ITEM 1. BUSINESS
INTRODUCTION
We design, develop, manufacture and market radio frequency integrated circuits, or RFICs, for rapidly growing wireless communications products and applications. Our products are included in cellular and PCS phones, cordless phones, wireless local area networks, wireless local loop handsets, industrial radios, wireless security systems and remote meter readers. The majority of our revenue is derived from sales of RFICs designed for cellular and PCS phones. We offer a broad array of products -- including amplifiers, mixers, modulators/demodulators and single chip transmitters, receivers and transceivers -- that represent a substantial majority of the RFICs required in wireless subscriber equipment. These RFICs perform the transmit and receive functions that are critical to a phone's performance.
We currently design products using four semiconductor process technologies: gallium arsenide heterojunction bipolar, silicon bipolar transistor, silicon germanium and gallium arsenide MESFET. Generally speaking, gallium arsenide, or GaAs, products offer better electrical performance while silicon-based products are less expensive. Original equipment manufacturers, or OEMs, try to maximize tradeoffs between performance and cost. Our approach to using multiple semiconductor process technologies allows us to offer customers products that fulfill their performance, cost and time-to-market requirements. We call this approach to business Optimum Technology Matching(R).
We design most of our GaAs products using a type of transistor called a heterojunction bipolar transistor, or HBT. We believe that our GaAs HBT RFICs have significant advantages in the areas of linearity, efficiency and size. Because of the importance of design to many of our parts and the strength of our GaAs HBT technology, we are a single-sourced supplier to many customers. Our products are purchased by leading OEMs such as Nokia Mobile Phones Ltd., LG Information & Communications, Ltd., Samsung Electronics Co., Ltd, Motorola, Inc., Bosch Telecom, Inc., NEC Corp., Kyocera America, Inc. and Ericsson Mobile Communications. We also recently
announced an alliance with QUALCOMM Inc. to provide advanced power amplifiers for the Code Division Multiple Access, or CDMA, digital wireless communications market.
TRW Inc., which is our largest shareholder, has granted us a license (in exchange for shares of our common stock) to use its GaAs HBT process to design and manufacture products for commercial wireless applications. TRW manufactured all of our GaAs HBT products before September 1998. We now manufacture the majority of our GaAs HBT products under this license at our own manufacturing facility, but we will continue to purchase GaAs HBT products from TRW at least until December 31, 2000. As of March 31, 2000, TRW owned 11.9 million shares or about 15% of our common stock.
INDUSTRY BACKGROUND
The wireless communications industry has grown rapidly over the past decade as cellular, paging, PCS and other services have become more widely available and affordable. Technological advances, changes in telecommunications regulations and the allocation and licensing of additional radio spectrum have helped cause this growth worldwide. Technological advances have also led to the development of competing wireless communications services, the establishment of wireless applications such as second-generation digital cordless telephony, wireless LANs, WLL, wireless security and remote meter reading, and the emergence of third generation services that offer the prospect of even higher data access speeds, multimedia capabilities, simultaneous access to multiple services and true global roaming. As wireless usage grows, wireless service providers continue to improve the quality and function of the services they offer and seek to offer greater bandwidth for more capacity.
To expand capacity from first generation cellular communications networks, certain national governments made available less congested frequency bands for new wireless communications services. In the United States, the Federal Communications Commission allocated and auctioned 10 MHz and 30 MHz portions of spectrum in the 1850 to 1990 MHz range for PCS, and allocated broad band spectrum in the 2.4 GHz range for wireless LANs. Capacity and functionality also are being addressed by the wireless industry's movement from wireless networks that use analog signal modulation techniques to wireless networks that use digital signal modulation techniques. As compared to analog technologies, digital technologies generally provide better signal quality, help the transmission of both voice and data and improve capacity by allowing the transmission of more information in a smaller amount of frequency space. These digital technologies place a premium on linear power amplification, which can mean higher quality signals.
The wireless communications markets have many different air interface signal transmission standards in different parts of the world, including digital standards, such as Global System for Mobile Communications, Time Division Multiple Access and CDMA, analog standards, such as Advanced Mobile Phone Service and Total Access Communications Systems, and certain hybrid standards. For PCS, the FCC has approved seven different air interface standards. The handsets designed for each air interface standard generally require unique RF and baseband integrated circuit solutions that must be designed to meet the demands of subscriber equipment users for greater functionality, smaller and lighter equipment, longer battery life and better security, all at reduced costs. As a result of these technical challenges and end user demands, it has become increasingly difficult for OEMs of subscriber equipment to develop and supply all the required components in a timely and cost-effective manner. This has caused some OEMs to rely increasingly on third party value-added technology providers that have the component and systems level expertise to design and the production capacity to supply these solutions. In addition, because new entrants to the wireless subscriber equipment market, such as large consumer electronics companies, tend to be less vertically integrated than established OEMs, they must rely even more on third party suppliers. This technology outsourcing trend is particularly evident in the RF segment of the equipment due to the scarcity of RFIC engineers and the design complexity of the technology.
RF OVERVIEW
A typical subscriber device for wireless personal communications, such as a handset, contains digital, baseband and RF components. Digital components control the overall circuitry and encrypt the voice or other data intended for transmission and reception, while baseband components are used to process signals into or from
their original electrical form (low frequency analog voice or data). RF components, such as amplifiers, mixers, attenuators, switches, modulators, demodulators, oscillators and frequency synthesizers, convert, switch, process and amplify the high frequency signals that carry the information to be transmitted or received.
RF technology presents different engineering challenges than standard semiconductor design. In general, digital and baseband semiconductor design engineers create standard semiconductor circuit designs by combining "cells" that previously have been evaluated and characterized. Because cells have predictable performance, the design engineer can use computers to automate the design process, which helps accelerate the development of these components. Each RF component, however, has distinctly different characteristics that influence overall system performance in complex ways. Instead of having stable inputs and outputs, the RF circuit characteristics can drift based on process variations, temperature, power supply and other variables. As a result, performance characteristics are unique for each device, and the RF engineer must evaluate and develop new designs on a continuous basis for each system performance level and air interface standard. In addition to being skilled in semiconductor circuit design, the RF circuit designer must have a thorough understanding of signal processing principles, must understand the totality of the system for which the device is intended and must be able to create designs that function within the unique parameters of different wireless system architectures. As RF technology has moved from discrete components to integrated circuit solutions, the scarcity of engineers with both integrated circuit design and RF expertise has become more pronounced.
In early wireless communications equipment, individually packaged discrete components were mounted on circuit boards to form complex circuits used to transmit and receive RF signals. Size, reliability and cost concerns ultimately led to a move from discrete devices to silicon-based integrated circuits. Particularly for the critical power amplifier function, the use of silicon integrated circuits at cellular and PCS frequencies has been limited because of decreased operating performance. In particular, at high frequencies silicon integrated circuits consume more power, have relatively higher noise and distortion parameters and create excess heat.
Within the last decade, GaAs semiconductor technology has emerged as an effective alternative or complement to silicon technology in many high performance RF applications. GaAs has inherent physical properties that allow electrons to move up to five times faster than in silicon, which permits the manufacture of GaAs devices that operate at much higher speeds than silicon devices or at the same speeds with lower power consumption. This is particularly important in battery powered portable applications such as handsets. Moreover, the semi-insulating GaAs substrate significantly reduces some of the unwanted parasitic effects of the conductive silicon substrate that cause its performance to degrade at high frequencies.
GaAs integrated circuits were first implemented using a type of transistor known as MESFET. While GaAs MESFET integrated circuits have become accepted for many high frequency applications, these devices have certain limitations. In particular, for power amplifiers used in digital systems it is important to have a linear signal (i.e., one that is not altered or distorted when amplified). GaAs MESFET devices have difficulty meeting high linearity performance criteria without sacrificing other performance criteria. In addition, GaAs MESFET power amplifiers generally require both a positive and negative power supply for power stages, which requires the inclusion of additional components or circuitry and a corresponding increase in device size and complexity. Additionally, the lateral structure of GaAs MESFET devices hinders the ability to shrink the device size to enhance manufacturing yields and reduce costs. A different type of GaAs transistor known as an HBT, which has been used in military and space applications over the past decade, emerged recently in commercial RF applications.
Our GaAs HBT products include power amplifiers and small signal devices that have been designed into advanced subscriber handsets manufactured by leading OEMs such as Nokia, LGIC, Samsung, Motorola, Bosch, NEC, Kyocera and Ericsson. In addition to the advantages that GaAs provides over silicon in terms of speed, efficiency and the ability to operate at high frequencies, we believe that GaAs HBT components offer benefits over GaAs MESFET devices in comparable applications in a number of ways, including efficiency, linearity, size and complexity.
STRATEGY
Our goal is to be the leading worldwide supplier of RFICs for a broad range of commercial wireless applications. To meet this goal, we have developed a focused strategy. The key elements are:
- Continue to Expand Manufacturing Capacity. We have completed construction of an approximately 64,000 square foot fabrication facility and have been fabricating our own GaAs HBT wafers since September 1998. The facility currently has a maximum capacity of approximately 35,000 wafers per year, and we are in the process of completing a capacity expansion that we believe will increase its total annual potential output to 60,000 wafers by December 31, 2000. We also began construction of a second, 128,000 square foot wafer fabrication facility in September 1999 at a site near our first facility. Operating our own GaAs HBT wafer fabrication facility has improved our ability to respond to customer demand for GaAs HBT products and is providing us with greater opportunities to enhance product and process quality and reliability. We believe that our future success depends heavily upon our ability to maintain and expand our manufacturing capacity.
- Offer a Wide Range of RF Products. We offer a full line of products that include power amplifiers, low noise amplifiers/mixers, quadrature modulators/demodulators and single chip transceivers. For cellular and PCS applications, we offer products addressing virtually all of the analog and digital air interface standards. Our design engineering staff has developed proprietary design and fabrication modeling techniques and tools to enable us to deliver state-of-the-art integrated circuit designs that meet our customers' stringent technical specifications. In response to customer requests, we are also offering RFICs in a "module" package that, in addition to one or more RFMD-designed integrated circuits, includes passive components, such as capacitors, inductors and resistors, that are commonly incorporated into end-user devices. We are assembling and packaging these modules both in-house and through one of our packaging vendors. Developing this module product capability has presented and continues to present us with a variety of challenges in the areas of technical ability, maintenance of component supply and production, and testing line processes. However, we believe this is a necessary step for us to remain competitive in our industry.
- Maintain Diversification in Process Technologies. We believe that we are the only provider of RFICs in commercial volumes that is able to design products in four distinct process technologies -- GaAs HBT, GaAs MESFET, silicon BiCMOS and silicon germanium. We believe that our GaAs HBT expertise allows us to deliver high efficiency, high performance components such as linear power amplifiers and low noise amplifiers to the wireless communications markets. While attempting to leverage our GaAs HBT capabilities, we also intend to continue to expand our line of silicon-based RFICs and to maintain or increase the portion of overall revenue attributable to sales of silicon products. As a part of this strategy, in March 1998, we entered a multi-year agreement with International Business Machines Corporation that provides for expanded development, manufacture and sale of custom RFICs by us using IBM's advanced Blue Logic silicon process technology. We have developed more than 62 RFICs using silicon based technology, and revenues represented by sales of silicon based technology products have increased from $5.2 million in fiscal 1998 to $15.0 million in fiscal 1999 and $27.2 million in fiscal 2000. Also, in January 1999, we expanded our relationship with IBM to add access to IBM's silicon germanium foundry services, and we are now also designing and selling products using this technology.
- Focus Primarily on Wireless Markets. Since RFMD's formation in 1991, we have focused our efforts almost exclusively on the design, development, manufacture and sale of RFICs to participants in the commercial wireless markets. We have developed and sold integrated circuits for a broad range of applications within these markets, including cellular and PCS, cordless telephony, industrial radios, wireless LANs, WLL, wireless security and wireless utility meter reading. Our customers include some of the leading OEMs, including Nokia, LGIC, Samsung, Motorola, Bosch, NEC, Kyocera and Ericsson. Also, on February 28, 2000, we announced that we had entered into an alliance with QUALCOMM Inc. to provide advanced power amplifiers for the CDMA market. Despite our focus on wireless markets, we also evaluate other markets and will attempt to enter them if the opportunity presents itself. In November 1999, for example, we expanded our GaAs HBT license arrangement with TRW to include products for
commercial coaxial and other non-fiber wire applications, and we have begun designing products for these markets.
- Maintain Balanced Product Mix. We strive to maintain a balance between custom and standard products. Custom-designed products are usually developed for volume production orders from large OEMs. Custom products normally are manufactured on an exclusive basis for the originating customer for an agreed period of time. Once exclusive production is over, we attempt to move custom products quickly into the standard product category in order to broaden our customer base and leverage our design and product development expenditures.
MARKETS
We design, develop, manufacture and market our products to both domestic and international OEMs for commercial applications in the wireless markets, including cellular and PCS handsets, cordless telephony, industrial radios, wireless LAN equipment, WLL handsets, wireless security systems and wireless utility meter reading systems.
