately 30% complete, with total estimated costs to complete all of the projects of $0.5 million. The IPRD projects are principally expected to be completed within one year of the acquisition date. The average discount rates used were 20% to 22% for IPRD projects and 17% for developed technology, which reflect the specific risks associated with each of the intangible assets. The weighted average cost of capital was estimated at 17%.
SPECIAL CHARGES
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In fiscal 2000, the Company recorded a special charge of $35.0 million in connection with the settlement of certain litigation.
In fiscal 1998, the Company recorded special charges of $43.0 million resulting from litigation, and charges of $147.3 million related to a restructuring of its business. The special charges include an asset impairment of approximately $103 million related to the closure and planned disposal of its wafer fabrication facilities in Colorado Springs, Colorado, approximately $15 million for employee severance and Voluntary Early Retirement Program ("VERP") costs associated with an approximate 10% worldwide workforce reduction, approximately $11 million related to intangible asset write-offs and approximately $18 million for other actions including lease termination costs, contractual liabilities and other asset write-offs. In connection with the restructuring, management decided to close and dispose of its wafer fabrication facilities in Colorado Springs, Colorado. The $103 million charge represents the excess of the carrying value of the long-lived assets of these facilities over their estimated fair value as determined by independent appraisal. These facilities were distributed to Rockwell prior to the Distribution.
In the first fiscal quarter of 1999, the Company recorded special charges of $37.9 million. The additional charges include $20.0 million related to the further write down of the Company's wafer fabrication facilities in Colorado Springs, Colorado, $17.0 million relating to the VERP, and $0.9 million to decommission equipment, activities at foreign subsidiaries and contract cancellations at the Colorado Springs wafer fabrication facilities.
As of September 30, 2000, the restructuring actions were substantially complete. The following table summarizes the Company's restructuring activity for the year ended September 30, 2000 (in thousands):
OTHER INCOME, NET
Other income, net principally consists of interest income on invested cash balances, offset by interest expense on the Company's $1 billion principal amount of convertible subordinated notes. In the fiscal 2000 period, other income, net principally reflects net interest income resulting from both higher interest rates and larger invested cash balances, including a portion of the proceeds of the $650 million principal amount of 4% Convertible Subordinated Notes due 2007 issued in February 2000. The fiscal 1999 period includes net
interest expense due to lower invested cash balances, which was more than offset by gains on the sale of certain investments.
The decrease in other income, net during fiscal 1999 compared with fiscal 1998 was mainly due to amortization of costs associated with the Company's spin-off from Rockwell and issuance of the $350 million principal amount of 4 1/4% Convertible Subordinated Notes due 2006, higher interest expense related to the 4 1/4% Convertible Subordinated Notes, costs associated with the Company's credit facility, and receipt of a contract cancellation fee in fiscal 1998, partially offset by higher interest income and other non-operating income.
PROVISION FOR INCOME TAXES
For fiscal 2000, the Company's provision for income taxes was $52.6 million. In fiscal 1999, the Company recorded an income tax benefit of $10.2 million due to a loss from operations. Exclusive of the non-deductible charges for IPRD and amortization of intangible assets resulting from the Company's recently-completed acquisitions, the effective tax rate for fiscal 2000 was approximately 30% of pretax income. This rate reflects the positive impact of state and federal research and experimentation tax credits available to the Company. While the Company anticipates that its fiscal 2001 effective tax rate, exclusive of the non-deductible charges for IPRD and amortization of intangible assets, will be similar to its effective rate for fiscal 2000, the effective tax rate may be affected by non-deductible charges related to the spin-off of the Internet Infrastructure business or other items.
The Company's effective tax rate in fiscal 1999 was a benefit of 369% compared to a benefit of 39.1% in fiscal 1998. The 1999 tax rate benefit results primarily from the significant research and development credits generated in comparison to pre-tax net income. The Company's 1998 tax benefit also results primarily from the statutory tax rates plus the benefit of research and development credits. The change in the effective rate is due to the change in pre-tax net income in comparison to the tax credits generated. The Company's results of operations for the quarter ended December 31, 1998 and prior periods are being included in the federal, state and local, and foreign income tax returns of Rockwell. The effective tax rate for the period of fiscal 1999 in which Conexant was an independent company was 30%, which is lower than the federal statutory tax rate primarily due to the benefits of research and development credits.
ADJUSTED EARNINGS
Adjusted operating income (loss), adjusted net income (loss), and adjusted net income (loss) per share exclude the amortization of intangible assets, purchased in-process research and development, special charges and, in fiscal 2000, a $6.8 million charge for the value of compensatory stock options granted to employees. Adjusted net income (loss) also excludes the income tax effect of the above items, using the Company's marginal tax rate for the periods presented. These measures of earnings are not in accordance with, or an alternative for, generally accepted accounting principles and may not be consistent with measures used by other companies. However, the Company believes these measures of earnings provide its investors additional insight on its underlying operating results and the Company uses these measures internally to evaluate its
operating performance. Adjusted net income (loss) and adjusted net income (loss) per share is calculated as follows (in thousands, except per share data):
QUARTERLY RESULTS OF OPERATIONS
The following table presents the Company's operating results for each of the eight fiscal quarters in the period ended September 30, 2000. The information for each of these quarters is unaudited and has been prepared on the same basis as the audited consolidated financial statements included in this Annual Report on Form 10-K. In the opinion of management, all necessary adjustments, which consist only of normal and recurring accruals as well as the write-off of purchased in-process research and development and the special charges, have been included to fairly present the unaudited quarterly results. This data should be read together with the consolidated financial statements and the notes thereto included in this Annual Report on Form 10-K.
- --------------- (1) Adjusted operating income (loss), adjusted net income (loss) and adjusted net income (loss) per share exclude the amortization of intangible assets, purchased in-process research and development, special charges and, in the fourth quarter of fiscal 2000, a $6.8 million charge for the value of compensatory stock options granted to employees. Adjusted net income (loss) also excludes the income tax effect of the above items, using the Company's marginal tax rate for the periods presented. These measures of earnings are not in accordance with, or an alternative for, generally accepted accounting principles and may not be consistent with measures used by other companies. However, the Company believes these measures of earnings provide its investors additional insight on its underlying operating results and the Company uses these measures internally to evaluate its operating performance.
LIQUIDITY AND CAPITAL RESOURCES
Cash provided by operating activities was $162.1 million for fiscal 2000, compared to $307.7 million for fiscal 1999 and $98.3 million for fiscal 1998. Fiscal 2000 operating cash flows reflect the Company's net loss of $190.9 million and a net working capital increase of approximately $232.5 million, offset by noncash charges (depreciation and amortization, IPRD, special charges and other) of $585.5 million. Before the effect of working capital changes, operating cash flow increased to $394.6 million for fiscal 2000, compared to $299.8 million for fiscal 1999.
The fiscal 2000 working capital increase includes a $176.9 million increase in receivables, principally due to higher quarterly sales. The receivables increase also reflects the strong sales volume experienced near the end of the fiscal fourth quarter. The Company's allowance for doubtful accounts decreased by $2.7 million during fiscal 2000 due to the write-off of certain previously-reserved accounts. The working capital change also included a $114.3 million build-up in inventories, principally reflecting higher inventory levels in anticipation of increasing shipments of new products and, to a lesser extent, the impact of lower demand for CDMA products in the Korean market. With industry wafer fabrication capacity continuing to tighten, the Company also took advantage of its recently-expanded foundry relationships, drawing on currently-available wafer fabrication capacity to stage materials for expected production requirements. The working capital increase also reflects a $48.8 million reduction of accounts payable due to the timing of vendor payments, and other working capital changes. These amounts were partially offset by a $112.3 million increase in accrued expenses and other current liabilities.
Investing activities used $477.2 million of cash during fiscal 2000, compared to $232.2 million for fiscal 1999. Capital expenditures totaled $315.1 million during the fiscal 2000 period, as the Company continued its investment in new process technologies including its gallium arsenide wafer manufacturing facility in Newbury Park, California, new silicon-based high-performance RF specialty processes in Newport Beach, California, and the expansion of assembly and test operations in Mexicali, Mexico. Cash used for the Company's fiscal 2000 business acquisitions was approximately $1.0 million, net of cash acquired of $24.8 million. In addition, the Company made investments in, or advances to, businesses totaling $174.3 million, including advances to vendors of $114.6 million and approximately $59.7 million of equity investments, principally in early-stage communications technology companies. The vendor advances were made pursuant to agreements under which the Company will receive foundry capacity to support future growth. Cash used in investing activities during fiscal 1999 consisted of routine capital expenditures of $213.8 million and equity investments of $18.4 million. Cash used in investing activities during the fiscal 1998 period consisted of routine capital expenditures of $269.7 million.