Cellular Telephony and Personal Communication Services
In cellular and PCS applications, calls are placed through handheld subscriber devices by making a connection with a base station via RF channels. While the initial PCS services are similar to cellular telephony, as PCS becomes more widely used, it is expected that a subscriber will be able to use a single small, lightweight handset and a single phone number for all calls in the home, office or elsewhere with relatively seamless routing.
Cordless Telephony
Cordless telephones have moved from first generation analog phones to digital cordless phones operating at higher frequencies. These digital cordless phones typically use spread spectrum modulation to provide improved range and voice quality, less interference and greater security.
Wireless Local Loop Systems
A WLL system is a fixed location wireless communications system in which the end user is connected to the local telephone company's central switch via a wireless connection. WLL systems employ simplified cellular or PCS technology. The absence of high speed mobility, roaming or intercell handoff requirements make the infrastructure and operating costs of WLL systems significantly lower than traditional wired and cellular systems. WLL systems can be rapidly deployed, even in difficult terrain areas, and are easily scalable.
Wireless Networks
Wireless networking involves the transmission and reception of data such as e-mail, faxes and computer files by desktop and portable computers via wireless RF links rather than wired lines. Network coverage ranges from wireless LANs, which might be found within a business or single building, to metropolitan area networks, which would be limited to a defined metropolitan or geographic area, to wide area networks, which connect individuals and work groups over larger geographic areas.
Industrial Radios
Industrial digital radios are trunked radio networks that transmit voice communications from one location to another (point-to-point) and from one location to many locations (point-to-multipoint). Industrial radios are primarily used by law enforcement officers and in other public safety applications.
Other Wireless Markets
We also supply custom components for other applications in wireless markets, such as wireless security systems and wireless utility meter reading systems. We are pursuing other emerging wireless markets, including
enhanced two-way paging, wireless monitoring devices, interactive toys, home networking, keyless entry and wireless handheld devices used for point-of-sale, bar coding and other applications.
Wire Applications
We pursue opportunities to leverage the technological advantages of our RF components by identifying applications in other markets. In November 1999, we expanded our license arrangements with TRW in order to use its GaAs HBT technology to manufacture products for commercial coaxial and other non-fiber wire applications such as cable modems, set-top converter boxes, television tuners and products for the digital subscriber line market, and we have begun designing such products. We also market various GaAs HBT and MESFET components for satellite and microwave communications applications, and certain of our components, such as gain blocks and attenuators, are used for instruments and in other non-wireless applications.
MANUFACTURING, PACKAGING AND TESTING
Our manufacturing cycle consists of semiconductor wafer fabrication, assembly and packaging, and final product testing. We began manufacturing GaAs HBT products at our wafer fabrication facility in September 1998 and also use independent foundries to manufacture our products. We currently use two independent foundries to supply our silicon-based product requirements and one independent foundry to supply our GaAs MESFET devices. We also purchase a portion of our GaAs HBT wafers from TRW. Although our first wafer fabrication facility is operational, we will continue to rely on independent foundries for the manufacturing of a significant portion of our products for the foreseeable future. This reliance involves a number of risks, including the possibility of material disruptions in the supply of key RFICs and the lack of control over delivery schedules, manufacturing yields, quality and fabrication costs.
Our first wafer fabrication facility, located in Greensboro, North Carolina, occupies approximately 64,000 square feet and includes a clean room of approximately 16,300 square feet. During fiscal 2000, our wafer fabrication facility accounted for $180.5 million in sales, or 62.5% of our total revenues. The facility currently has a maximum capacity of approximately 35,000 wafers per year, and we are in the process of completing a capacity expansion that we believe will increase its total annual potential output to 60,000 wafers by December 31, 2000.
We began construction of a second, 128,000 square foot wafer fabrication facility in September 1999 at a site near our first facility. The estimated capacity for the first phase of this facility, projected for completion in late calendar 2000 at a cost of $140 million, will be 60,000 four-inch wafers per year. We plan to increase this new facility's capacity with a second phase of construction designed to increase the facility's total output to the equivalent of 210,000 four-inch wafers per year and budgeted at $180 million.
We maintain an inventory of certain standard products based on our internal forecasts of expected demand for these products. For custom-designed products, designs of our products are verified both by us and by the customer before orders for production wafers are placed. Upon receipt of orders from an OEM, we schedule production based on order size, customer delivery requirements, production schedules and other production considerations.
We currently use six vendors located in Asia and one vendor located in the United States to package and assemble our products. All of these vendors are certified to applicable ISO 9000 series specifications, which means that their operations have in each case been determined by independent examiners to comply with certain internationally developed quality control standards. We qualify and monitor assembly contractors based on cost and quality. These contractors typically provide us with per-unit pricing.
We have encountered packaging quality problems with certain of our vendors, particularly with regard to GaAs products. In particular, we took non-recurring charges in the fourth quarter of fiscal 1998 of approximately $4.6 million to cover product returns and the establishment of inventory reserves for products with packaging-related problems. This packaging problem ultimately was resolved to our satisfaction and the satisfaction of our customer. We have taken steps to improve the reliability of packaging quality, including the hiring of a Vice President of Quality, the expansion of our in-house package testing and qualification line and the employment of
additional packaging engineers to engage in both package testing and the development of new packaging designs; however, we cannot be sure that we will not experience additional packaging quality problems in the future. We believe that we will have to continue to monitor closely our vendors as our production volumes increase.
In addition to using independent packaging vendors, we are assembling and packaging in-house certain RFICs in a "module" package that, in addition to one or more RFMD-designed integrated circuits, includes passive components, such as capacitors, inductors and resistors, that are commonly incorporated into end-user devices. We had not previously packaged any type of RFIC on a commercial basis, and this vertical expansion of our business has necessitated significant investment in equipment and additional personnel and is requiring us to develop expertise in new production techniques that are significantly different from RFIC fabrication processes. To date, we have spent approximately $6.9 million in developing our in-house module packaging capability and have budgeted an additional $16.8 million for expenditures in fiscal year 2001.
PRODUCTS AND APPLICATIONS
We offer a broad range of standard and custom-designed RFICs. Custom-designed products are usually developed for volume production orders from large OEMs. Custom orders are normally manufactured on an exclusive basis for a negotiated period. Once exclusivity periods expire, we attempt to convert custom products into standard products to broaden our customer base and leverage our design and product expenditures. At March 31, 2000, we offered 323 products. Below is a list of our current products by category, the number of products in each category, the semiconductor process technology used to fabricate these products and the types of OEM devices into which these products are incorporated.
Power Amplifiers
Power amplifiers provide signal amplification in the transmitter section of a wireless system in order to boost a signal through the antenna. Power amplifiers operate at different frequencies, power levels and air interface standards and generally are classified either as linear amplifiers, which add a minimum amount of distortion to the shape of the input signal, or non-linear amplifiers, which are used in analog devices. Power amplifiers are often the most critical RF component for a number of reasons. They frequently are the most expensive component and are difficult to design and implement. In addition, power amplifiers normally use the greatest amount of battery power in a handset, which impacts talk time, and they generally dissipate the greatest amount of heat. Our
GaAs HBT power amplifiers offer low distortion, small size, high efficiency, improved linearity and operation from a single polarity power source.
Quadrature Modulators/Demodulators
Quadrature modulators are devices in the transmitter section of a wireless system that combine digital information with an RF signal by varying the phase and amplitude of the signal so that the resulting signal can be transmitted. Quadrature demodulators reverse this process in the receiver section by taking received RF signals and recovering the embedded digital information for further processing.
Low Noise Amplifiers/Mixers
A LNA is a device in the receiver section of a wireless system that receives signals from an antenna at extremely low microvolt levels and amplifies the signals by a factor of approximately 10 to 1,000 times with the addition of as little "white noise" as possible. In general, the less noise added by a LNA, the weaker the signal it can process. LNAs are commonly integrated into circuits with mixers (also referred to as "down-mixers" or "down converters"), and this combination generally is referred to as a "receiver front end." Mixers accept the filtered output from the LNA, which is typically at a high frequency and difficult to process, and mix it with a local oscillator signal to produce a lower frequency (IF) signal, which is easier to process.
IF Components
In a typical handset, high frequency RF signals are converted into lower frequency IF signals by the LNA/Mixer and then to baseband in the receive functions. In the transmit function, baseband inputs (e.g., voice) are converted from analog to digital form and processed through the IF range to the higher RF frequency before transmission through the antenna. Our IF devices include digitally controlled IF amplifiers, which amplify baseband signals after they have been converted from analog to digital form, and IF amplifiers with automatic gain control and received signal strength indicators, which are used for IF-to-baseband conversion in the receive mode.
Gain Blocks
Gain blocks are simple general-purpose amplifiers that boost signals over a broad frequency range. They are used for amplifier applications whenever noise is not a concern and whenever a signal's strength has been diminished by processing through a filter or other component.
Transmitters, Receivers and Transceivers
Single chip transmitters and receivers send and receive wireless signals. Transceivers are highly integrated circuits that combine transmitters with receivers into a single device. Because this degree of integration generally results in some performance compromises, single chip transceivers tend to be used in cost-sensitive applications where performance is less critical.
Attenuators
An attenuator is a device that reduces the level of an input signal by controllable amounts. Our attenuators are programmable through use of an external analog or digital control signal to reduce signals to desired levels with minimal noise and signal loss when the device is not active. Like gain blocks, attenuators have many applications both within and outside the wireless markets.
CUSTOMERS
The following list identifies, by market, our customers that have placed cumulative orders of greater than $100,000 in the 12 months ended March 31, 2000.
We have agreed in principle with TRW and Nokia to cooperate to develop and supply Nokia with RFICs that are manufactured using TRW's GaAs HBT processes. The arrangement contemplates that Nokia and we will negotiate separate agreements to address the development and supply of each component. Pursuant to the arrangement, we have agreed to provide Nokia with access to certain RFIC technologies and to our GaAs HBT wafer fabrication facility, and Nokia has agreed to provide us with rights to bid for and supply Nokia's requirements for certain RFICs.
Pursuant to separate agreements resulting from our arrangement with Nokia, we have developed a number of RFICs and supplied them to Nokia in commercial quantities. During fiscal 2000, sales to Nokia were approximately $169 million, representing approximately 59% of our revenue.
Our agreement in principle with TRW and Nokia can be terminated without penalty by any of the parties for any reason. This arrangement does not obligate Nokia to purchase any additional products from us, and there can be no assurance that Nokia will remain a significant customer of ours or that this relationship will continue.
On February 28, 2000, we announced that we had entered into an alliance with QUALCOMM to provide advanced power amplifiers for the CDMA market. Initially, we have agreed with QUALCOMM to cooperate on the development of CDMA power amplifiers for inclusion in present and future QUALCOMM CDMA chipsets. Future development may include other RFICs for the CDMA market.
Although we cannot provide any assurances, we believe this joint development, using the expertise of both companies, will yield products that will provide higher levels of integration and, with advanced packaging technology, enable handset manufacturers to produce phones with smaller form factors and increased talk-time. Under this agreement, QUALCOMM will market and sell the jointly developed CDMA power amplifiers using our wafer foundry for manufacturing. QUALCOMM will provide the necessary software and system development tools to enable faster development cycles for manufacturers using these jointly developed power amplifiers.
SALES AND MARKETING
We sell our products worldwide directly to customers as well as through a network of 17 domestic sales representative firms and 14 foreign sales representative firms. One sales representative firm, Jittek, accounted for about 18% of our revenue during fiscal 2000. We select our domestic and foreign representatives based on technical skills and sales experience, as well as the presence of complementary product lines and the customer base served. We provide ongoing training to our representatives to keep them knowledgeable of our products. We maintain an internal marketing organization that is responsible for key account management, application engineering support to customers, developing sales and advertising literature, such as product announcements, catalogs, brochures and magazine articles in trade and other publications, and preparing technical presentations for industry conferences. In June 1999, we opened a small sales office in the United Kingdom to enhance our ability to serve our European customers, and in April 2000 we established a sales and support team in Taiwan. During fiscal 2000, we have been increasing our internal sales force to enable us to provide a greater level of direct customer support and the ability to deepen our strategic relationships, and we expect that trend to continue.
We believe that maintaining a close relationship with customers and providing customers with ongoing technical support is essential to customer satisfaction in the wireless communications industry. Our marketing application staff interacts with customers during all stages of design and production, provides customers with current product application notes and engineering data, maintains regular contact with customer engineers and assists in the resolution of technical problems. We assign to our largest customers a contract account manager who maintains regular contact with the customer to determine its product needs and concerns. Members of senior management also are involved in managing relationships with significant customers. We believe that maintaining close contact with customers improves their level of satisfaction and enables us to anticipate their future product needs.
STRATEGIC RELATIONSHIP WITH TRW
In June 1996, we entered into a broad strategic relationship with TRW based on several agreements that evidence an investment by TRW in RFMD, a technology license from TRW to us and a supply arrangement between the parties. As a part of this alliance, TRW provided us with $25 million of equity and debt financing and became a significant shareholder of RFMD. Our key goal in entering into this alliance was to enable us to construct a four-inch wafer fabrication facility to manufacture products using GaAs HBT technologies developed by TRW and licensed to us.