The Company's financing activities provided cash of $747.7 million during fiscal 2000, including net proceeds of $631.0 million from the sale of the 4% Convertible Subordinated Notes due 2007 and proceeds of $116.7 million from the exercise of stock options. During fiscal 1999, cash provided by financing activities of $309.0 million consisted of $339.6 million in net proceeds from the sale of the 4 1/4% Convertible Subordinated Notes due 2006 and proceeds from the exercise of employee stock options of $23.4 million, partially offset by the transfer of available cash balances to Rockwell and repayment of a loan at the Company's Japanese subsidiary. Cash provided by financing activities for fiscal 1998 of $171.4 million consisted of net cash transfers from Rockwell.
In February 2000, the Company completed the sale of $650 million principal amount of its 4% Convertible Subordinated Notes for net proceeds (after costs of issuance) of approximately $631.0 million. The notes are general unsecured obligations of the Company and interest on the notes is payable in arrears semiannually on each February 1 and August 1. The notes are convertible, at the option of the holder, into shares of the Company's common stock at a conversion price of $108 per share, subject to certain adjustments. The notes may be redeemed, at the Company's option, on or after February 6, 2003 at a declining premium to par.
The Company has a $475 million revolving credit facility with a group of banks which provides for revolving borrowings and the issuance of letters of credit. The credit facility is secured by a pledge of the stock of Conexant's significant subsidiaries (as that term is defined in the credit facility), subject to certain exceptions for stock of foreign significant subsidiaries, and by a pledge of certain intercompany indebtedness
owed by any significant subsidiary to Conexant or any other subsidiary. If there is a downgrading of the ratings on the Company's long-term, unsecured indebtedness by Standard & Poor's Rating Services Group to B or less and a rating by Moody's Investor Service of B2 or less (in the event of a rating by Moody's), the Company will be required to secure the credit facility by pledging substantially all of its assets and the assets of its domestic subsidiaries and the stock of all of its subsidiaries, subject to certain exceptions. The credit facility includes restrictions on capital expenditures, indebtedness, acquisitions, mergers, asset sales and liens on assets that apply to Conexant and its subsidiaries. The Company must also meet certain financial tests and maintain certain financial ratios. The credit facility expires in July 2003. The Company made no borrowings under the credit facility during fiscal 2000. As of September 30, 2000, the Company was in compliance with all covenants under the credit facility.
From October 1 through November 30, 2000, $233.7 million principal amount of the Company's 4 1/4% Convertible Subordinated Notes due 2006 were converted into 10.1 million shares of common stock at a cost to the Company of $39.1 million. In addition, the Company repurchased $35.0 million principal amount of its 4% Convertible Subordinated Notes due 2007 at prevailing market prices.
The Company's principal sources of liquidity are its existing cash reserves, cash generated from operations, and available borrowings under its $475 million credit facility. Cash and cash equivalents at September 30, 2000 totaled $831.1 million compared to $398.5 million at September 30, 1999. Working capital at September 30, 2000 was approximately $1.3 billion compared to $604.5 million at September 30, 1999.
The Company believes that its existing sources of liquidity, along with cash expected to be generated from future operations, will be sufficient to fund operations, research and development efforts, and anticipated capital expenditures for at least the next twelve months. However, the Company continues to evaluate acquisition opportunities to expand its technology portfolio, design expertise and product offerings. The Company's manufacturing operations are capital intensive, and the Company may need to increase its capital spending to obtain sufficient manufacturing capacity to support continued revenue growth. In order to complete any such acquisitions or increased capital expenditures, the Company may seek to obtain additional borrowings or issue additional shares of its common stock. There can be no assurance that such financing will be available on terms favorable to the Company, or at all.
RECENT ACCOUNTING STANDARDS
See Note 2 of Notes to Consolidated Financial Statements included in Part II, Item 8, "Financial Statements and Supplementary Data".
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's financial instruments include cash and cash equivalents, marketable securities and long-term debt. The Company's main investment objectives are the preservation of investment capital and the maximization of after-tax returns on its investment portfolio. Consequently, the Company invests with only high-credit-quality issuers and limits the amount of credit exposure to any one issuer. The Company does not use derivative instruments for speculative or investment purposes.
The Company's cash and cash equivalents are not subject to significant interest rate risk due to the short maturities of these instruments. As of September 30, 2000, the carrying value of the Company's cash and cash equivalents approximates fair value. The Company's marketable debt securities (consisting of commercial paper, corporate bonds, and government securities) principally have remaining terms of one year or less. Consequently, such securities are not subject to significant interest rate risk. Marketable equity securities consist of an equity investment in a semiconductor company, initially made for the promotion of business and strategic objectives, which is subject to equity price risk.
All of the Company's marketable securities are classified as available for sale and, as of September 30, 2000, unrealized gains of $47.7 million (net of related income taxes of $29.4 million) on these securities are included in other comprehensive income. A 20% adverse change in equity prices would result in an
approximate $18.5 million decrease in the fair value of the Company's marketable securities as of September 30, 2000.
The Company's long-term debt consists of convertible subordinated notes with interest at fixed rates. Consequently, the Company does not have significant cash flow exposure on its long-term debt. However, the fair value of the convertible subordinated notes is subject to significant fluctuation due to their convertibility into shares of the Company's common stock. The Company also has available a $475 million credit facility which provides for borrowings at variable rates of interest. Should the Company make borrowings under this credit facility, such borrowing would be subject to interest rate and cash flow risk.
The following table shows the fair values of the Company's investments and long-term debt as of September 30, 2000 (in thousands):
The Company transacts business in various foreign currencies, and is subject to certain foreign exchange risks, principally arising from customer accounts receivable at its Japanese subsidiary which are denominated in yen. At September 30, 2000, such receivables totaled approximately $25.4 million. The Company has established a foreign currency hedging program utilizing foreign currency forward exchange contracts to hedge certain foreign currency transaction exposures (principally the Japanese yen). Under this program, the Company seeks to offset foreign currency transaction gains and losses with gains and losses on the forward contracts, so as to mitigate its overall risk of foreign transaction gains and losses. The Company does not enter into forward contracts for speculative or trading purposes.
At September 30, 2000, the Company held foreign currency forward exchange contracts (principally to sell Japanese yen at specified rates) having an aggregate notional amount of approximately 2.0 billion yen, at a notional weighted average exchange rate of approximately 107.0 yen to one dollar. The gains and losses relating to these forward contracts are deferred and included in the measurement of the foreign currency transaction subject to the hedge. The net unrealized gain/loss on the forward contracts outstanding at September 30, 2000 was not material to the Company's consolidated financial statements. Based on the Company's overall currency rate exposure at September 30, 2000, a 10 percent change in currency rates would not have had a material effect on the consolidated financial position, results of operations or cash flows of the Company.
The table below provides information as of September 30, 2000 about the Company's foreign currency forward exchange contracts. The table presents the notional amounts (the U.S. dollar equivalent, based on the contract exchange rates) and the contract foreign currency exchange rates.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
CONEXANT SYSTEMS, INC.
CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
ASSETS
See accompanying notes to consolidated financial statements.
CONEXANT SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
See accompanying notes to consolidated financial statements.
CONEXANT SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
See accompanying notes to consolidated financial statements.
CONEXANT SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (IN THOUSANDS)
See accompanying notes to consolidated financial statements.
CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
Conexant Systems, Inc. ("Conexant" or the "Company") is the world's largest independent company focused exclusively on providing semiconductor products and system solutions for a wide variety of communications electronics. The Company's products facilitate communications worldwide through wireline voice and data communications networks, cordless and cellular wireless telephony systems, personal imaging devices and equipment, and emerging cable and wireless broadband communications networks.
On December 31, 1998, Conexant became an independent, separately traded, publicly-held company when Rockwell International Corporation ("Rockwell") spun off its wholly-owned subsidiary, Conexant, by means of a distribution (the "Distribution") of all the outstanding shares of common stock of Conexant to the shareholders of Rockwell in a tax-free spin-off. Prior to the Distribution, Conexant (formerly named Rockwell Semiconductor Systems, Inc.), together with certain other subsidiaries of Rockwell, operated Rockwell's semiconductor systems business ("Semiconductor Systems"). Conexant was incorporated as Rockwell Semiconductor Systems, Inc. in Delaware on September 16, 1996, and changed its name to Conexant Systems, Inc., on October 14, 1998. All references herein to Conexant or the Company for periods prior to the Distribution include Semiconductor Systems.
On September 13, 2000, the Company announced a plan to spin off its Internet Infrastructure business ("Spinco") through a two-step process. The first step will consist of an initial public offering of common stock of Spinco targeted for January 2001. After completion of the initial public offering, Conexant will continue to own a majority of Spinco's outstanding common stock and a majority of the voting power of Spinco's outstanding common stock. In the second step, Conexant intends, within several months after Spinco's initial public offering, subject to the satisfaction of certain conditions, to distribute to its shareholders all of the shares of Spinco's common stock that Conexant owns. However, there can be no assurance that the initial public offering or the spin-off will be successfully completed.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation The consolidated financial statements, prepared in accordance with accounting principles generally accepted in the United States of America, include the accounts of the Company and each of its subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation.
For periods prior to the Distribution, the financial statements include the operating results of Conexant while it was part of Rockwell. Financial statements prior to the Distribution are not necessarily indicative of what the financial position, results of operations, or cash flows would have been had Conexant been an independent company during such periods. Financial data included in the accompanying consolidated financial statements, for periods subsequent to the Distribution, have been prepared on a basis that reflects the historical assets, liabilities, and operations of the business contributed to Conexant by Rockwell.
Stock Split Common share and per common share amounts for all periods presented have been restated to reflect the two-for-one stock split (in the form of a dividend) effected on October 29, 1999 for shareholders of record as of September 24, 1999.
Fiscal Year The Company maintains a fifty-two/fifty-three week fiscal year cycle ending on the Friday closest to September 30. To conform the Company's fiscal year ends, a fifty-third week must be added every sixth or seventh fiscal year. Fiscal years 2000, 1999 and 1998 comprised 52 weeks, 52 weeks, and 53 weeks, and ended on September 29, October 1 and October 2, respectively. For convenience, the accompanying financial statements have been shown as ending on the last day of the calendar month.
Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts
CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
reported in the financial statements and accompanying notes. Actual results could differ materially from those estimates.
Risks and Uncertainties The Company operates in a rapidly changing environment that involves a number of risks, some of which are beyond the Company's control and could have a material adverse effect on its business, operating results, and financial condition. These risks include variability and uncertainty of revenues and operating results, technological change, competition, intellectual property litigation, management of growth, access to manufacturing capacity, customer concentration and labor relations. Approximately 30% of the Company's workforce is covered by collective bargaining agreements.
Revenue Recognition Revenues from product sales direct to customers and certain distributors are recognized upon shipment and transfer of title. The Company provides for warranty costs, sales returns, rebates and other pricing adjustments at the time of shipment based on its experience. Certain of the Company's product sales are made to major distributors under agreements allowing for price protection and/or a right of return on products unsold. The Company defers the recognition of revenue on sales to these distributors until the products are sold by the distributors. Development revenue is recognized when services are performed. To date, development revenue has not been significant.
Cash and Cash Equivalents The Company considers all highly-liquid investments with insignificant interest rate risk and original maturities of three months or less from the date of purchase to be cash equivalents. The carrying amounts of cash and cash equivalents approximate their fair values.
Inventories Inventories are stated at the lower of cost or market. Cost is computed using the average cost method on a currently adjusted standard basis (which approximates actual cost); market is based upon estimated net realizable value. The valuation of inventories at the lower of cost or market requires the use of estimates as to the amounts and prices of current inventories that will be sold. These estimates are dependent on the Company's assessment of current and expected orders from its customers, given that orders are subject to cancellation with limited advance notice prior to shipment. It is reasonably possible that the recoverability of the Company's investment in inventories will change in the near term.
Property, Plant and Equipment Property, plant and equipment are stated at cost. Depreciation is based on estimated useful lives (50 years for buildings and 10 to 30 years for building improvements; 5 years for machinery and equipment; and the shorter of the remaining terms of the leases or the estimated economic useful lives of the improvements for land and leasehold improvements). Significant renewals and betterments are capitalized and replaced units are written off. Maintenance and repairs, as well as renewals of a minor amount, are charged to expense.
The Company changed its depreciation method beginning October 1, 1998 from the double declining balance method to the straight-line method for all prospective purchases. The change resulted in lower depreciation expense for fiscal 1999 of approximately $8.5 million or $0.03 per share for both basic and diluted net income per share.
Goodwill and Intangible Assets Goodwill and intangible assets principally result from business acquisitions. The Company accounts for business acquisitions by assigning the purchase price to tangible and intangible assets and liabilities, including purchased in-process research and development ("IPRD") projects which have not yet reached technological feasibility and have no alternative future use. Assets acquired and liabilities assumed are recorded at their fair values; the excess of the purchase price over the net assets acquired is recorded as goodwill. The value of IPRD is immediately charged to expense upon completion of the acquisition. Goodwill, patents, developed technology, and other intangibles are amortized on a straight-line basis over their estimated useful lives, ranging from 2 to 10 years.
Impairment of Long-Lived Assets The Company continually monitors events or changes in circumstances that could indicate that the carrying amount of long-lived assets, including goodwill and intangible
CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
assets, may not be recoverable. Long-lived assets held for use are reviewed for impairment by comparing estimated undiscounted cash flows over remaining useful lives to net book value. When impairment is indicated for a long-lived asset, the amount of impairment loss is the excess of net book value over fair value. At September 30, 2000 and 1999, management determined that no impairments existed. In fiscal 1998, the Company recorded impairment charges related to certain assets, as discussed in Note 13.
Foreign Currency Translation and Remeasurement The Company's foreign operations are subject to exchange rate fluctuations and foreign currency transaction costs. The functional currency of the majority of the Company's larger foreign subsidiaries is the U.S. dollar. Inventories, property, plant and equipment, cost of goods sold, and depreciation for those subsidiaries are remeasured from foreign currencies into U.S. dollars at historical exchange rates; other accounts are translated at current exchange rates. Gains and losses resulting from those remeasurements are included in income. For the remainder of the Company's foreign subsidiaries, the functional currency is the local currency. Assets and liabilities denominated in foreign functional currencies are translated into U.S. dollars at the rates of exchange in effect at the balance sheet dates and income and expense items are translated at the average exchange rates prevailing during the period. The resulting foreign currency translation adjustments are accumulated as a component of other comprehensive income. Gains and losses resulting from foreign currency transactions are recognized currently in income.
Derivative Financial Instruments The Company enters into foreign currency forward exchange contracts to manage exposure related to certain foreign currency commitments. The Company does not enter into derivative financial instruments for speculative or trading purposes.
These forward contracts qualify as hedges for financial reporting purposes. The forward contracts at September 30, 2000 consist of contracts to buy or sell approximately $22.7 million in foreign currency (principally Japanese yen). These contracts mature through January 2001 and are with major financial institutions. The fair value of the foreign currency forward contracts at September 30, 2000 was not material.
Stock-Based Compensation The Company accounts for employee stock-based compensation in accordance with the provisions of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25") and related interpretations and has adopted the disclosure provisions of Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation".
Income Taxes The provision (benefit) for income taxes is determined in accordance with SFAS No. 109, "Accounting For Income Taxes". Deferred tax assets and liabilities are determined based on the temporary differences between the financial reporting and tax bases of assets and liabilities, applying enacted statutory tax rates in effect for the year in which the differences are expected to reverse. A valuation allowance is recorded when it is more likely than not that some or all of the deferred tax assets will not be realized.
Concentrations Financial instruments that potentially subject the Company to concentration of credit risk consist principally of cash equivalents and trade accounts receivable. The Company invests cash through high-credit quality financial institutions. The Company performs periodic evaluations of the relative credit standing of these financial institutions and limits the amount of its credit exposure with any one institution. At September 30, 2000, the Company's cash was principally invested with six major financial institutions. The Company's trade receivables primarily are derived from sales to manufacturers of communications products, consumer products and personal computers. Management believes that any risk of a significant accounting loss as a result of such concentrations is reduced due to the diversity of its products, end customers and geographic sales areas. The Company performs ongoing credit evaluations of its customers' financial condition and requires collateral, such as letters of credit and bank guarantees, whenever deemed necessary.
At September 30, 2000, one customer accounted for 10% of the Company's accounts receivable; no customer accounted for 10% or more of the Company's accounts receivable at September 30, 1999. No individual customers accounted for 10% or more of net revenues for fiscal years 2000, 1999, or 1998.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
While the Company operates and maintains its own wafer manufacturing and assembly and test facilities, the Company relies on outside foundries to supplement its wafer manufacturing capacity. Allocations by these suppliers of wafer manufacturing capacity to the Company depend on the Company's needs and capacity availability during periods of capacity shortages. A significant reduction in allocation from these suppliers could adversely affect the Company's results of operations. In addition, the Company is currently dependent on two suppliers for epitaxial wafers used in its gallium arsenide semiconductor manufacturing processes.
Comprehensive Income Other comprehensive income includes foreign currency translation adjustments and unrealized holding gains on available-for-sale marketable securities. The amounts of other comprehensive income presented in the consolidated statements of shareholders' equity are net of tax. Foreign currency translation adjustments are not presented net of any tax effect as the Company does not expect to incur any tax liability or benefit related thereto.