Under our license agreement, TRW has granted us fully paid up, royalty-free, worldwide licenses with respect to certain of TRW's existing and future GaAs HBT patent rights and MBE process patent rights, with accompanying know-how and technical information, to design, develop, manufacture, market, service and repair certain existing products of ours and any GaAs HBT product in which the emitter of the GaAs HBT has a width of one to three microns. These products must be for commercial wireless communications applications and operate on signals having a frequency of less than 10 GHz. The license with respect to the GaAs HBT rights became effective in June 1996, and the MBE license became effective on June 15, 1998, the date agreed upon by the parties as the point at which our wafer fabrication facility became operational. Subject to TRW's right to use the licensed technology to provide to customers on an ongoing basis certain specified foundry services, both licenses are exclusive as to all persons including TRW, but may be made non-exclusive at the option of TRW if we fail to meet certain revenue goals.
TRW also granted us non-exclusive licenses to use certain of its existing GaAs HBT rights and MBE rights for the development and sale of certain of our existing products for applications other than commercial wireless
communications or that operate on signals having a frequency of 10 GHz or more. The license agreement provides that TRW will offer to us, on the same terms as are offered to third parties, certain future non-HBT related technologies that it develops for a period of 10 years following June 15, 1998, which is the date on which our wafer fabrication facility became operational. We have agreed to share with TRW any modifications or improvements that we make in the technology or the products developed therefrom, and to grant TRW a non-exclusive, royalty-free license to use any of these modifications or improvements in applications outside our field of use. The licenses granted under the license agreement are granted without representation or warranty as to validity or noninfringement. Upon any termination of the license agreement for default, whether due to our default or otherwise, our rights to TRW's technologies would cease.
In November 1999, we expanded our license with TRW to permit us to use TRW's GaAs HBT technology also to manufacture products for commercial coaxial and other non-fiber wire applications. In consideration for this expanded license, we granted TRW two additional warrants for the purchase of shares of our common stock. The first is for 250,000 shares of common stock and is exercisable after December 31, 2000 and expires on June 30, 2001. The second warrant is for 500,000 shares of common stock and is exercisable after December 31, 2000 and expires on December 31, 2001, but will become null and void if we fail to achieve certain annualized sales milestones. The exercise price of these warrants will be the average closing price of our common stock in the last 10 trading days before December 31, 2000 multiplied by 0.75. The value of these warrants has been estimated to be $10.0 million, which represents the cost of our right to use TRW's technology for these new applications. TRW also agreed to maintain ownership of at least 7,941,161 shares of RFMD common stock (10% of the shares then outstanding) until at least May 1, 2001.
Under the terms of the supply agreement, we have agreed to purchase from TRW, and TRW has agreed to sell to us, certain minimum quantities of three-inch GaAs HBT processed wafers and four-inch GaAs epitaxial wafer starting material until December 31, 2000. We are currently evaluating whether to extend this agreement.
RESEARCH AND DEVELOPMENT
Our research and development efforts are focused primarily on the development of new integrated circuit products, and also at improving manufacturing processes and yields. At March 31, 2000, there were 230 persons in our research and development organization. Because of the relative scarcity of RFIC design engineers, we have decided to locate some of our design personnel outside of our Greensboro, North Carolina headquarters. During fiscal 2000, we opened design centers in Scotts Valley, California, Cedar Rapids, Iowa, Chandler, Arizona and Boston, Massachusetts that are currently staffed by a total of 53 engineers, and we anticipate that we may open additional RFIC design centers in other locations during fiscal 2001.
Our circuit design staff is continually developing RFIC design solutions for new and emerging wireless applications. Our research and development activities include not only new circuit designs, but also the development and refinement of proprietary design tools and models to facilitate new product development. Moreover, we are continually evaluating test RF circuits under emerging semiconductor process technologies to augment our Optimum Technology Matching(R) program and to meet our customers' future wireless equipment needs.
In fiscal 1998, 1999 and 2000, we incurred approximately $8.8 million, $14.2 million and $33.3 million, respectively, in research and development expenses. We do not separately account for RFMD-sponsored and customer-sponsored research and development expenses.
The market for RFICs is characterized by rapid changes in product designs and the emergence of new semiconductor technologies used to fabricate higher performance devices. Because the demand of OEMs for continual improvements in product performance is expected to increase, we believe that our future success depends in part on our ability to design RFICs under emerging wafer fabrication technologies that meet the cost and performance parameters of its customers. Moreover, we believe we must be able to attract and retain qualified research and development personnel.
COMPETITION
Competition in the markets for our products is intense. We face competition from several companies engaged in the business of designing, manufacturing and selling RFICs, as well as suppliers of discrete products such as transistors, capacitors and resistors. We have begun to experience competition for GaAs HBT products and we may face future competition from companies that have or develop GaAs HBT or other fabrication processes. In addition, our current and potential competitors include OEMs that have or may develop the ability to produce RFICs or discrete products internally for their own requirements. Our primary competitors include Conexant Systems, Inc., Fujitsu Limited, Hitachi Ltd., Matsushita Communication Industrial Co., and Philips N.V.
We believe that competition within the markets for our products is driven primarily by the ability to design and deliver high performance and price competitive products in sufficient quantities and in a timely manner. Competition is also affected by the quality of customer service and technical support and the ability to design customized products that address each customer's particular requirements and cost limitations. Many of our current and potential competitors have entrenched market positions, established patents, copyrights, trade names, trademarks and intellectual property rights and substantial technological capabilities. Further, many of our competitors have significantly greater financial, technical, manufacturing and marketing resources than we do. Increased competition could adversely affect our revenue and profitability by causing us to reduce prices or by reducing demand for our products.
INTELLECTUAL PROPERTY
It is our practice to seek U.S. patent and copyright protection on our products and developments, where appropriate, and to protect our proprietary technology under U.S. and foreign laws affording protection for trade secrets and for integrated circuit designs. We own two U.S. patents for GaAs HBT power amplifiers, both of which were issued in 1997 and will expire in 2015. Numerous additional patent applications are pending, although it is possible that the inventions referenced in patent applications will not mature to issued patents or will infringe upon intellectual property rights of others. It is also possible that a court will find the issued patents invalid or unenforceable under numerous legal principles relating to prior art disclosures or inequitable conduct before the U.S. Patent and Trademark Office.
We have numerous trademark registrations and applications pending in the United States and throughout the world. We seek registrations for our primary trademarks, servicemarks and trade names; however, others may have trademark rights superior to ours in certain jurisdictions, and in some instances our designations may not be viewed as sufficiently distinctive to warrant exclusive trademark protection. We believe that we have the right to use our selected designations, and that these designations are distinctive and capable of trademark protection. Nevertheless, if our marks are successfully challenged on these bases, it is possible that we will not be permitted to operate in a jurisdiction under our trademark, servicemark or trade name or that we will not have the exclusive right to use these designations.
We rely also upon trade secrets, technical know-how and other unpatented proprietary information relating to our product development and manufacturing activities. To protect our trade secrets, technical know-how and other proprietary information, our employees are required to enter into agreements providing for maintenance of confidentiality and the assignment of rights to inventions made by them while in our employ. We also have entered into non-disclosure agreements to protect our confidential information delivered to third parties in conjunction with possible corporate collaborations and for other purposes. However, we cannot be sure that these types of agreements will effectively prevent unauthorized disclosure of our confidential information, that these agreements will not be breached, that we would have adequate remedies for any breach or that our trade secrets and proprietary know-how will not otherwise become known or independently discovered by others.
While we have not been involved in any patent litigation, we cannot be sure that third parties will not assert claims against us, our customers or TRW with respect to existing and future products. Any litigation to determine the validity of any third party's claims could result in significant expense to us, and divert the efforts of our technical and management personnel, whether or not the litigation is determined in our favor. The wireless industry is subject to frequent litigation regarding patent and other intellectual property rights. Leading
companies and organizations in the wireless industry have numerous patents that protect their intellectual property rights in these areas. In the event of an adverse result of any intellectual property rights litigation, we could be required to expend significant resources to develop non-infringing technology or to obtain licenses to the technology, which is the subject of the litigation. We cannot be sure that we would be successful in such development or that any such license would be available on commercially reasonable terms. We have on occasion been made aware that aspects of our technology may overlap technology discussed or claimed in issued United States patents. On these occasions, we attempt to investigate thoroughly the underlying issues and determine whether design changes or patent licenses are appropriate. To date, we have not entered into patent licenses of this nature.
BACKLOG
At March 31, 2000, our backlog was approximately $108.9 million, compared to approximately $64.6 million at the end of fiscal 1999. We include in backlog all accepted product purchase orders for which delivery has been specified within one year. Product orders in our backlog are subject to changes in delivery schedules or to cancellation at the option of the purchaser without significant penalty. Our backlog may vary significantly from time to time depending upon the level of capacity available to satisfy unfilled orders. Accordingly, although useful for scheduling production, backlog as of any particular date may not be a reliable indicator of sales for any future period.
EMPLOYEES
At March 31, 2000, we had 817 employees. We believe that our future prospects will depend, in part, on our ability to continue to attract and retain skilled technical, marketing and management personnel. Competition for such personnel is intense, and the number of persons with relevant experience, particularly in engineering, RFIC design and technical marketing, is limited. None of our employees is represented by a labor union, and we have never experienced any work stoppage. We believe that our employee relations are good.
ENVIRONMENTAL MATTERS
By virtue of operating our wafer fabrication facility, we are subject to a variety of extensive and changing federal, state and local governmental laws, regulations and ordinances related to the use, storage, discharge and disposal of toxic, volatile or otherwise hazardous chemicals used in the RFIC manufacturing process. Any failure to comply with such requirements currently in effect or subsequently adopted could result in the imposition of fines on us, the suspension of production or a cessation of operations. In addition, such requirements could restrict our ability to expand our facilities or require us to acquire costly equipment or incur other significant expenses to comply with environmental regulations or clean up discharges. We believe that costs arising from existing environmental laws will not have a material adverse effect on our financial position or results of operations. There can be no assurance, however, that the environmental laws will not become more stringent in the future or that we will not incur significant costs in the future in order to comply with these laws.
ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS
In addition to the other information in this Annual Report on Form 10-K, readers should carefully consider the following important factors. These factors, among others, in some cases have affected, and in the future could affect, our financial condition and results of operations and could cause our future results to differ materially from those expressed or implied in any forward-looking statements that appear in this Annual Report on Form 10-K or that we have made elsewhere.
Our Operating Results Fluctuate Significantly and We May Not Be Able to Maintain Our Existing Growth Rate.
Our revenue, earnings and other operating results have fluctuated significantly in the past and may fluctuate significantly in the future. Although we have had significant revenue and earnings growth in recent quarters, we may not be able to sustain these growth rates. Our future operating results will depend on many factors, including the following:
- our ability to design, manufacture and deliver our products in a timely and cost-effective manner;
- our ability to design, manufacture and deliver our products in large enough volumes to satisfy our customers' requirements;
- the ability of third party foundries and assemblers to manufacture and assemble our products in a timely and cost-effective manner that meets our customers' requirements;
- unexpected poor line, assembly or test yields for our products;
- our ability to expand our production of GaAs HBT wafers at our wafer fabrication facility;
- our ability to complete the construction of our second wafer fabrication facility and to bring it into operation;
- demand for our products;
- demand for our customers' products;
- competition; and
- general industry and global economic conditions.
It is likely that our future operating results will be adversely affected by these or other factors. If our future operating results are below the expectations of stock market analysts or our investors, our stock price may decline.
We Face Challenges Managing Rapid Growth.
We are experiencing a period of significant growth that will continue to place a great strain on our management and other resources. We have grown from 133 employees on March 31, 1997 to 817 employees on March 31, 2000. To manage our growth effectively, we must:
- implement and improve operational and financial systems;
- coordinate the construction, upfit and expansion of our physical facilities in multiple locations;
- expand our presence in international locations;
- train and manage our employee base; and
- attract qualified people with experience in RF engineering, integrated circuit design, wafer fabrication, wireless systems and technical marketing and support.
Competition for these people is intense. We must also manage multiple relationships with various customers, business partners and other third parties, such as our foundry and assembly partners. Moreover, we will spend substantial amounts in connection with our rapid growth and may have additional unexpected costs. Our systems, networks, software tools, procedures or controls may not be adequate to support our operations and we may not be able to expand quickly enough to exploit potential market opportunities. Our future operating results will also depend on expanding sales and marketing, research and development and administrative support. If we cannot attract qualified people or manage growth effectively, our operating results will be adversely affected.
We Face Risks Associated with Our Wafer Fabrication Facility Construction and Operation Activities.
Developing, expanding and exploiting our own GaAs HBT manufacturing capacity has been and continues to be a key element of our overall business strategy. In June 1998, we completed the first phase of a 64,000 square foot GaAs HBT wafer fabrication facility located in Greensboro, North Carolina, and we are currently working on an expansion of the facility's capacity. In addition, in September 1999, we began construction on a second wafer fabrication facility at a nearby site.