The components of accumulated other comprehensive income are as follows at September 30 (in thousands):
Recent Accounting Standards In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities", which establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. SFAS 133 requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. Derivatives that are not hedges must be adjusted to fair value through earnings. If the derivative is a hedge, depending on the nature of the hedge, changes in fair value of derivatives will either offset the change in fair value of the hedged assets, liabilities, or firm commitments through earnings, or be recognized in other comprehensive income until the hedged item is recognized in earnings. Generally, the change in a derivative's fair value related to the ineffective portion of a hedge, if any, will be immediately recognized in earnings. Implementation of SFAS 133 is required as of the beginning of fiscal year 2001 and will not have a material effect on the Company's financial position or results of operations.
In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 101 ("SAB 101"), "Revenue Recognition in Financial Statements". SAB 101 provides guidance on applying generally accepted accounting principles to revenue recognition issues in financial statements. The Company will be required to adopt SAB 101 no later than the fourth quarter of fiscal 2001. Management believes that the adoption of SAB 101 will not have a material effect on its financial position or results of operations.
In March 2000, the FASB issued Interpretation No. 44 ("FIN 44") "Accounting for Certain Transactions Involving Stock Compensation", which addresses certain accounting issues which arose under the previously established accounting principles relating to stock-based compensation. The adoption of this interpretation did not have a material effect on the Company's financial position or results of operations.
Reclassifications Certain prior year amounts have been reclassified to conform to the current year presentation.
3. ACQUISITIONS
In March 2000, the Company completed its acquisition of Maker Communications, Inc. ("Maker"), a fabless semiconductor company that develops and markets high-performance programmable network proces-
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
sors, software solutions, and development tools. Consideration for the acquisition of Maker consisted of 12.7 million shares of common stock and options to purchase an additional 1.6 million shares of common stock (having an average fair value of $60.32 per share), based upon an exchange ratio of 0.66 of a share of Conexant common stock for each share of Maker common stock. The total value of the consideration for the acquisition of Maker was approximately $979.6 million.
In January 2000, the Company acquired Microcosm Communications Limited ("Microcosm"), a technology leader in the field of high-speed integrated circuits for fiber optic communications located in Bristol, England. Consideration for the acquisition consisted of 1.5 million shares of common stock, options to purchase an additional 94,000 shares (having an average fair value of $52.03 per share) and approximately $3.1 million in cash. The total value of such consideration was approximately $103.8 million. Additional consideration of up to $18 million, initially held back for the payment of contingent indemnification obligations, may become payable in April 2001. The shareholders and optionholders of Microcosm could also receive additional consideration of up to $51.4 million, payable in the form of shares of common stock and stock options, if certain performance and technology goals are achieved.
In May 2000, the Company acquired Philsar Semiconductor Inc. ("Philsar"), a developer of radio-frequency ("RF") semiconductor solutions for personal wireless connectivity, including emerging standards such as Bluetooth(TM), and RF components for third-generation ("3G") digital cellular handsets. To effect the acquisition of Philsar by Conexant, all of the then-outstanding capital stock of Philsar was exchanged for an instrument which provides for approximately 2.2 million shares of Conexant common stock to be issued on a delayed basis. As additional consideration for the acquisition, Conexant converted the outstanding Philsar stock options into options to purchase an additional 525,000 shares of common stock (having an average fair value of $36.12 per share). The total value of such consideration was approximately $107.9 million. The Company may also be required to issue up to an additional 248,000 shares of common stock initially held in escrow for the payment of contingent indemnification obligations, upon the expiration of an indemnification period in fiscal 2001.
In June 2000, the Company acquired HotRail, Inc. ("HotRail"), a fabless semiconductor company developing advanced, integrated complementary metal-oxide semiconductor ("CMOS") technologies for high-speed switching, interconnect and scalable processing for networking systems. Consideration for the acquisition consisted of 5.9 million shares of common stock and options to purchase an additional 1.3 million shares (having an average fair value of $45.40 per share). The total value of such consideration was approximately $349.8 million. In addition, the Company may deliver up to an additional 652,000 shares, initially held back for the payment of contingent indemnification obligations, upon the expiration of an indemnification period in fiscal 2001.
During fiscal 2000, the Company also completed the acquisitions of Applied Telecom, Inc. ("Applied Telecom"), Istari Design, Inc. ("Istari"), Novanet Semiconductor Ltd. ("Novanet"), NetPlane Systems, Inc.("NetPlane"), Sierra Imaging, Inc. ("Sierra"), and the wireless broadband unit of Oak Technology, Inc., each engaged in the development and sale of semiconductors and related software products for communications and imaging applications. Aggregate consideration for these acquisitions consisted of $9.7 million in cash, 4.7 million shares of common stock, and options to purchase approximately 876,000 shares of common stock (having an average fair value of $38.34 per share). The aggregate value of such consideration was approximately $261.5 million. Certain of the acquisitions include provisions under which the former shareholders could receive additional consideration of up to $50.0 million, payable in a combination of Conexant common stock and cash, if certain performance and technology goals are achieved. The Company may be required to issue up to an additional 518,000 shares of common stock initially held back for the payment of contingent indemnification obligations, upon the expiration of indemnification periods.
The acquisitions have each been recorded under the purchase method of accounting. The value of the Conexant common stock issued was based on market prices at the time of the acquisition. The value of the CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
options assumed was determined using the Black-Scholes option valuation model. The value of the consideration for each acquisition has been allocated among the assets and liabilities acquired, including identified intangible assets and IPRD, based upon estimated fair values. The excess of the value of the consideration over the net assets acquired is allocated to goodwill. In connection with six of the transactions, an aggregate of $215.7 million was allocated to IPRD, and expensed immediately upon completion of the acquisitions (as a charge not deductible for tax purposes), because the technological feasibility of products under development had not been established and no future alternative uses existed.
The fair value of the IPRD for each of the acquisitions was determined using the income approach. Under the income approach, expected future after-tax cash flows from each of the projects or product families ("projects") under development are estimated and discounted to their net present value at an appropriate risk-adjusted rate of return. Each project was analyzed to determine the technological innovations included in the project; the existence and utilization of core technology; the complexity, cost and time to complete the remaining development efforts; the existence of any alternative future use or current technological feasibility; and the stage of completion in development. Future cash flows for each project were estimated based on forecasted revenues and costs, taking into account the expected life cycles of the products and the underlying technology, relevant market sizes and industry trends.
The projects were then classified as developed technology, IPRD or future development. The estimated future cash flows for each project were discounted to approximate fair value. Discount rates were derived from a weighted average cost of capital analysis, adjusted upward to reflect additional risks inherent in the development process, including the probability of achieving technological success and market acceptance. The fair value assigned to developed technology is included in identifiable intangible assets. The IPRD charge includes the fair value of the portion of IPRD completed as of the date of acquisition. The fair values assigned to IPRD to-be-completed and to future development are included in goodwill. The Company is responsible for the amounts determined for IPRD, as well as developed technology, and believes the amounts are representative of fair values and do not exceed the amounts an independent party would pay for these projects. Failure to complete the IPRD projects and deliver new products to the market on a timely basis, or to achieve expected market acceptance or revenue and expense forecasts, could have a significant impact on the financial results and operations of the acquired businesses.
The total charge for IPRD for the acquisition of Maker (which the Company agreed to acquire in December 1999) was $118.5 million. IPRD projects relating to seven product families, directed toward the development of high-performance programmable communications processors and applications software, were identified and valued. Maker's IPRD projects ranged from 55% to 92% complete and averaged approximately 75% complete, with aggregate estimated costs to complete all of the projects of $5.7 million. The IPRD projects principally are expected to be completed within one year of the acquisition date. The average discount rates used were 30% for IPRD projects and 20% for developed technology, which reflect the specific risks associated with each of the intangible assets. The weighted average cost of capital was estimated at 18%.
The total charge for IPRD for the acquisition of Microcosm (completed in January 2000) was $27.4 million. IPRD projects relating to four product families, directed toward the development of high-performance programmable communications processors, were identified and valued. Microcosm's IPRD projects ranged from 77% to 90% complete and averaged approximately 84% complete, with total estimated costs to complete all of the projects of $0.8 million. The IPRD projects are principally expected to be completed within one year of the acquisition date. The average discount rates used were 35% for IPRD projects and 25% for developed technology, which reflect the specific risks associated with each of the intangible assets. The weighted average cost of capital was estimated at 20%.
The total charge for IPRD for the Philsar acquisition (completed in May 2000) was $24.4 million. IPRD projects relating to five product families, directed toward the development of Bluetooth(TM) products including RF transceivers, a baseband controller, and an integrated single-chip Bluetooth(TM) solution, were identified and CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
valued. Philsar's IPRD projects ranged from 41% to 78% complete and averaged approximately 60% complete, with total estimated costs to complete all of the projects of $5.4 million. The IPRD projects are principally expected to be completed within one year of the acquisition date. The average discount rates used were 30% for IPRD projects and 25% for developed technology, which reflect the specific risks associated with each of the intangible assets. The weighted average cost of capital was estimated at 20%.
The total charge for IPRD for the HotRail acquisition (completed in June 2000) was $26.1 million. IPRD projects relating to two product families, directed toward the development of scalable, high-speed switch fabric systems and the HotRail Channel parallel CMOS transceiver, were identified and valued. HotRail's IPRD projects ranged from 34% to 95% complete and averaged approximately 74% complete, with total estimated costs to complete all of the projects of $11.7 million. The IPRD projects are principally expected to be completed within one year of the acquisition date. The average discount rates used were 34% for IPRD projects and 24% for developed technology, which reflect the specific risks associated with each of the intangible assets. The weighted average cost of capital was estimated at 24%.
The total charge for IPRD for the Novanet acquisition (completed in September 2000) was $17.3 million. Three IPRD projects, directed toward the development of high-speed semiconductor solutions for asynchronous transfer mode and packet over synchronous optical network applications, were identified and valued. Novanet's IPRD projects ranged from 45% to 90% complete and averaged approximately 70% complete, with total estimated costs to complete all of the projects of $10.8 million. The IPRD projects are principally expected to be completed within one year of the acquisition date. The average discount rates used were 22% to 27% for IPRD projects and 28% for developed technology, which reflect the specific risks associated with each of the intangible assets. The weighted average cost of capital was estimated at 20%.
The total charge for IPRD for the NetPlane acquisition (completed in September 2000) was $2.0 million. Four IPRD projects, directed toward the development of network control software and subsystems, including advanced multiprotocol label switching software for optical Internet backbone equipment and an Internet protocol ("IP") routing protocol product suite, were identified and valued. NetPlane's IPRD projects ranged from 5% to 60% complete and averaged approximately 30% complete, with total estimated costs to complete all of the projects of $0.5 million. The IPRD projects are principally expected to be completed within one year of the acquisition date. The average discount rates used were 20% to 22% for IPRD projects and 17% for developed technology, which reflect the specific risks associated with each of the intangible assets. The weighted average cost of capital was estimated at 17%.
The Company's fiscal 2000 acquisitions are summarized below (in thousands):
- --------------- (1) Excludes shares that may be delivered under earn-outs and under indemnity, escrow, or holdback provisions of the related acquisition agreements.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Consideration for the fiscal 2000 acquisitions consisted of Conexant common stock issued and stock options assumed (aggregate value $1.8 billion) and cash of $12.8 million. The net assets of the acquired businesses totaled $59.4 million, including liabilities of $20.7 million. The fair value of Conexant common stock subject to repurchase agreements and, for acquisitions completed after the effective date of FIN 44, the intrinsic value of 599,000 unvested options assumed by Conexant (an aggregate of $19.5 million) was recorded as deferred compensation and will be charged to expense over the remaining vesting periods of the options, ranging up to three years.
The terms of the acquisition agreements relating to the Company's fiscal 2000 acquisitions provide for additional consideration payable under earn-outs and under indemnity, escrow or holdback provisions as noted above. When issued, the additional consideration will result in additional goodwill.
The results of operations of the acquired companies are included in the consolidated financial statements from the dates of acquisition. The pro forma consolidated statement of operations data below assumes that each of the companies had been acquired at the beginning of each period presented. This pro forma data includes amortization of goodwill and identified intangibles from that date. However, the impact of the charges for IPRD has been excluded. This pro forma data for the years ended September 30, 2000 and 1999 is presented for informational purposes only, and is not necessarily indicative of the results of future operations or of the results that would have been achieved had the acquisitions taken place at the beginning of fiscal 1999.
4. MARKETABLE SECURITIES
Marketable securities include commercial paper, corporate bonds, and government securities, principally having remaining terms of one year or less, and marketable equity securities. The Company enters into certain equity investments for the promotion of business and strategic objectives. The marketable portion of these strategic investments is classified as marketable securities; non-marketable equity and other investments are included in other assets. All of the Company's marketable securities are classified as available for sale and are recorded on the consolidated balance sheet at fair value, based upon quoted market prices. As of September 30, 2000, unrealized gains of $47.7 million (net of related income taxes of $29.4 million) on these securities are included in other comprehensive income.
The Company had no marketable securities at September 30, 1999. Available for sale securities consisted of the following at September 30, 2000 (in thousands):
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The contractual maturities of debt securities at September 30, 2000 are as follows:
5. SUPPLEMENTAL FINANCIAL STATEMENT DATA
Inventories, net consisted of the following at September 30 (in thousands):
Inventories, net have been presented above inclusive of allowances for excess and obsolete inventories of approximately $50.2 million and $64.6 million at September 30, 2000 and 1999, respectively.
Property, plant and equipment, net consisted of the following at September 30 (in thousands):
Interest capitalized into construction in progress was $1.3 million and $1.5 million during fiscal years 2000 and 1999. No interest was capitalized in fiscal 1998.
Goodwill and intangible assets, net consisted of the following at September 30 (in thousands):
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Other assets consisted of the following at September 30 (in thousands):
The advance payments to vendors were paid to wafer suppliers under agreements for foundry capacity. An additional $75.0 million was paid in October 2000. These advance payments will be repaid upon the termination of the agreements, or earlier if certain conditions are met. Investments consist of equity interests in early stage technology companies, which are accounted for under the cost method, as the Company has less than 20% of the voting rights of each of these companies and does not exercise significant influence. In connection with one of these investments, the Company may be required to invest up to an additional $8.5 million.
Other current liabilities consisted of the following at September 30 (in thousands):
6. INCOME TAXES
The components of the provision (benefit) for income taxes are as follows for the years ended September 30 (in thousands):
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Deferred income tax assets and liabilities consist of the tax effects of temporary differences related to the following at September 30 (in thousands):
Management believes it is more likely than not that current and long-term tax assets will be realized through the reduction of future income tax payments. Significant factors considered by management in its determination of the probability of the realization of the deferred tax assets include the historical operating results of the Company, expectations of future earnings, and available tax planning strategies.
As of September 30, 2000, the Company has U.S. Federal net operating loss carryforwards of approximately $122.8 million which expire in 2020 and aggregate state net operating loss carryforwards of approximately $135.5 million which expire in 2005. The Company also has U.S. Federal and state income tax credit carryforwards of approximately $28.0 million and $57.1 million, respectively. The U.S. credits may be carried forward for 20 years. California Manufacturers' Investment Credits of approximately $32.2 million expire from 2005 through 2008, while the remaining state credits of approximately $24.9 million have no expiration date. Approximately $15.0 million of the California Manufacturers' Investment Credit carryforward was earned while the Company was part of Rockwell. Under the terms of the Tax Allocation Agreement with Rockwell, Conexant must pay Rockwell approximately $15.0 million when the benefits from such portion of the California Manufacturers' Investment Credit carryforwards are realized.
Tax benefits from the exercise of stock options (including payments received under the tax allocation agreement with Rockwell) totaling $166.1 million and $20.6 million for fiscal years 2000 and 1999, respectively, were credited directly to shareholders' equity.
The results of Conexant's operations for the quarter ended December 31, 1998 and fiscal 1998 were included in the federal, state, local and foreign income tax returns of Rockwell International Corporation. The remaining results of operations for Conexant are included in separate Conexant income tax returns. Rockwell has agreed to indemnify Conexant for income tax liabilities and retained the rights to tax refunds relating to
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
any operations included in Rockwell's income tax returns. Accordingly, the balance sheet does not include current or prior period income tax receivables or payables related to Conexant operations which are included in the consolidated or combined Rockwell income tax returns. The income tax provisions included in the Statements of Operations for periods prior to the spin-off from Rockwell were determined based on the "separate return" method.
The provision (benefit) for income taxes differs from the United States federal statutory tax expense as follows for the years ended September 30 (in thousands):
Income (loss) before provision (benefit) for income taxes consisted of the following components for the years ended September 30 (in thousands):
No provision has been made for United States, state, or additional foreign income taxes which would be due upon the actual or deemed distribution of approximately $36.2 million and $15.0 million of undistributed earnings of foreign subsidiaries as of September 30, 2000 and 1999, respectively, which have been or are intended to be permanently reinvested.