We began commercial shipments of products from our first facility in September 1998. Production from the facility has gradually increased since then, and we expect it to continue to increase into fiscal 2001. As we increase production at this facility, we must qualify each new RFIC design with our customers. As parts are brought into production, we must maintain our cycle times and our line yields, assembly yields and test yields in order to reach our manufacturing goals. A number of factors will affect the future success of this facility, including the following:
- our ability to qualify new products in a timely manner;
- demand for our products;
- our manufacturing cycle times;
- our production yields;
- our ability to generate revenues in amounts that cover the significant fixed costs of operating a wafer fabrication facility;
- our ability to hire, train and manage qualified production personnel;
- our compliance with applicable environmental and other laws and regulations; and
- our inability to use all or any significant portion of our facility for prolonged periods of time for any reason.
The capacity expansion that we are currently undertaking has involved moving our MBE wafer starting equipment out of the facility to a new leased location, reconfiguring the space formerly occupied by this equipment with additional wafer production equipment and hiring additional production personnel. We currently expect the facility to be capable of its maximum output of approximately 60,000 four-inch wafers per year by December 31, 2000. Capacity expansion activities like this are subject to a number of risks, including the following:
- unforeseen environmental or engineering problems;
- unavailability or late delivery of process equipment;
- work stoppages and delays; and
- delays in bringing production equipment on-line.
If we fail or are delayed in our efforts to expand this facility, it could have a material adverse effect on our business, financial condition and results of operations.
The full capacity output of the first phase of our second GaAs HBT wafer fabrication facility is anticipated to be the equivalent of approximately 60,000 four-inch wafers. This facility is projected to begin production of wafers in late calendar year 2000. Construction for this first phase is currently on schedule. An anticipated second phase of construction, which is expected to be completed near the end of calendar year 2001, would increase the facility's total output to the equivalent of 210,000 four-inch wafers per year. The projected cost for this facility is approximately $140 million for the first phase and $180 million for the second phase.
The construction of this facility is subject to various risks and conditions beyond our control, including:
- inclement weather conditions;
- unforeseen hazards or conditions that hinder, delay or increase the cost of development;
- unavailability of building materials;
- delays in receiving necessary governmental permits;
- unavailability of manufacturing equipment; and
- construction delays.
We therefore cannot be sure that we will be able to complete this construction by the time indicated above. A significant delay could have a material adverse effect on our business, financial condition and results of operations. Bringing this new fabrication facility on-line will be labor intensive, technically challenging, time consuming and logistically complex. It will require us to make significant investments of labor and capital. The major steps include:
- facility design;
- equipment and material specifications and sourcing;
- clean room certification;
- equipment installation; and
- the hiring and training of skilled production personnel.
Once the clean room is operational, we must transfer our manufacturing process and run test wafers until the manufacturing process is adjusted to the point where commercial production is feasible. Before production can commence, wafers must be qualified by individual customers on a component-by-component basis, even for products previously qualified at our first facility. While many of these steps must occur concurrently, other steps must occur after the achievement of certain milestones. Thus, the delay in one or more steps could materially delay the entire process.
As a result, we cannot be sure that we will be able to implement successfully and in a timely manner our GaAs HBT processes at this facility or that we will be able successfully to produce GaAs HBT wafers at acceptable manufacturing yields or in a manner that allows us to offer GaAs HBT products from this facility at competitive prices. A failure or delay in our efforts to fabricate GaAs HBT wafers at acceptable manufacturing cycle times, yields, costs and quality and in volumes sufficient to satisfy customer demands could have a material adverse effect on our business, financial condition and results of operations.
We Depend on a Few Large Customers.
Historically, a substantial portion of our revenue has come from large purchases by a small number of customers. We expect that trend to continue. For example, in fiscal 2000, our top five customers accounted for 79% of total revenue; in fiscal 1999, our top five customers accounted for 87% of our total revenue; and in fiscal 1998, our top five customers accounted for 70% of our total revenue. Accordingly, our future operating results depend on the success of our largest customers and on our success in selling large quantities of our products to them.
The identity and the predominance of our largest customers have varied significantly from year to year. During fiscal 2000, sales to Nokia accounted for 59% of our revenue. In fiscal 1999, sales to Nokia accounted for 73% of our revenue. In fiscal 1998, sales to Nokia accounted for 42% and sales to LGIC accounted for 13% of our revenue. In fiscal 1997, sales to QUALCOMM accounted for 32% and sales to Samsung accounted for 23% of our revenue.
We typically manufacture custom products on an exclusive basis for one customer for a negotiated period of time. This factor, along with capacity constraints, makes it difficult for us to diversify our customer base. The concentration of our revenues with a few large customers makes us particularly dependent on factors affecting those customers. For example, if demand for their products decreases, they may stop purchasing our products and our operating results would suffer. Most of our customers can cease incorporating our products into their products with little notice to us and with little or no penalty. The loss of a large customer and failure to add new customers
to replace lost revenue would have a material adverse effect on our business, financial condition and results of operations.
If We Experience Poor Production Yields, Our Operating Results May Suffer.
Our integrated circuit products, especially our GaAs HBT products, are very complex. Each product has a unique design and each product is fabricated using semiconductor process technologies that are highly complex. In many cases, the products are assembled in customized packages. Our customers incorporate our RFICs into high volume products such as cellular and PCS handsets and they insist that our products meet their exact specifications for quality, performance and reliability.
Our products are manufactured on round GaAs or silicon substrates, or starting material, called wafers. Before our customers can use our products, the wafers must be processed and cut or sawed into individual die. The die must then be assembled, or packaged, and then the final product must be tested. Our manufacturing yield is a combination of:
- line yield, which is the number of usable wafers that result from our fabrication process;
- assembly yield, which is the number of assembled parts we actually receive from the packaging house divided by the number of die available on the wafer; and
- test yield, which is the number of assembled parts that pass all component level testing divided by the total number of parts tested.
Our customers also test our RFICs once they have been assembled into their products. The number of usable RFICs that result from our production process can fluctuate as a result of many factors, including the following:
- design errors;
- defects in photomasks used to print circuits on a wafer;
- minute impurities in materials used;
- contamination of the manufacturing environment;
- equipment failure or variations in the fabrication process;
- losses from broken wafers or other human error; and
- defects in packaging.
Because average selling prices for our products tend to decline over time and because many of our manufacturing costs are fixed, we are constantly trying to improve our manufacturing yields. For a given level of sales, when our yields improve, our gross margins improve; and when our yields decrease, our unit costs are higher, our margins are lower, and our operating results are adversely affected. In the past, we have experienced difficulties in achieving acceptable yields on certain new products, and this has adversely affected our gross margins and our operating results. For example, during the fourth quarter of fiscal 1998, we took an unexpected charge of about $4.6 million to cover defective products that had packaging-related problems. We may experience similar problems in the future and we cannot predict when they may occur or their severity. These problems could significantly affect our future operating results.
Our Operating Results Are Substantially Dependent on Demand for Our GaAs HBT Products.
Although we design products using four distinct process technologies, a substantial portion of our revenue comes from the sale of GaAs HBT products. For example, during fiscal 2000, 89% of our revenue came from the sale of GaAs HBT products. We currently expect that this process concentration will continue. Our dependence on GaAs HBT products could ultimately hurt our operating results in the future. Competitors have begun to enter the market and offer their own GaAs HBT products, and direct competition with competitors with GaAs HBT process technology could adversely affect our selling prices. Also, new process technologies are constantly being developed and one or more of these processes could have characteristics that are superior to GaAs HBT. If we are
unable to access these technologies through licenses or foundry service arrangements, we will be competitively disadvantaged. These and other factors could reduce the demand for GaAs HBT components or otherwise adversely affect our operating results.
Our Operating Results Are Substantially Dependent on Development of New Products.
Our future success will depend on our ability to develop new RFIC solutions for existing and new markets. We must introduce new products in a timely and cost-effective manner and we must secure production orders from our customers. The development of new RFICs is a highly complex process, and we have experienced delays in completing the development and introduction of new products at times in the past. Our successful product development depends on a number of factors, including the following:
- the accuracy of our prediction of market requirements and evolving standards;
- acceptance of our new product designs;
- the availability of qualified RFIC designers;
- our timely completion of product designs; and
- acceptance of our customers' products by the market.
We may not be able to design and introduce new products in a timely or cost-efficient manner and our new products may fail to meet the requirements of the market or our customers. In that case, we likely will not reach the expected level of production orders, which could adversely affect our operating results. Even when a design win is achieved, our success is not assured. Design wins require significant expenditures by us and typically precede volume revenues by six to nine months or more. The actual value of a design win to us will ultimately depend on the commercial success of our customers' products.
Our Efforts to Develop Module Products Present Significant Challenges.
In response to demands from OEMs, we are currently developing products that combine one or more integrated circuits with one or more passive components, such as capacitors, inductors and resistors, into a stand-alone module package. In addition to using an independent packaging vendor for these products, we are assembling and packaging some of these products in-house. We have not previously packaged any type of RFIC on a commercial basis, and this vertical expansion of our business requires significant investment in equipment and additional personnel. It also requires us to develop expertise in new production processes that are significantly different from RFIC fabrication processes.
The manufacture of modules requires us to obtain passive components from third party suppliers, some of which may be difficult to obtain at times. To avoid shortages, we may be required to maintain significant inventories of these components and may be unable to pass these inventory costs on to our customers if they cancel orders for module products. Also, given the complexity of these products, developing a thorough method of testing modules once they have been assembled presents significant technical challenges.
We began shipping commercial quantities of module units that we have packaged ourselves during the first calendar quarter of 2000. We cannot be sure, however, that we will successfully develop, implement and maintain this in-house packaging capability or that we will otherwise be able to meet the needs of our customers, including Nokia and QUALCOMM, for module products. This development effort has presented and continues to present many technical and logistical challenges, and if we are unsuccessful, our operating results could be adversely affected.
Our Industry's Technology Changes Rapidly and We Depend on Development and Growth of Wireless Markets.
We depend on the development and growth of markets for wireless communications products and services, including cellular and PCS telephony, wireless LANs, wireless security systems and other wireless applications. We cannot be sure about the rate at which markets for these products will develop or our ability to produce competitive products for these markets as they develop.
We supply RFICs almost exclusively for wireless applications. The wireless markets are characterized by frequent introduction of new products and services in response to evolving product and process technologies and consumer demand for greater functionality, lower costs, smaller products and better performance. As a result, we have experienced and will continue to experience some product design obsolescence. We expect our customers' demands for improvements in product performance will increase, which means that we must continue to improve our product designs and develop new products using new wafer fabrication technologies. It is likely that a competing process technology will emerge that permits the fabrication of integrated circuits that are superior to the RFICs we make under existing processes. If that happens and we cannot design products using that technology or develop competitive products, our operating results will be adversely affected.
We Depend Heavily on Our Relationship with Nokia.
We have agreed in principle with TRW and Nokia to cooperate to develop and supply Nokia with RFICs manufactured using TRW's GaAs HBT processes. The arrangement contemplates that we will negotiate separate agreements with Nokia for each component. Also, we have agreed to give Nokia access to some of our RFIC technologies and to our GaAs HBT wafer fabrication facility, and Nokia has agreed to give us rights to bid for and supply Nokia's needs for certain RFICs. Under the separate agreements resulting from our arrangement with Nokia, we have developed a number of RFICs and supplied them to Nokia in commercial quantities. In fiscal 2000, sales to Nokia were about $169 million, or 59% of our revenue. In fiscal 1999, sales to Nokia were about $112 million, or 73% of our revenue. In fiscal 1998, Nokia sales were about $19 million, or 42% of our revenue.
Our arrangement with Nokia and TRW can be ended without penalty by any of the parties for any reason. The arrangement does not obligate Nokia to purchase any additional products from us, and we cannot be sure that Nokia will remain a significant customer or that our relationship will continue. The loss of Nokia as a customer for any reason would have a material adverse effect on our operating results.
We Depend on TRW for GaAs HBT Wafers and Technology.
Although we manufacture GaAs HBT products at our own facility, we continue to rely on TRW as a supplier for GaAs HBT wafers. During fiscal 2000, $257.8 million of our revenue came from the sale of GaAs HBT products, of which $180.5 million was attributable to products produced at our facility.
TRW has agreed to supply to us, and we have agreed to buy from TRW, certain minimum quantities of GaAs HBT wafers. These obligations continue until December 31, 2000. If TRW is unable to manufacture and deliver to us wafers in the quantities we need on a timely basis, our operating results could be adversely affected. We depend on our exclusive license from TRW for its GaAs HBT technology. If the license is terminated or if it were determined that this technology infringed on a third party's intellectual property rights, our operating results would be adversely affected. TRW made no representation to us about whether the licensed technology infringed on the intellectual property rights of anyone else.
We Depend Heavily on Third Parties.