7. LONG-TERM DEBT
In February 2000, the Company issued $650 million principal amount of its 4% Convertible Subordinated Notes due 2007 for net proceeds (after costs of issuance) of approximately $631.0 million. The notes are general unsecured obligations of the Company. Interest on the notes is payable in arrears semiannually on each February 1 and August 1. The notes are convertible, at the option of the holder, at any time prior to redemption or maturity into shares of the Company's common stock at a conversion price of $108 per share, subject to certain adjustments. The notes may be redeemed, at the Company's option, on or after February 6, 2003 at a declining premium to par.
In May 1999, the Company issued $350 million principal amount of its 4 1/4% Convertible Subordinated Notes due 2006 for net proceeds (after costs of issuance) of approximately $339.6 million. The notes are general unsecured obligations of the Company. Interest on the notes is payable in arrears semiannually on each May 1 and November 1. The notes are convertible, at the option of the holder, at any time prior to redemption or maturity into shares of the Company's common stock at a conversion price of $23.098 per share, subject to certain adjustments. The notes may be redeemed, at the Company's option, on or after May 6, 2002 at a declining premium to par.
During fiscal 2000, $3,000 principal amount of the 4 1/4% Convertible Subordinated Notes were converted into 129 shares of common stock. At September 30, 2000, the fair value of the convertible subordinated notes (based on quoted market prices) was approximately $1.1 billion compared to its carrying value of $1.0 billion.
CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The Company has a $475 million revolving credit facility with a group of banks which provides for revolving borrowings and the issuance of letters of credit. The credit facility is secured by a pledge of the stock of the Company's significant subsidiaries (as that term is defined in the credit facility), subject to certain exceptions for stock of foreign significant subsidiaries, and by a pledge of certain intercompany indebtedness owed by any significant subsidiary to the Company or any other subsidiary. If there is a downgrading of the ratings on the Company's long-term, unsecured indebtedness by Standard & Poor's Rating Services Group to B or less and a rating by Moody's Investor Service of B2 or less (in the event of a rating by Moody's), the Company will be required to secure the credit facility by pledging substantially all of its assets and the assets of its domestic subsidiaries and the stock of all of its subsidiaries, subject to certain exceptions. The credit facility expires in July 2003.
Borrowings under the credit facility bear interest at a rate per annum equal to certain published rates (at the election of the Company) plus a variable margin based on the Company's total debt to capitalization ratio. The Company pays a facility fee on the unused amount of the credit facility at a per annum rate that will vary depending on the same criteria used to determine the interest rate margin and other customary fees. The credit facility includes restrictions on capital expenditures, indebtedness, acquisitions, mergers, asset sales and liens on assets that apply to the Company and its subsidiaries. The Company also must meet certain financial tests and maintain certain financial ratios. The Company was in compliance with all covenants under the credit facility for fiscal 2000. At September 30, 2000 there are no borrowings outstanding under the credit facility.
Interest expense was approximately $35.9 million, $10.8 million, and $-0- during fiscal years 2000, 1999, and 1998, respectively.
8. COMMITMENTS
The Company leases certain facilities and equipment under non-cancelable operating leases. Land and facility leases expire at various dates through 2008 and contain various provisions for rental adjustments including, in certain cases, a provision based on increases in the Consumer Price Index. The leases generally contain renewal provisions for varying periods of time. Rental expense under operating leases was approximately $17.6 million, $13.5 million, and $17.4 million during fiscal years 2000, 1999, and 1998, respectively. At September 30, 2000, future minimum payments under operating leases are as follows (in thousands):
Purchase commitments for construction or purchase of plant and equipment totaled approximately $10.3 million at September 30, 2000.
9. CONTINGENCIES
Claims have been asserted against the Company for utilizing the intellectual property rights of others in certain of the Company's products. The resolution of these matters may entail the negotiation of a license agreement, a settlement, or the resolution of such claims through arbitration or litigation.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
On October 14, 1997, Brent Townshend ("Townshend") filed suit against Rockwell and Conexant in the Superior Court of California for San Mateo County seeking an injunction to halt the sale of products containing Conexant's K56Flex(TM) chipsets and requesting unspecified damages, claiming that Conexant had engaged in unfair competition, misappropriation of trade secrets, breach of contract and breach of confidence by using technical information allegedly disclosed in confidence by Townshend to accelerate its development of 56 Kbps modem technology. In January 1999, Townshend dismissed his State Court action and re-filed the same claims and three new claims for patent infringement in the U.S. District Court for the Northern District of California. In the Federal action, Townshend alleges that each of his patents (the "Townshend Patents") covers certain aspects of the V.90 standard and are infringed by Conexant's 56 Kbps products. In October 2000, Townshend and Conexant entered into a written understanding as to settlement of all outstanding litigation. Under the settlement, Conexant will pay cash, and in certain circumstances non-cash consideration, all outstanding litigation will be dismissed with prejudice, and Townshend will grant to Conexant and certain future spin-off entities of Conexant a non-exclusive license to the Townshend Patents and other defined voiceband modem technology. The settlement calls for certain contingent cash obligations of Conexant, all of which have been accrued as of September 30, 2000. The liability could be reduced upon the occurrence of certain events.
In connection with the Distribution, Conexant assumed responsibility for all contingent liabilities and then current and future litigation (including environmental and intellectual property proceedings) against Rockwell or its subsidiaries in respect of Semiconductor Systems.
The outcome of litigation cannot be predicted with certainty and some lawsuits, claims or proceedings may be disposed of unfavorably to the Company. Many intellectual property disputes have a risk of injunctive relief and there can be no assurance that a license will be granted. Injunctive relief could have a material adverse effect on the financial condition or results of operations of the Company. Based on its evaluation of matters which are pending or asserted and taking into account the Company's reserves for such matters, management believes the disposition of such matters will not have a material adverse effect on the Company's financial condition or results of operations.
The Company has been designated as a potentially responsible party ("PRP") at one Superfund site located at a former silicon wafer manufacturing facility and steel fabrication plant in Parker Ford, Pennsylvania formerly occupied by the Company. The site was also formerly occupied by Recticon Corporation and Allied Steel Products Corporation, each of whom has also been named as a PRP and each of whom is insolvent. The remediation plan for the site includes installation of a public water supply line and a groundwater pump and treatment system, as well as routine groundwater sampling. Management estimates the total costs for the remediation of this Superfund site to be approximately $2.1 million and has accrued for these costs as of September 30, 2000. In addition, the Company is engaged in two other remediations of groundwater contamination at its Newport Beach and Newbury Park, California facilities. Management currently estimates the total costs for these remediations to be approximately $3.0 million and has also accrued for these costs as of September 30, 2000.
10. STOCK AND BENEFIT PLANS
The Company's authorized capital consists of 1,000,000,000 shares of common stock, par value $1.00 per share, and 25,000,000 shares of preferred stock, without par value, of which 1,500,000 shares are designated as Series A junior participating preferred stock (the "Junior Preferred Stock").
The Company has a preferred share purchase rights plan to protect shareholders' rights in the event of a proposed takeover of the Company. Under the Rights Agreement dated as of November 30, 1998 between the Company and ChaseMellon Shareholder Services, L.L.C., as Rights Agent, a preferred share purchase right (a "Right") is attached to each share of common stock pursuant to which the holder may, in certain takeover-
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
related circumstances, become entitled to purchase from the Company 1/200th of a share of Junior Preferred Stock at a price of $300, subject to adjustment. Also, in certain takeover-related circumstances, each Right (other than those held by an acquiring person) will generally be exercisable for shares of common stock or stock of the acquiring person having a market value of twice the exercise price. In certain events, each Right may be exchanged by the Company for one share of common stock or 1/200th of a share of Junior Preferred Stock. The Rights expire on December 31, 2008, unless earlier exchanged or redeemed at a redemption price of $0.01 per Right, subject to adjustment.
Stock Options
The Company has stock option plans and long-term incentive plans under which employees and directors may be granted options to purchase shares of the Company's common stock. An aggregate of 78.6 million shares have been authorized to be granted under the stock option and long-term incentive plans. As of September 30, 2000, 7.4 million shares are available for grant. Stock options are generally granted at not less than the fair market value at grant date, generally vest over four years and expire eight to ten years after the grant date. The Company has also assumed stock option plans in connection with the business acquisitions completed during fiscal 2000; no additional options will be granted under those plans. A summary of stock option activity is as follows for the years ended September 30 (shares in thousands):
The following table summarizes stock options outstanding at September 30, 2000 (shares in thousands):
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Restricted Stock
The Company's long-term incentive plans also provide for awards of restricted shares of common stock and other stock-based incentive awards to officers and other employees and certain non-employees of the Company. Restricted stock awards are subject to forfeiture if employment terminates during the prescribed retention period (generally within two years of the date of award) or, in certain cases, if prescribed performance criteria are not met. During fiscal 2000, 65,000 restricted shares of common stock were issued at a weighted-average fair value of $71.84. During fiscal 1999, 2.2 million restricted shares of common stock were issued at a weighted-average fair value of $11.84. No shares of restricted stock were issued in 1998. The fair value of restricted stock awards is charged to expense over the vesting period. In fiscal years 2000 and 1999, the Company recorded compensation expense of $2.6 million and $19.6 million, respectively, for the value of restricted stock awards.