In addition to our purchase of GaAs HBT products from TRW, we use one independent foundry to manufacture our silicon-based products and one independent foundry to manufacture our GaAs MESFET products. The foundry that supplies our GaAs MESFET products is owned and operated by one of our competitors. Access to other foundries for GaAs products could be particularly difficult to obtain. We will remain dependent on a small number of independent foundries to manufacture our products on a timely basis, to achieve acceptable manufacturing yields and to offer us competitive pricing. The inability of these independent foundries to deliver our products on a timely basis, allocate us sufficient manufacturing capacity, achieve acceptable yields or offer us competitive pricing would have a material adverse effect on our operating results. We cannot be sure that we would be able to locate other foundries to make our products if we lost any of these sources of supply.
We use independent vendors to package all of our integrated circuits. We have had packaging quality problems with some of these vendors, especially with GaAs HBT products. We took a non-recurring charge in the last quarter of fiscal 1998 of about $4.6 million to cover product returns and the establishment of inventory reserves for products with packaging-related problems. During fiscal 1998, we also discovered quality problems
with parts packaged by a second vendor and stopped using that vendor. It is likely that we will have more packaging problems in the future. A delay or reduction in product shipments or unexpected product returns because of these problems could have an adverse effect on our operating results.
We Operate in a Very Competitive Industry.
Competition in the markets for our products is intense. We compete with several companies primarily engaged in the business of designing, manufacturing and selling RFICs, as well as suppliers of discrete products such as transistors, capacitors and resistors. At least one of our competitors has GaAs HBT technology and other companies are developing GaAs HBT and new fabrication processes. In addition, many of our existing and potential customers manufacture or assemble wireless communications devices and have substantial in-house technological capabilities. Any of them could develop products that compete with or replace ours. A decision by any of our large customers to design and manufacture integrated circuits internally could have an adverse effect on our operating results. We expect competition to increase. This could mean lower prices for our products, reduced demand for our products and a corresponding reduction in our ability to recover development, engineering and manufacturing costs. Any of these developments would have an adverse effect on our operating results.
Many of our existing and potential competitors have entrenched market positions, considerable internal manufacturing capacity, established intellectual property rights and substantial technological capabilities. Many of our existing and potential competitors, including Conexant, Fujitsu, Hitachi, Matsushita, and Philips, have greater financial, technical, manufacturing and marketing resources than we do. We cannot be sure that we will be able to compete successfully with our competitors.
We Depend Heavily on Key Personnel.
Our success depends in part on keeping key technical, marketing, sales and management personnel. We do not have employment agreements with any of our employees. We must also continue to attract qualified personnel. The competition for qualified personnel is intense, and the number of people with experience, particularly in RF engineering, integrated circuit design, wafer fabrication, wireless systems and technical marketing and support, is limited. We cannot be sure that we will be able to attract and retain other skilled personnel in the future.
We Are Subject to Risks from International Sales and Operations.
Sales to customers in South Korea accounted for about 18.1% of our revenue during fiscal 2000, about 13.3% of our revenue in fiscal 1999 and about 21.3% of our revenue in fiscal 1998. Although South Korean sales grew significantly during fiscal 2000, they decreased from prior periods during each of the last two quarters of the fiscal year. We believe this market remains unstable and we cannot predict how it will perform in the future.
Sales to customers located outside the United States accounted for about 56% of our revenue in fiscal 2000, about 59% of our revenue in fiscal 1999 and about 50% of our revenue in fiscal 1998. We expect that revenue from international sales will continue to be a significant part of our total revenue. International sales are subject to a variety of risks, including risks arising from currency fluctuations and restrictions, tariffs, trade barriers, taxes and export license requirements. Because all of our foreign sales are denominated in U.S. dollars, our products become less price competitive in countries with currencies that are low or are declining in value against the U.S. dollar. Also, we cannot be sure that our international customers will continue to accept orders denominated in U.S. dollars. If they do not, our reported revenue and earnings will become more directly subject to foreign exchange fluctuations.
All but one of our circuit assembly vendors are located in Asia. This subjects us to regulatory, geopolitical and other risks of conducting business outside the United States. We do business with our foreign assemblers in U.S. dollars. Our assembly costs increase in countries with currencies that are increasing in value against the U.S. dollar. Also, we cannot be sure that our international assemblers will continue to accept orders denominated in U.S. dollars. If they do not, our costs will become more directly subject to foreign exchange fluctuations.
We Rely on Intellectual Property and Could Face Claims of Infringement.
Our success depends in part on our ability to obtain patents, trademarks and copyrights, maintain trade secret protection and operate our business without infringing on the proprietary rights of other parties. Although we do not believe this to be the case, it could be determined in the future that TRW or we are infringing someone's intellectual property rights. We cannot be sure that we could obtain licenses on commercially reasonable terms or that litigation would not occur if there were any infringement. If we were unable to obtain necessary licenses or if litigation arose out of infringement claims, our operating results could be adversely affected.
In addition to patent and copyright protection, we also rely on trade secrets, technical know-how and other unpatented proprietary information relating to our product development and manufacturing activities. We try to protect this information with confidentiality agreements with our employees and other parties. We cannot be sure that these agreements will not be breached, that we would have adequate remedies for any breach or that our trade secrets and proprietary know-how will not otherwise become known or independently discovered by others.
During fiscal 2000, three of our new employees were named defendants in trade secret litigation in connection with our hiring of them. The former employers of these individuals asserted that, among other things, our hiring would lead to disclosure of those parties' trade secrets. Some of these claims have been dismissed, but others remain pending. We believe these claims are without merit, and that this litigation will ultimately be resolved in a satisfactory manner; however, we or our employees could be subject to similar claims and litigation in the future.
We Are Subject To Stringent Environmental Regulation.
We are subject to a variety of federal, state and local requirements governing the protection of the environment. These environmental regulations include those related to the use, storage, handling, discharge and disposal of toxic or otherwise hazardous materials used in our manufacturing processes. Because the public is focusing more attention on the environmental impact of the operations of the semiconductor industry, these requirements may become more stringent in the future. Failure to comply with environmental laws could subject us to substantial liability or force us to significantly change our manufacturing operations. In addition, under some of these laws and regulations, we could be held financially responsible for remedial measures if our properties are contaminated, even if we did not cause the contamination.
TRW and Our Management Are Significant Shareholders.
Our directors and executive officers and their affiliates (including TRW) beneficially own about 18.4% of RFMD's common stock. TRW, our largest shareholder, beneficially owns about 15% of the common stock and has agreed to maintain ownership of at least 7,941,161 shares of common stock through May 1, 2001. These shareholders thus can exercise significant influence over all matters requiring shareholder approval, including the election of directors and approval of significant corporate transactions. TRW has agreed to refrain until June 6, 2002 from taking certain actions affecting control over us. If a third party offers to acquire all of our stock, however, TRW will have 30 days to make a counterproposal on the same or better terms and could require us to submit the proposal to a vote by our shareholders. This right could discourage a third party from offering to acquire all of our outstanding shares.
Our Stock Price Is Subject to Volatility.
The trading price of our common stock could be subject to wide fluctuations in response to quarterly variations in operating results, adverse business developments, changes in financial estimates by securities analysts, announcements of technological innovations, new products by us or our competitors, transactions by corporate insiders and other events and factors. Since completion of our public offering in June 1997, our stock price has fluctuated widely. Also, the stock market has experienced extreme price and volume fluctuations based on factors outside our control that have particularly affected the market prices for many high technology companies. These broad market fluctuations may materially and adversely affect the market price of our common stock.
Future Sales of Shares Could Have an Adverse Effect on Market Price.
Sales of substantial amounts of common stock in the public market or the prospect of such sales could adversely affect the market price for our common stock and our ability to raise equity capital in the future. As of May 16, 2000, we had outstanding a total of 80,269,779 shares of common stock. Of these shares, approximately 70,622,284 shares are freely tradable without restriction or further registration under the Securities Act, except for any shares acquired by our "affiliates," as that term is defined in Rule 144 under the Securities Act. We believe that the holders of the remaining 9,647,495 shares are affiliates and, accordingly, that their shares may be sold without registration only in compliance with the Securities Act (including Rule 144). As of March 31, 2000, options to purchase 7,919,888 shares of common stock were outstanding under our stock option plans, with a weighted average exercise price of $17.22 per share and a weighted average remaining contractual life of 8.2 years. Of these, options to purchase 1,367,836 shares were exercisable at March 31, 2000, at a weighted average exercise price of $2.27 per share.
We May Engage in Future Acquisitions That Dilute Our Shareholders, Cause Us to Incur Debt and Assume Contingent Liabilities.
As part of our business strategy, we expect to continue to review potential acquisitions that could complement our current product offerings, augment our market coverage or enhance our technical capabilities, or that may otherwise offer growth opportunities. While we currently have no definitive agreements providing for any such acquisitions, we may acquire businesses, products or technologies in the future. In the event of such future acquisitions, we could issue equity securities that would dilute our current shareholders' percentage ownership, incur substantial debt, or assume contingent liabilities. Such actions by us could seriously harm our results of operations or the price of our common stock. Acquisitions also entail numerous other risks that could adversely affect our business, results of operations and financial condition, including:
- difficulties in assimilating acquired operations, technologies or products;
- unanticipated costs or capital expenditures associated with the acquisition;
- acquisition-related charges and amortization of acquired technology and other intangibles that could negatively affect our reported results of operation;
- diversion of management's attention from our business;
- injury to existing business relationships with suppliers and customers; and
- failure to successfully integrate these businesses, products, technologies and personnel.
ITEM 2.
ITEM 2. PROPERTIES
Our corporate headquarters is located in a newly constructed 100,000 square foot facility in Greensboro, North Carolina. The facility, which we have occupied since December 1999, houses our general corporate, sales and marketing and research and development organizations and includes 10,000 square foot of lab space. We presently own the building and the 30.8 acres on which it is situated; however, we are in negotiations to enter into a sale leaseback transaction with respect to this property that we expect to complete during the first half of fiscal 2001.
We continue to lease the facilities that formerly housed our corporate office and test facilities. These facilities currently house general corporate personnel and will continue to do so until our testing operations is completed. At the completion of the testing operations, the product lines will then occupy the premises. The lease expires in December 2013 and consists of approximately 60,000 square feet. We also lease buildings adjacent to these premises that house our first wafer fabrication facility and the packaging and wafer dicing operations associated with our module products. The lease for the fabrication facility, which consists of approximately 64,000 square feet, has a term expiring in October 2012 with two 10-year renewal options. The module facility, which consists of approximately 77,000 square feet, is held under a lease expiring in May 2014 with no option to renew.
In September 1999 we began construction on a second wafer fabrication facility, which will comprise 150,000 square feet in a building near our first fabrication facility. The funding for the first phase of this new fabrication facility will come primarily from a synthetic lease arrangement, which is an asset-based financing structured to be treated as an operating lease for accounting purposes, and a capital lease for tax purposes. At the end of the third quarter of fiscal year 2000, this synthetic lease transaction was largely secured by cash collateral. A modification effective December 31, 1999 resulted in the release of the cash collateral, and the synthetic lease is now secured by substantially all of our personal property assets. The lease has a term expiring November 3, 2004. At the end of the term, the lease can be extended upon the agreement of the parties or we may buy out the lease.
We lease two additional facilities in Greensboro for MBE wafer starting material production and RFIC testing. The MBE facility, which consists of approximately 136,000 square feet, is held under a lease expiring in August 2014. The first phase of this facility was put into operation in October 1999, and we are in the process of retrofitting the building for a second phase expansion. We expect to commence our expanded RFIC testing operations this summer in a 120,000 square foot facility that we are currently in the process of retrofitting. The lease for this building expires in February 2015 and has two 10-year renewal options.
We also lease space for our design centers in Scotts Valley, California; Cedar Rapids, Iowa; Boston, Massachusetts; and Chandler, Arizona; and for our sales and support center in Reading, United Kingdom. In the opinion of our management, our properties have been well maintained, are in sound operating condition and contain all equipment and facilities necessary to operate at present levels.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
Not applicable.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock is traded on the Nasdaq National Market under the symbol "RFMD." The table below shows the high and low per-share sales prices of our common stock for the periods indicated, as reported by the Nasdaq National Market. We completed our initial public offering of 13,822,200 shares of common stock in June 1997 at a price of $3.00 per share, and completed a secondary offering of 9,200,000 shares of common stock in January 1999 at a price of $15.36 per share. Our common stock split two-for-one on March 31, 1999 by means of a 100% share dividend payable to holders of record on March 17, 1999. On August 18, 1999, we effected a second two-for-one stock split, in the form of 100% share dividend payable to shareholders of record on August 2, 1999. All the prices below have been adjusted to reflect this split. As of March 31, 2000, there were 890 holders of record of our common stock.