Directors Stock Plan
The Company has a Directors Stock Plan which provides for each non-employee director to receive specified levels of stock option grants upon election to the Board of Directors and periodically thereafter. Under the Directors Stock Plan, each non-employee director may elect to receive all or a portion of the cash retainer to which the director is entitled through the issuance of common stock. As of September 30, 2000, 14,000 shares of Company common stock have been issued under the Directors Plan. An aggregate of 630,000 shares of the Company's common stock have been authorized for issuance under the Directors Plan.
Employee Stock Purchase Plans
The Company has adopted employee stock purchase plans for all eligible employees to purchase shares of the Company's common stock at 85% of the lower of the fair market value on the first or the last day of each six-month offering period. Under the employee stock purchase plans, employees may authorize the Company to withhold up to 10% of their compensation during any offering period, subject to certain limitations. Offering periods generally each have a six-month duration, commencing on March 1 and September 1 of each year. At September 30, 2000, an aggregate of 3.4 million shares of the Company's common stock had been authorized for issuance and approximately 2.3 million shares of common stock were available for future purchases under the plans.
Accounting for Stock-Based Compensation
As permitted under SFAS 123, the Company has elected to follow APB 25 and related interpretations in accounting for stock-based awards to employees. Under APB 25, the Company generally recognizes no compensation expense with respect to such awards.
Pro forma information regarding net income (loss) and earnings (loss) per share is required by SFAS 123. This information is required to be determined as if the Company had accounted for stock-based awards to its employees under the fair value method of that Statement. Had compensation cost for fiscal 2000 and 1999 option awards been determined based on the fair value at the grant date for awards, consistent with the provisions of SFAS 123, the Company's net loss and net loss per share would have been the pro forma amounts indicated below (in thousands, except per share data):
The Company granted no options in fiscal 1998. For purposes of pro forma disclosures under SFAS 123, the estimated fair value of the options is assumed to be amortized to expense over the options' vesting period.
CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The fair value of the options granted in fiscal 2000 and 1999 reported below has been estimated at the date of grant using the Black-Scholes option pricing model with the following assumptions:
The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including the expected stock price volatility. Because options held by employees and directors have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in the opinion of management, the existing models do not necessarily provide a reliable single measure of the fair value of these options.
11. EMPLOYEE BENEFIT PLANS
Retirement Savings Plan
The Company sponsors a 401(k) retirement savings plan that allows eligible U.S. employees to contribute, on a pre-tax basis or after-tax basis, up to 17% of their salary, subject to annual limits. The Company matches contributions dollar for dollar up to specified levels, and the Company may make an additional discretionary matching contribution at fiscal year-end, based on the Company's performance. All Company matching contributions are held in a fund which purchases shares of the Company's common stock, and are vested immediately. Expense under the retirement savings plan was $13.5 million, $6.7 million, and $6.0 million for fiscal years 2000, 1999, and 1998, respectively.
Retirement Medical Plans
The Company has a retirement medical plan which covers certain of its employees and provides for medical payments to eligible employees and dependents upon retirement. At the time of the spin-off from Rockwell, the Company ceased offering retirement medical coverage to active salaried employees. Retirement medical expense, consisting principally of interest accrued on the accumulated retirement medical obligation, was approximately $3.9 million, $1.6 million, and $2.7 million in fiscal years 2000, 1999, and 1998, respectively.
CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The change in the retirement medical obligation is as follows for the years ended September 30 (in millions):
For measurement purposes, a 9.25% annual rate of increase in the per capita cost of health care benefits was assumed for fiscal 2000, decreasing to 5.75% in 2012 and remaining at that level thereafter. The accrued benefit obligation is based on discount rates of 7.75% (2000) and 7.25% (1999). Increasing the health care cost trend rate by 1% would increase the accumulated retirement medical obligation at September 30, 2000 by approximately $3.4 million and would not significantly increase retirement medical expense.
Pension Plans
Prior to the spin-off from Rockwell, Conexant employees participated in a Rockwell pension plan which provides for monthly pension payments to eligible U.S. employees upon retirement. Pension benefits for U.S. salaried employees are based on years of credited service and compensation. Pension benefits for U.S. hourly employees are based on years of service and specified benefit amounts. In connection with the Distribution, Rockwell retained the obligation for vested benefits earned by Conexant participants in the Rockwell Pension Plan and all related assets. At the time of the spin-off, Conexant established a pension plan for certain hourly employees, with benefits substantially similar to the Rockwell pension plan, and which credits these employees for service earned with Rockwell. The benefits payable by Conexant under this plan are equal to the difference between the total benefits earned with both companies and the vested benefit obligation retained by Rockwell. Conexant also has certain pension plans covering its non-U.S. employees and retirees.
In connection with the restructuring plan announced in September 1998, the Company offered a voluntary early retirement program ("VERP") to certain salaried employees. Pension benefits under the VERP are paid from a newly established pension plan (the "VERP Plan") of Conexant. Benefits payable under the VERP Plan are equal to the excess of the total early retirement pension benefit over the vested benefit obligation retained by Rockwell under the Rockwell pension plan. Fiscal 1998 special charges include approximately $6.0 million for costs associated with employees who accepted the VERP on or before
CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 1998. Fiscal 1999 special charges include an additional charge of approximately $17.0 million for costs associated with the employees who accepted the VERP after September 30, 1998.
Net pension expense was approximately $1.9 million, $17.9 million and $14 million for fiscal 2000, 1999 and 1998, respectively. Net pension expense consists of service costs for benefits earned during the year and, in fiscal years 1999 and 1998, the cost of benefits under the VERP. As of September 30, 2000 and 1999, the aggregate projected benefit obligation included in the consolidated balance sheet for the VERP and hourly pension plans was approximately $11.6 million and $13.3 million, respectively. The pension obligations are based on discount rates of 7.75% (2000) and 7.25% (1999).
12. NET INCOME (LOSS) PER SHARE
Basic net income (loss) per share is based on the weighted average number of shares of common stock outstanding during the period. Diluted net income (loss) per share also includes the effect of stock options and other common stock equivalents outstanding during the period, and assumes the conversion of the Company's convertible subordinated notes for the period of time such notes were outstanding, if such stock options and convertible notes are dilutive.
For periods prior to the December 31, 1998 spin-off from Rockwell, net income (loss) per share represents a pro forma net income (loss) per share, calculated as if the spin-off had occurred on October 1, 1997. The number of pro forma weighted average outstanding shares and common share equivalents used in the pro forma net income (loss) per share calculation set forth below was based upon the weighted average number of Rockwell shares and share equivalents outstanding for the applicable periods, adjusted for the distribution ratio in the Distribution of one share of the Company's common stock for every two shares of Rockwell common stock. For the year ended September 30, 1999, the pro forma weighted average common shares was determined based upon the weighted average of the Rockwell method for the first fiscal quarter, as previously described, and the actual Conexant share activity for the second through fourth quarters. For the year ended September 30, 1998 the pro forma weighted average common shares was determined based upon the weighted average of the Rockwell method for the entire period.
The following table sets forth the computation of basic and diluted net income (loss) per share for the years ended September 30 (in thousands, except per share data):
For fiscal 2000, the basic number of weighted average shares outstanding includes approximately 2.2 million shares of common stock required to be issued on a delayed basis as part of an acquisition.
CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
For periods subsequent to the spin-off from Rockwell, the potential dilutive effect of Conexant's common stock equivalents shown below was not included in the computation of diluted earnings per share, as these securities were antidilutive (weighted-average numbers of shares, in thousands):
The 4% Convertible Subordinated Notes due 2007 were issued in February 2000 and are convertible into an aggregate of 6.0 million shares of the Company's common stock as of September 30, 2000.
13. SPECIAL CHARGES
In the fourth quarter of fiscal 1998, the Company restructured its business and recorded special charges of approximately $147 million. The special charges include an asset impairment of approximately $103 million related to the closure and planned disposal of its wafer fabrication facilities in Colorado Springs, Colorado, approximately $15 million for employee severance and VERP costs associated with an approximate 10% worldwide workforce reduction, approximately $11 million related to intangible asset write-offs and approximately $18 million for other actions including lease termination costs, contractual liabilities and other asset write-offs. In connection with the restructuring, management decided to close and dispose of the Company's wafer fabrication facilities in Colorado Springs, Colorado. The $103 million charge represents the excess of the carrying value of the long-lived assets of these facilities over their estimated fair value as determined by independent appraisal. These facilities were distributed to Rockwell prior to the Distribution.
In the first fiscal quarter of 1999, the Company recorded special charges of approximately $38 million. The additional charges include approximately $20.0 million related to the further writedown of the Company's wafer fabrication facilities in Colorado Springs, Colorado, approximately $17.0 million relating to the VERP, and approximately $0.9 million to decommission equipment, activities at foreign subsidiaries and contract cancellations at the Colorado Springs wafer fabrication facilities. As of September 30, 2000, the restructuring plans were substantially complete. The following table summarizes the Company's restructuring activity for the year ended September 30, 2000 (in thousands):
14. RELATED PARTY TRANSACTIONS
Prior to the Distribution, Rockwell provided certain services that were allocated based on sales in proportion to total Rockwell sales. Subsequent to the Distribution, Rockwell provided certain services to the Company, including payroll and employee benefits administration, data processing and telecommunications services, and research and development activities under the terms of a transition agreement. Costs for these services and programs are billed to Conexant based on actual usage and are included in the accompanying consolidated statements of operations. Management believes that the methods of billing these costs are
CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
reasonable. These costs totaled approximately $4.5 million, $10 million and $23 million in fiscal 2000, 1999 and 1998, respectively.
Prior to the Distribution, Rockwell also provided management services to Conexant, including corporate oversight, financial, legal, tax, corporate communications, and human resources. The costs of providing these services were allocated to Conexant based on sales in proportion to total Rockwell sales and are included in selling, general and administrative expense. These costs totaled approximately $2 million and $12 million in fiscal 1999 and 1998, respectively.
During fiscal 1999, the Company transferred its Colorado Springs, Colorado wafer fabrication facilities (and the related tax benefit) with a book value of approximately $59 million to Rockwell, as well as certain other tax benefits of approximately $25 million related to litigation. In addition, Rockwell transferred $64 million of restricted cash to Conexant to be used to satisfy a $65 million liability which Conexant recorded in fiscal 1998, related to the same litigation. During fiscal 1999, Conexant used the restricted cash balance of $64 million to settle the liability.
NOTE 15. SEGMENT AND OTHER INFORMATION
The Company operates and tracks its results in two segments -- Personal Networking and Internet Infrastructure. The Personal Networking segment designs, develops and sells semiconductor products and system solutions in four general personal communications applications markets -- personal computing, personal imaging, digital infotainment and wireless communications. For segment reporting purposes, these four product groups have been aggregated because of their common characteristics and their reliance on shared operating functions. The Internet Infrastructure segment designs, develops and sells semiconductor products and system solutions for some of the highest-growth areas in the broadband communications markets including broadband access, multi-service access and wide area network transport.
The accounting policies of the segments are the same as those described in the Note 2. The Company evaluates segment performance based on operating income (loss) excluding amortization of intangible assets, IPRD, and special charges. The tables below present information about reported segments for the years ended September 30 (in thousands):
CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Segment total assets are as follows as of September 30 (in thousands):
Revenues by product are as follows for the years ended September 30 (in thousands):
Revenues by geographic area are presented based upon their country of destination. No other foreign country represented 10% or more of net revenues for any of the periods presented. Revenues by geographic area are as follows for the years ended September 30 (in thousands):
Long-lived assets consist of property, plant and equipment, goodwill and intangible assets, and other assets. Long-lived assets by geographic area are as follows as of September 30 (in thousands):
16. SUPPLEMENTAL CASH FLOW INFORMATION
Interest paid, net of amounts capitalized, was approximately $26.0 million, $0.6 million, and $-0- during fiscal 2000, 1999 and 1998, respectively. Income taxes paid were $20.6 million and $-0- during fiscal 2000 and 1999, respectively. Prior to the Distribution, all income tax payments were made by Rockwell.
CONEXANT SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
17. SUBSEQUENT EVENTS
From October 1 through November 30, 2000, $233.7 million principal amount of the Company's 4 1/4% Convertible Subordinated Notes due 2006 were converted into 10.1 million shares of common stock at a cost to the Company of $39.1 million. In addition, the Company repurchased $35.0 million principal amount of its 4% Convertible Subordinated Notes due 2007 at prevailing market prices.
INDEPENDENT AUDITORS' REPORT
To The Board of Directors and Shareholders of Conexant Systems, Inc.
We have audited the accompanying consolidated balance sheets of Conexant Systems, Inc. and subsidiaries (the "Company") as of September 30, 2000 and 1999, and the related consolidated statements of operations, cash flows and shareholders' equity for each of the three years in the period ended September 30, 2000. Our audits also included the financial statement schedule listed in the Index at Item 14(a). These financial statements and the financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and the financial statement schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Company and its subsidiaries at September 30, 2000 and 1999, and the consolidated results of their operations and their consolidated cash flows for each of the three years in the period ended September 30, 2000, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
/s/ DELOITTE & TOUCHE LLP
Costa Mesa, California October 16, 2000, except for Note 17, as to which the date is November 30, 2000
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
Certain information required by Part III is omitted from this Annual Report on Form 10-K in that the Registrant will file its definitive Proxy Statement for the Annual Meeting of Shareowners to be held on February 28, 2001 pursuant to Regulation 14A of the Securities Exchange Act of 1934 (the "Proxy Statement") not later than 120 days after the end of the fiscal year covered by this Annual Report on Form 10-K, and certain information included in the Proxy Statement is incorporated herein by reference.
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
(a) Executive Officers -- See "Executive Officers" in Part I, Item 1 hereof.
(b) Directors -- The information required by this Item is incorporated by reference to the section entitled "Election of Directors" in the Proxy Statement.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item is incorporated herein by reference to the sections entitled "Executive Compensation" and "Directors' Compensation" in the Proxy Statement.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item is incorporated herein by reference to the section entitled "Security Ownership of Certain Beneficial Owners and Management" in the Proxy Statement.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In connection with the Distribution, Rockwell and the Company entered into several agreements, including agreements relating to services to be provided by Rockwell to the Company following the Distribution, the allocation of liabilities and obligations with respect to taxes, employee benefit plans and compensation arrangements, and other matters. At the time these agreements were negotiated and executed, certain of the Company's directors and executive officers also served as directors or executive officers of Rockwell. The Company believes the terms of these agreements to be reasonable.
Additional information required by this Item is incorporated by reference to the section entitled "Certain Relationships and Related Transactions" in the Proxy Statement.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a)(1) FINANCIAL STATEMENTS
The following consolidated financial statements of the Company for the fiscal year ended September 30, 2000 are included herewith:
Consolidated Balance Sheets, Consolidated Statements of Operations, Consolidated Statements of Cash Flows, Consolidated Statements of Shareholders' Equity, Notes to Consolidated Financial Statements, and Report of Independent Auditors
(2) SUPPLEMENTAL SCHEDULES
Schedule II Valuation and Qualifying Accounts
All other schedules have been omitted since the required information is not present in amounts sufficient to require submission of the schedule, or because the required information is included in the consolidated financial statements or notes thereto.
(3)(a) EXHIBITS
- --------------- * Management contract or compensatory plan or arrangement.
(b) REPORTS ON FORM 8-K. The Company filed the following current reports on Form 8-K during the quarter ended September 30, 2000:
Report on Form 8-K dated September 28, 2000, reporting the completion of the Company's acquisition of NetPlane Systems, Inc. (Item 5).
Report on Form 8-K dated September 22, 2000, reporting the completion of the Company's acquisition of Novanet Semiconductor Ltd. (Item 5).
Report on Form 8-K dated September 14, 2000, reporting the Company's plan to spin-off its Internet Infrastructure business. (Items 5 and 7).
Report on Form 8-K dated August 8, 2000, with respect to pro forma financial statements of the Company in connection with the Company's acquisition of Maker Communications, Inc. (Items 5 and 7).
Report on Form 8-K dated July 19, 2000, reporting the Company's agreement to acquire NetPlane Systems, Inc. and the Company's agreement to acquire Novanet Semiconductor Ltd. (Items 5 and 7).
Report on Form 8-K dated June 29, 2000, reporting the completion of the Company's acquisition of HotRail, Inc. (Items 2 and 7).
(c) EXHIBITS
See subsection (a)(3) above.
(d) FINANCIAL STATEMENT SCHEDULES
See subsection (a)(1) and (2) above.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Newport Beach, State of California, on this 13th day of December, 2000.
CONEXANT SYSTEMS, INC.
By: /s/ DWIGHT W. DECKER ------------------------------------ Dwight W. Decker, Chairman and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this report has been signed on the 13th day of December, 2000 by the following persons on behalf of the Registrant and in the capacities indicated:
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS (IN THOUSANDS)
- --------------- (a) Acquisition date balances of acquired companies.
EXHIBIT INDEX
- --------------- * Management contract or compensatory plan or arrangement.