We have never paid dividends on our capital stock. We intend to retain earnings for use in our business and do not anticipate paying any cash dividends in the foreseeable future. We are prohibited from paying dividends without the consent of our lenders.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data should be read in conjunction with Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" and our Consolidated Financial Statements and Notes thereto included in this Form 10-K. The consolidated statement of operations data for the years ended March 31, 2000, 1999 and 1998, and the consolidated balance sheet data as of March 31, 2000 and March 31, 1999, are derived from, and are qualified by reference to, the Consolidated Financial Statements and Notes thereto included in this Form 10-K. The statement of operations data for the years ended March 31, 1997 and 1996, and the balance sheet data as of March 31, 1998, March 31, 1997 and March 31, 1996 are derived from our historical financial statements, which are not included in this Form 10-K.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
All statements, trend analysis and other information contained in the following discussion relative to markets for our products and trends in revenue, gross margins and anticipated expense levels, as well as other statements including words such as "anticipate," "believe," "plan," "estimate," "expect" and "intend" and other similar expressions constitute forward-looking statements. Our Company's business is subject to business and economic risks and uncertainties, and our actual results of operations may differ materially from those expressed or implied in the forward-looking statements. The following discussion and the section entitled "Business--Additional Factors That May Affect Future Results" describe some, but not all, of the factors that could cause these differences.
OVERVIEW
We design, develop, manufacture and market proprietary RFICs for wireless communications applications such as cellular and PCS, cordless telephony, wireless local area networks, wireless local loop, industrial radios, wireless security and remote meter reading. We derive revenue from the sale of standard and custom-designed products and services. To date, a significant portion of our revenue has been attributable to the sale of RFICs used in cellular and PCS handsets. We offer a broad array of products -- including amplifiers, mixers and modulators/demodulators and single chip transmitters, receivers and transceivers -- that represent a substantial majority of the RFICs required in wireless subscriber equipment. We design products using four distinct process technologies: GaAs (gallium arsenide) HBT, GaAs MESFET, silicon bipolar transistor and silicon germanium. Generally speaking, gallium arsenide-based products offer better electrical performance while silicon-based products are less expensive. Original equipment manufacturers try to maximize tradeoffs between performance and cost. Sales of GaAs HBT products represented 89% of our revenues in fiscal years 2000 and 1999, 81% in fiscal 1998, and 85% in 1997. We expect to continue to rely heavily on sales of GaAs HBT products.
Until September 1998 we did not have internal manufacturing capabilities for GaAs HBT products and thus relied exclusively on purchased wafers to meet customer demand. In September 1998, we began commercial shipments from our GaAs HBT wafer fabrication facility, which has enabled us to manufacture products with lower per unit costs than products manufactured from wafers that we purchase. Internally manufactured products accounted for 62.5% of our total revenues for fiscal year 2000 and 31.4% of our total revenues for fiscal 1999. We plan both to continue to increase production at our existing fabrication facility through equipment and personnel additions during fiscal 2001 and to bring a new facility on line by late fiscal 2001.
RESULTS OF OPERATIONS
The following table shows our consolidated statement of operations data expressed as a percentage of total revenue for the periods indicated:
REVENUES
Our revenues increased 89.1% during fiscal 2000 versus fiscal 1999 primarily due to strong growth in both the GaAs HBT product line (a 89.5% increase over fiscal 1999) and the silicon product line (a 80.9% increase over fiscal 1999).
Sales to Nokia represented 59%, 73% and 44% of revenue for fiscal 2000, fiscal 1999, and fiscal 1998, respectively. No other customer accounted for more than 7% of our fiscal 2000 revenues. Engineering revenues were 0.3% of total revenues for fiscal 2000 compared to 0.5% for the previous year. Revenues for fiscal 1999 increased 237% over fiscal 1998 primarily due to strong sales growth in GaAs HBT power amplifiers for cellular and PCS handsets.
On February 28, 2000 we announced an agreement with QUALCOMM to cooperate on the development of module CDMA power amplifiers for inclusion in present and future QUALCOMM CDMA chipsets. We expect that shipment of commercial quantities of these GaAs HBT power amplifiers under this joint alliance will begin in late fiscal 2001 and increase throughout fiscal 2002 and beyond.
International shipments accounted for $161.4 million or 55.9% of revenues in fiscal 2000, compared to $90.4 million, or 59.1% of revenues in fiscal 1999 and $22.7 million, or 50.0% of revenues, for fiscal 1998. We believe that international sales growth will continue into the foreseeable future and hold at approximately current levels as a percentage of overall revenue. One sales representative firm, Jittek, accounted for about 18% and 15% of our revenue during fiscal 2000 and fiscal 1999, respectively. Sales to customers located in South Korea totaled $52.2 million in fiscal 2000, or 18.1% of revenues, compared to $20.3 million, or 13.3% of revenues in fiscal 1999 and $9.6 million, or 21.3% of revenues in fiscal 1998. The growth in sales to our South Korean OEM customers resulted from increased demand for CDMA handsets that they supply to the South American and Asian markets.
Although South Korean sales grew significantly during fiscal 2000, they decreased from prior periods during each of the last two quarters of the year, and this market remains unstable. To date, European and other Asian sales growth has offset declines in the South Korean market.
During fiscal 2000 products manufactured at our wafer fabrication facility accounted for $180.5 million in sales or 62.5% of total revenues. The facility currently has a maximum capacity of approximately 35,000 four-inch wafers per year, and we are in the process of completing an expansion that we believe will increase its total annual capacity to 60,000 four-inch wafers by the end of calendar year 2000.
During the quarter ended September 30, 1999, we began construction of a second wafer fabrication facility. The full capacity output of the first phase of this facility is anticipated to be the equivalent of approximately 60,000 four-inch wafers and is projected to be completed and begin commencement of production wafers in late calendar 2000. Construction for the first phase is currently on schedule. An anticipated second phase of construction, which is expected to be completed near the end of calendar 2001, would increase the facility's total potential capacity to the equivalent of 210,000 four-inch wafers per year. We will increase our facility's output according to actual market demand. The projected cost for this facility is approximately $140 million for the first phase and $180 million for the second phase.
GROSS PROFIT
In fiscal 2000, our gross profit margins increased significantly to 47.1% versus 35.0% and 35.5% in fiscal 1999 and fiscal 1998, respectively. Although we continued to experience a trend of lower overall average selling prices, this was more than offset by lower overhead costs per unit, lower overall wafer costs due to a greater percentage of internal manufacturing and improvements in sourcing costs and overall manufacturing efficiencies.
We expect average selling prices to continue to decline, although at a lower rate than in fiscal 2000. We believe differences in product mix and introductions of new products will help offset average selling price declines in more mature products.
We also believe we may experience certain declines in manufacturing costs. We expect cost reductions to result from the ongoing increase in internal wafer fabrication, continuing improvements in sourcing costs, and
improving manufacturing efficiency and yields. We also believe, however, that we will experience increased costs in late fiscal 2001 and possibly into fiscal 2002 associated with lower capacity utilization and start-up as the new fabrication facility is brought on line.
An additional factor that we believe may adversely affect overall margins in fiscal 2001 and into fiscal 2002 is an expected shift in product mix. In response to OEM demands, we are developing products that combine one or more integrated circuits with one or more passive components, such as capacitors, inductors and resistors, into a stand-alone module package. We are using both our in-house manufacturing capabilities and independent vendors to assemble, package and test these products. This vertical expansion of the supply chain for wireless applications poses a number of technical, supply and manufacturing challenges and is requiring a significant investment of time, equipment and personnel.
We have historically experienced fluctuations in gross profit margins, which has caused fluctuations in our quarterly operating results and we cannot be sure that operating results will not be similarly affected in the future. We currently expect that our gross profit margins should improve in the near term as an increasing percentage of our GaAs HBT products are fabricated at our wafer fabrication facility, where production costs per wafer have to date been lower than costs for products manufactured with purchased wafers. However, as described above, we believe downward pressure on average selling prices and start-up costs related to our new module products and our new facility will adversely affect margins and offset gains we expect from these manufacturing cost reductions.
RESEARCH AND DEVELOPMENT
Research and development expenses in fiscal 2000 increased $19.1 million over fiscal 1999 primarily due to increased salaries and benefits and recruiting expenses related to increased headcount and additional spending on mask sets and outside services for both standard and custom-designed products. Research and development expenses as a percentage of total revenues increased to 11.5% in fiscal 2000 from 9.3% in fiscal 1999. Research and development expenses in fiscal year 1999 compared to fiscal 1998 increased $5.5 million, primarily as a result of the same factors as noted for the increase in fiscal 2000 over fiscal 1999. We plan to continue to make substantial investments in research and development and we expect that such expenses will continue to increase in absolute dollar amounts in future periods.
We currently operate four off-site RFIC design centers staffed by permanent employees in addition to our design engineering staff in Greensboro, North Carolina. Our off-site locations consist of a design center in Scotts Valley, California that opened in April 1999 and is currently staffed by 16 employees; a design center in Cedar Rapids, Iowa that opened in June 1999 and is currently staffed by 13 employees; a design center in Boston, Massachusetts that opened in October, 1999 and is currently staffed by 16 employees; and a design center in Chandler, Arizona that opened in November, 1999 and is currently staffed by 8 employees. It is possible that we will open additional design centers in other locations in fiscal 2001 and beyond and we expect to continue to increase our engineering staffs at the existing centers and at our Greensboro headquarters.
MARKETING AND SELLING
Marketing and selling expenses in fiscal 2000 increased $9.4 million over fiscal 1999, primarily due to increased salaries and benefits related to increased headcount and to increased expenses associated with advertising, travel and entertainment expenses, and commissions related to increased sales. Marketing and selling expenses as a percentage of revenues in fiscal 2000 remained flat versus fiscal 1999 at 7.0%. Marketing and selling expenses in fiscal year 1999 compared to fiscal 1998 increased $4.5 million primarily as a result of the same factors noted for the increase in fiscal 2000 over fiscal 1999. We plan to continue to make substantial investments in marketing and selling and we expect that such expenses will continue to increase in absolute dollar amounts in future periods. In June 1999, we opened a small sales office in the United Kingdom to enhance our ability to serve our European customers, and in April, 2000 we established a sales and support team in Taiwan. We may open additional sales offices in the United States or elsewhere in the future. We expect that we will continue to see a greater proportion of our sales and marketing efforts conducted directly by our employees, and that our reliance on independent sales representative firms will decline over time. This will result in an absolute
increase in marketing and selling expenses as we build our internal direct sales force. Two unmanned sales offices located near facilities of major customers are available to our staffs while traveling to customer locations. We opened a location in Oulu, Finland in February 1999 and a location in Copenhagen, Denmark in May 2000.
GENERAL AND ADMINISTRATIVE
General and administrative expenses in fiscal 2000 increased $4.8 million over fiscal 1999 primarily due to increased salaries and benefits related to headcount increases and associated expenses such as recruiting, relocation and travel. In addition, we experienced increased expenses for legal and accounting services as a result of our TRW license expansion, SAP consulting and the creation of foreign subsidiaries. The increases in headcount generally corresponded to the growth in sales volume. General and administrative expenses in fiscal 1999 increased $2.3 million over fiscal 1998 primarily due to increased salaries and benefits related to headcount increases, provision for doubtful accounts and the amortization of our technology license with TRW.
General and administrative expenses as a percentage of revenues were 3.3% in fiscal 2000 versus 3.1% in fiscal 1999. We believe we will continue to experience general and administrative expenses in the range of 3% to 3.5% of revenues, down from levels experienced in fiscal years 1998 and 1997 when they were 5.6% and 4.8%, respectively. We believe relatively low general and administrative expense growth is possible now that we have completed our major SAP implementation, which we finished during fiscal 2000 with no material negative impact on business operations during the implementation period.
OTHER INCOME (EXPENSE)
Other income (expense) net, in fiscal 2000 reflected income, net of $3,874,000 compared to income, net of $667,000 in fiscal 1999. This increase was attributable to a full year benefit of interest income of $5.4 million from investments made in government bonds, which were purchased with cash from our secondary public stock offering completed in January 1999. Offsetting this was interest expense of $1.4 million primarily due to activity related to capital leases. See Note 5 of Notes to Consolidated Financial Statements. Approximately $912,000 of interest expense related to equipment under capital leases was capitalized in fiscal 1999 in connection with the construction of the wafer fabrication facility. This first wafer fabrication facility was fully operational in fiscal 2000, accordingly no interest expense was capitalized. In fiscal 1999 other income (expense), net had decreased to $667,000 versus $882,000 in fiscal 1998 due to an increase in interest expense related to borrowings for the wafer fabrication facility.
INCOME TAX EXPENSE
Income tax expense in fiscal 2000 was $27.0 million compared to $4.9 million in fiscal 1999 and no provision in fiscal 1998. Our effective combined income tax rate was 35.0% in fiscal 2000, 20.0% in fiscal 1999 and 0% in fiscal 1998. The effective rate in fiscal 2000 was less than the combined federal and state statutory rate of approximately 40% due to the benefit of tax credits. The effective rate in fiscal 1999 was less than the combined federal and state statutory rate of approximately 40% due to the benefit of tax credits and the use of net operating loss carry-forwards. In fiscal 1998 we did not provide for income taxes as a result of the loss incurred during the year.
LIQUIDITY AND CAPITAL RESOURCES
We have funded our operations to date through sales of equity and debt securities, bank borrowings, capital equipment leases and revenues from product sales. We completed our initial public offering in June 1997, and raised approximately $37.6 million, net of offering expenses. In January 1999, we completed our secondary public offering and raised approximately $133.4 million, net of offering expenses. As of March 31, 2000, we had working capital of approximately $142.3 million, including $29.0 million in cash and cash equivalents.
Operating activities generated $19.9 million in cash in fiscal 2000. This was attributable primarily to net income of $50.1 million, depreciation and amortization of $15.3 million and an increase in income taxes payable and non-current deferred tax liability of $8.8 million; these were offset by increases of $37.5 million in accounts receivable and $11.1 million in inventories and a $3.8 million decrease in accounts payable. Cash generated by
operating activities in fiscal 1999 was $20.5 million. This amount was attributable primarily to net income of $19.6 million and an increase in accounts payable of $8.8 million offset by increases to accounts receivable of $16.6 million and $2.5 million in inventories.
The $142.8 million of cash used by investing activities in fiscal 2000 was primarily related to the purchase of $107.5 million of capital equipment and $33.8 million net investment in U.S. Agency Medium Term Notes. These capital purchases included the completion of our new headquarters building in Greensboro, North Carolina, the up-fitting of a new packaging facility, investment in test equipment, wafer fabrication expansion, and the up-fitting of our new stand-alone MBE facility. The $25.8 million of cash used by investing activities in fiscal 1999 was related to the purchase of $24.8 million of capital equipment, primarily for use in our wafer fabrication facility, as well as $1.3 million for the capitalization of wafer fabrication construction costs.
The $4.3 million of cash provided by financing activities in fiscal 2000 consisted of $4.5 million in proceeds from the issuance of common stock and the release of $3.9 million that had been restricted for capital additions, partially offset by $4.1 million in repayments of capital lease obligations. The $136.5 million of cash provided by financing activities in fiscal 1999 related primarily to the receipt of $133.4 million in proceeds from our secondary offering completed in January 1999 and $10.0 million in proceeds from the exercise of a warrant by TRW covering 4,000,000 shares of common stock. The proceeds were partially offset by $4.2 million in repayments of capital lease obligations and by the cash restricted for capital additions of $3.9 million described above.
At March 31, 2000, we had total long-term capital commitments of $125.4 million, with $7.0 million relating to our wafer fabrication expansion, $76.7 million relating to our second wafer fabrication construction project of which $54.9 million is covered under a synthetic lease (see Note 5 of Notes to Consolidated Financial Statements), $21.9 million for our MBE facility expansion, $15.2 million for test and packaging facilities and $4.5 million for general corporate requirements. As part of the execution of the capacity expansion efforts, we entered into an operating lease in fiscal 1999 for a new 136,000 square foot facility that we are using for our MBE process. The lease is for 15 years with two ten year renewal options. In fiscal 2000 we also entered into a lease for a 75,000 square foot facility that is to be used for packaging and wafer dicing associated with our module products. The term of the lease is also for 15 years with two ten year renewal options. Also in fiscal 2000, we entered into a lease for a 120,000 square foot facility that is to be used for testing our products. The term of the lease is also for 15 years with two ten-year renewal options. The aggregate annual rent under these leases is approximately $0.9 million.
We lease the majority of our corporate, wafer fabrication, and other facilities through several third party operating leases. At March 31, 2000, we had minimum future lease payments of approximately $34.7 million related to facility operating leases and approximately $10.6 million related to equipment operating leases.
We currently have six capital lease facilities with three equipment financing companies under which we have financed the cost of capital equipment and leasehold improvements associated with our first wafer fabrication facility. We have financed an aggregate of $22.0 million of leased property under these facilities. Lease terms range from 36 months to 60 months with effective interest rates ranging from 8.6% to 10.7%.
In fiscal 2000 we successfully completed construction and moved into our new corporate headquarters. The new facility houses our general corporate, sales and marketing and research and development organizations. The building is 100,000 square feet including 10,000 square feet of lab space.
On March 9, 2000, we announced that we intended to offer, subject to market and other conditions, $425 million of Convertible Subordinated Notes due 2005 (plus an additional amount of up to $75 million to cover any over-allotments) through initial purchasers to qualified institutional buyers under Rule 144A of the Securities Act of 1933, as amended. The notes would have been convertible into our common stock at the option of the holder, at a price to be determined. The offering was expected to close in March 2000; however, due to a decline in the price of our common stock and other market conditions, we determined not to proceed with this offering. Proceeds from the offering would have been used for future operating requirements and expansion opportunities.
We believe our cash requirements will be adequately met from normal operating results during fiscal 2001. In addition, we anticipate completing a sale leaseback transaction of our corporate headquarters building during
the first half of this fiscal year. Nevertheless, we may elect to proceed with a sale of debt or equity securities if we perceive market conditions to be favorable. Also, our future capital requirements may differ materially from those currently anticipated and will depend on many factors, including, but not limited to, market acceptance of our products, volume pricing concessions, capital improvements to new and existing facilities, technological advances and our relationships with suppliers and customers. In addition, we may require increased working capital to accommodate planned growth. If existing resources and cash from operations are not sufficient to meet our future requirements, we may seek additional debt or equity financing or additional credit facilities. We cannot be sure that any additional equity or debt financing will not be dilutive to holders of our common stock. Further, there can be no assurance that additional equity or debt financing, if required, will be available on acceptable terms.
COMMITMENTS
The funding for the first phase of our new wafer fabrication facility will come primarily from a synthetic lease arrangement that we entered into on August 13, 1999, as modified effective December 31, 1999. A synthetic lease is an asset-based financing structured to be treated as an operating lease for accounting purposes, and a capital lease for tax purposes. At the end of the third quarter of fiscal year 2000, the synthetic lease transaction was largely secured by cash collateral. The modification effective December 31, 1999 resulted in the release of the cash collateral and the synthetic lease is now secured by substantially all of RFMD's personal property assets. The lease has a term expiring November 3, 2004. At the end of the term, the lease can be extended upon the agreement of the parties or we may buy out the lease. The interest rates or yield rates embedded in the lease (and used to calculate lease payments) are either:
- the Eurodollar Rate plus margins varying from 150 basis points to 300 basis points per annum (based on certain quarterly financial covenant testing and depending on whether the underlying source of funding is in the form of a promissory note or an equity certificate), or
- at our election and under certain other circumstances where funding based on the Eurodollar Rate is not available, the ABR Rate plus margins varying from zero basis points to 75 basis points per annum (based on certain quarterly financial covenant testing and depending on whether the underlying source of funding is in the form of a promissory note or an equity certificate). The Eurodollar Rate is a rate of interest determined under the lease documents by reference to one or more sources for the London interbank offered rate, or LIBOR. The ABR Rate is a rate of interest determined under the lease documents equal to the greater of (a) the prime lending rate of the primary lender or its successor (as determined under the lease documents) or (b) the federal funds effective rate (as determined under the lease documents) plus 0.5%.
This lease is expected to provide up to $100 million in financing for our new wafer fabrication facility, which is currently under construction. The $100 million of financing is expected to fund approximately $57 million for the building and $43 million for equipment.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We did not have any derivative financial instruments as of March 31, 2000. Our interest income and expense are sensitive to changes in the general level of interest rates. In this regard, changes in interest rates can affect the interest earned on our cash equivalents. Our capital lease obligations have fixed interest rates and the fair value of these instruments is affected by changes in market interest rates. To mitigate the impact of fluctuations in interest rates, we generally enter into fixed rate investing and borrowing arrangements. As a result, we believe that the market risk arising from holdings of our financial instruments is not material.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA
The report of independent auditors and financial statements are set forth below (see Item 14(a) for list of financial statements and financial statement schedules):
RF MICRO DEVICES, INC. AND SUBSIDIARIES
AUDITED CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MARCH 31, 2000, 1999 AND 1998
CONTENTS
REPORT OF INDEPENDENT AUDITORS
Board of Directors and Shareholders RF Micro Devices, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheets of RF Micro Devices, Inc. and subsidiaries as of March 31, 2000 and 1999, and the related consolidated statements of operations, income, redeemable convertible preferred stock and shareholders' equity and cash flows for each of the three years in the period ended March 31, 2000. Our audits also included the financial statement schedule listed in the index at Item 14(a). These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States. 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 financial position of RF Micro Devices, Inc. and subsidiaries at March 31, 2000 and 1999, and the consolidated results of their operations and their cash flows for each of the three years in the period ended March 31, 2000, in conformity with accounting principles generally accepted in the United States. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
/s/ Ernst & Young LLP
Raleigh, North Carolina April 18, 2000
RF MICRO DEVICES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
See accompanying notes.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
See accompanying notes.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF REDEEMABLE CONVERTIBLE PREFERRED STOCK AND SHAREHOLDERS' EQUITY
See accompanying notes.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
See accompanying notes.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS MARCH 31, 2000
1. COMPANY INFORMATION
RF Micro Devices, Inc. (the "Company") designs, develops, manufactures and markets proprietary radio frequency and intermediate frequency integrated circuits ("RFICs") for wireless applications such as cellular and PCS, cordless telephony, wireless local area networks, wireless local loop, industrial radios, wireless security and remote meter reading. The Company derives revenue from the sale of standard and custom-designed products and services. To date, a significant portion of the Company's revenue has been attributable to the sale of RFICs used in cellular and PCS handsets. The Company offers a broad array of products -- including amplifiers, mixers and modulators/demodulators and single chip transmitters, receivers and transceivers -- that represent a substantial majority of the RFICs required in wireless subscriber equipment.
The Company addresses the various wireless markets by a product delivery strategy called Optimum Technology Matching(R). This product delivery strategy utilizes four distinct semiconductor process technologies: gallium arsenide heterojunction bipolar transistor ("GaAs HBT"), silicon bipolar transistor, silicon germanium, and gallium arsenide metal semiconductor field effect transistor ("GaAs MESFET"). In June 1996, the Company and TRW Inc. ("TRW") entered into a license arrangement whereby the Company was granted a worldwide, perpetual, royalty-free license for GaAs HBT commercial wireless applications operating at frequencies less than 10 GHz. In November 1999, the Company and TRW expanded the existing license agreement to include commercial coaxial and non-fiber wire applications.
The Company has built a high volume GaAs HBT manufacturing facility to address the various markets for this technology. Commercial production from this facility began in September 1998. The Company began the construction of its second wafer fabrication facility in September 1999. This facility will be completed in two phases, the first of which is expected to be complete near the end of calendar 2000. Once both phases of this facility are complete, the Company expects to have a total manufacturing capacity of approximately 270,000 four-inch wafer equivalents per year.
In June 1997, the Company completed an initial public offering of its no par value common stock (the "Initial Offering"). The Initial Offering consisted of 13,822,200 shares offered by the Company and 148,000 shares offered by selling shareholders. The Initial Offering price was $3 per share, resulting in net offering proceeds of approximately $37,600,000. Simultaneously with the Initial Offering, the redeemable convertible preferred stock and a $10 million subordinated convertible note payable to a shareholder of the Company were automatically converted into 31,817,280 and 4,444,444 shares of common stock, respectively.
In January 1999, the Company completed a secondary offering of common stock (the "Secondary Offering"). The Secondary Offering consisted of 9,200,000 shares offered by the Company and 1,150,000 shares offered by TRW. The Secondary Offering price was $15.36 per share resulting in net offering proceeds to the Company of approximately $133,381,000.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND OTHER MATTERS
BASIS OF PRESENTATION
The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, RF Micro Devices UK Ltd. and RF Micro Devices International, Inc. All significant intercompany accounts and transactions have been eliminated in consolidation.
On March 31, 1999, the Company effected a two-for-one stock split in the form of a 100% share dividend payable to shareholders of record on March 17, 1999. On August 18, 1999, the Company effected a second two-for-one stock split, in the form of a 100% share dividend payable to shareholders of record on August 2, 1999. All earnings per share and share count information have been restated retroactively to reflect the impact of these stock splits.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
RECLASSIFICATIONS
Certain amounts in the March 31, 1999 financial statements have been reclassified to conform to the March 31, 2000 presentation. These reclassifications had no effect on net income or shareholders' equity as previously reported.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents consist of demand deposit accounts, money market funds and temporary, highly liquid investments with original maturities of three months or less when purchased.
SHORT-TERM INVESTMENTS
Short-term investments consist of debt securities comprised entirely of U.S. Agency Medium Term Notes. The investments have original maturities of less than a year when purchased. Management determines the appropriate classification of debt securities at the time of purchase and reevaluates such designation as of each balance sheet date. Debt securities are classified as held-to-maturity when the Company has the positive intent and ability to hold the securities to maturity. All debt securities are classified as held-to-maturity at March 31, 2000. Held-to-maturity securities are stated at amortized cost, adjusted for amortization of premiums and accumulation of discounts to maturity. Such amortization is included in interest income. Interest on securities classified as held-to-maturity is also included in interest income.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation of property and equipment is provided using the straight-line method over the estimated useful lives of the assets, ranging from 3 to 20 years.
The Company has capitalized the costs of bringing its first wafer fabrication facility to an operational state. The capitalized expenses are included in "machinery and equipment" and "leasehold improvements" in the accompanying balance sheets as of March 31, 2000 and 1999. These capitalized expenses are being amortized over a fifteen-year period. Equipment used in the wafer fabrication facilities is being depreciated over 6 and 10 year lives.
INVENTORIES
Inventories are stated at the lower of cost or market determined using the average cost method. The Company's business is subject to the risk of technological and design changes. The Company provides for potentially obsolete or slow moving inventory based on management's analysis of inventory levels and future sales forecasts at the end of each accounting period.
ACCOUNTING PERIODS
The Company uses a 52 or 53-week fiscal year ending on the Saturday closest to March 31 of each year. The years ended March 25, 2000, March 27, 1999 and March 28, 1998 were 52-week years. For purposes of financial statement presentation, each fiscal year is described as having ended on March 31.
REVENUE RECOGNITION
Revenue from product sales is recognized when products are shipped. The Company also enters into engineering agreements with certain customers relating to the development of customer specific applications. Revenue is recognized for engineering contracts when contract milestones are met.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company's products generally carry a one- or two-year warranty against defects depending on the specific type of product. The Company provides for estimated warranty costs in the period the related sales are made.
ADVERTISING COSTS
The Company expenses advertising costs as incurred. The Company recognized advertising expense of $726,000, $427,000, and $287,000 for the years ended March 31, 2000, 1999 and 1998, respectively.
RISKS AND UNCERTAINTIES
Pursuant to the strategic alliance with TRW (Note 12), TRW has granted to the Company certain licenses to produce certain GaAs HBT products. The Company constructed a wafer fabrication facility and is manufacturing its own GaAs HBT products covered by such licenses. These licenses may be made non-exclusive by TRW if the Company does not meet certain revenue goals. A decision by TRW to make them non-exclusive would have a material adverse effect on the Company's operations. Currently, the Company expects to fulfill the requirements of the license agreements.
The Company currently purchases GaAs HBT products from TRW to supplement its own capacity. Sales of GaAs HBT products represented 89%, 89%, and 81% of the Company's total revenue in the years ended March 31, 2000, 1999 and 1998, respectively. Failure by TRW to continue to supply adequate quantities of these products would have a material adverse effect on the Company.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying values of cash and cash equivalents, short-term investments, accounts receivable, accounts payable and other accrued liabilities approximate fair values as of March 31, 2000 and 1999.
INTANGIBLES
TRW has granted to the Company a worldwide right and license to make, have made, use and sell the products manufactured in the Company's wafer fabrication facility. This right and license will become exclusive and perpetual upon completion of the condition discussed below. An intangible asset was recorded on the Company's balance sheet as a related party technology license with an aggregate value of $3,202,000, which represents the cost of the Company's right to use the technology. Amortization of this intangible asset is being provided on a straight-line basis over a fifteen year estimated useful life, commencing September 1998 with resulting amortization expense of $214,000 and $124,000 for the years ended March 31, 2000 and 1999, respectively. At the option of TRW, the license will become non-exclusive if the Company fails to meet the following revenue goals, as measured in accordance with generally accepted accounting principles, following June 15, 1998; during the first year, $30 million; during the second year, $65 million; and during the third year, $125 million. TRW and the Company expanded the license agreement in November 1999 to permit the Company to use TRW's patented GaAs HBT technology to manufacture products for commercial coaxial and other non-fiber wire applications, including the broadband wired market. Products serving this market include cable television distribution amplifiers, cable modems, digital television converters and television tuners, both analog and digital. The related party technology license intangible asset recorded on the Company's balance sheet was increased by an aggregate value of $10,041,000, which represents the cost of the Company's additional rights to use the technology. Amortization of this portion of the intangible asset will be provided on a straight-line basis over the remaining useful life of the technology (estimated at 13.5 years). Should the technology license be made non-exclusive under the circumstances described above, a resulting charge to income would be recorded to recognize impairment, if any, of its value.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
During fiscal year 2000, International Business Machines Corporation ("IBM") and the Company agreed to jointly develop radio frequency integrated circuits (RFICs) based on IBM's silicon germanium process technology. The companies intend to design highly integrated RFICs for next-generation cell phones. An intangible asset was recorded on the Company's balance sheet in other non-current assets with an aggregate value of $1,500,000, which represents the cost of the Company's right to use the technology. Amortization of this intangible asset is being provided on a straight-line basis over a fifteen year estimated useful life, commencing September 1999 with resulting amortization expense of $52,934 for the year ended March 31, 2000.
USE OF ESTIMATES
The preparation of consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. The Company makes estimates for the allowance for doubtful accounts, inventory reserves, warranty reserves, and other financial statement amounts. Actual results could differ materially from those estimates.
SALES AND ACCOUNTS RECEIVABLE
The Company operates in a single industry segment and is engaged in the design and sale of integrated circuits. Revenues from significant customers, those representing 10% or more of total sales for the respective periods, are summarized as follows:
Additionally, 57% and 91% of the Company's accounts receivable were due from Customer 1 at March 31, 2000 and 1999, respectively.
Sales to customers by geographic region are summarized as follows:
The Company's principal financial instrument subject to potential concentration of credit risk is accounts receivable, which are unsecured. The Company provides an allowance for doubtful accounts equal to estimated losses expected to be incurred in the collection of accounts receivable.
RESEARCH AND DEVELOPMENT
The Company charges all research and development costs to expense as incurred.
INCOME TAXES
The Company accounts for income taxes under the provisions of Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes" ("SFAS 109"). Under SFAS 109, the liability method is used in accounting for income taxes and deferred tax assets and liabilities are determined based on differences between the financial reporting and tax bases of assets and liabilities.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
STOCK-BASED COMPENSATION
The Company accounts for employee stock options and employee restricted stock in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25"). Under APB 25, no compensation expense is recognized for stock options or restricted stock issued to employees with exercise prices or share prices at or above quoted market value. For stock options or restricted shares granted at prices below quoted market value, the Company records deferred compensation expense for the difference between the price of the shares and the market value. Deferred compensation expense is amortized ratably over the vesting period of the related options.
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), provides an alternative to APB 25 in accounting for stock-based compensation issued to employees. SFAS 123 provides for a fair value based method of accounting for employee stock options and similar equity instruments. However, companies that continue to account for stock-based compensation arrangements under APB 25 are required by SFAS 123 to disclose the pro forma effect on net income (loss) and income (loss) per share as if the fair value based method prescribed by SFAS 123 had been applied. The Company has continued to account for stock-based compensation using the provisions of APB 25 and presents the pro forma disclosure requirements of SFAS 123 (see Note 10).
IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133 "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"), which is effective for years beginning after June 15, 2000. SFAS 133 establishes a comprehensive and consistent standard for the recognition and measurement of derivatives and hedging activities. The Company will adopt SFAS 133 for fiscal 2001, which may result in additional disclosures. The application of the new rules is not expected to have a significant impact on the Company's financial position, results of operations or cash flows.
3. SHORT-TERM INVESTMENTS
The following is a summary of held-to-maturity securities at March 31, 2000 (in thousands):
During the year ended March 31, 2000, debt securities classified as held-to-maturity with a fair value at the date of sale of $13.3 million were sold near maturity. The gross realized loss on such sales totaled $27,000. The estimated fair value of held-to-maturity securities is based on the prevailing market values at March 31, 2000.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
4. INVENTORIES
The components of inventories are as follows (in thousands):
5. LEASES
The Company leases certain equipment and facilities under capital and non-cancelable operating leases. The table below summarizes capitalized leased equipment balances included in property and equipment (in thousands):
The Company currently has entered into six capital lease facilities with three equipment-financing companies under which it has financed the cost of capital equipment and leasehold improvements associated with its wafer fabrication facility. Lease terms range from 36 months to 60 months with effective interest rates ranging from 8.6% to 10.7%. At March 31, 2000, the minimum future lease payments under these capital leases (excluding interest) totaled $12.7 million. The Company has financed an aggregate of $22.0 million of leased property under these facilities. Capital lease amortization totaling approximately $3.6 million, $2.1 million and $163,000 is included in depreciation expense for the years ended March 31, 2000, 1999, and 1998, respectively. Additionally, approximately $912,000 and $315,000 of interest expense related to this equipment under capital leases was capitalized in fiscal 1999 and 1998, respectively in connection with the construction of the wafer fabrication facility. No interest expense was capitalized in fiscal 2000.
The Company leases the majority of its corporate, wafer fabrication, and other facilities from several third party real estate developers. The terms of these operating leases range from 5 to 15 years and several have renewal options up to two 10-year periods. The Company also leases various machinery and equipment and office equipment under non-cancelable operating leases. The terms of these leases range from 1 to 5 years. As of March 31, 2000, total future minimum lease payments of approximately $34.7 million related to facility operating leases and approximately $10.6 million related to equipment operating leases.
In connection with the construction of the Company's first wafer fabrication facility, the developer provided partial construction financing for the facility. For the remainder of the construction costs, the Company deposited cash with an escrow agent to secure its lease payments to the developer. The deposited amounts were released to the Company in December 1999 as a result of the Company meeting specified financial coverage ratios.
In 1997, in connection with a financing commitment related to the construction of the Company's first wafer fabrication facility, the Company issued a warrant to purchase 165,288 shares of its common stock at an exercise price of $2.25 per share to an equipment financing company. On February 4, 1999, Finova Technology Finance,
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Inc., the warrant holder, exercised the warrant through a "cashless" exercise, as permitted by the terms of the warrant agreement, by relinquishing the right to purchase 20,652 shares in return for 144,636 shares.
Minimum future lease payments under non-cancelable capital and operating leases as of March 31 are as follows (in thousands):
Rent expense under operating leases, including facilities and equipment, was approximately $7,724,000, $4,689,000 and $2,233,000 for the years ended March 31, 2000, 1999 and 1998, respectively.
SYNTHETIC LEASE
On August 13, 1999, as modified effective December 31, 1999, the Company entered into a synthetic lease with a financial institution. A synthetic lease is an asset-based financing structured to be treated as an operating lease for accounting purposes, but as a capital lease for tax purposes. At the end of the third quarter of fiscal year 2000, cash collateral largely secured the synthetic lease transaction. The modification effective December 31, 1999 resulted in the release of the cash collateral and the synthetic lease is now secured by substantially all of the personal property assets of the Company. The lease has a term expiring November 3, 2004. At the end of the term, the lease can be extended upon the agreement of the parties or the Company may buy out the lease. The interest rates or yield rates embedded in the lease (and used to calculate lease payments) are either:
- The Eurodollar Rate plus margins varying from 150 basis points to 300 basis points per annum (based on certain quarterly financial covenant testing and depending on whether the underlying source of funding is in the form of a promissory note or an equity certificate), or
- At the Company's election and under certain other circumstances where funding based on the Eurodollar Rate is not available, the ABR Rate plus margins varying from zero basis points to 75 basis points per annum (based on certain quarterly financial covenant testing and depending on whether the underlying source of funding is in the form of a promissory note or an equity certificate). The Eurodollar Rate is a rate of interest determined under the lease documents by reference to one or more sources for the London inter-bank offered rate, or LIBOR. The ABR Rate is a rate of interest determined under the lease documents equal to the greater of (a) the prime lending rate of the primary lender or its successor (as determined under the lease documents) or (b) the federal funds effective rate (as determined under the lease documents) plus 0.5%
This lease is expected to provide up to $100 million in financing for a new wafer fabrication facility currently under construction. The $100 million of financing is expected to fund approximately $57 million for the building and $43 million of equipment.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Under the terms of the synthetic lease, the Company is required to comply with certain financial covenants which among other things, require the maintenance of minimum levels of tangible net worth, liquidity and debt service coverage and prohibit the payment of dividends.
6. INCOME TAXES
Deferred income tax assets and liabilities are determined based upon differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse.
The components of the income tax provision are as follows (in thousands):
Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company's net deferred income taxes are as follows (in thousands):
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
A reconciliation of the provision for income taxes to income tax expense computed by applying the statutory federal income tax rate to pre-tax income (loss) for the years ended March 31, 2000, 1999, and 1998 is as follows (in thousands):
7. NET INCOME (LOSS) PER SHARE
The following table sets forth the computation of basic and diluted net income (loss) per share (in thousands, except per share data):
Options to purchase 103,125 and 151,000 shares of common stock were outstanding during fiscal 2000 and 1999, respectively, but were not included in the computation of diluted earnings per share for the years ended March 31, 2000 and 1999, respectively, because the exercise price of the options was greater than the average market price of the common shares and, therefore, the effect would be anti-dilutive.
8. 401(k) PLAN
Each employee is eligible to participate in the Company's fully qualified 401(k) plan after three months of service. An employee may invest a maximum of 15% of pretax earnings in the plan. Employer contributions to the plan are made at the discretion of the Company and its Board of Directors. An employee is fully vested in the employer contribution portion of the plan after completion of 5 continuous years of service. The Company contributed $511,000, $265,000 and $98,000 to the plan during 2000, 1999 and 1998, respectively.
9. EMPLOYEE STOCK PURCHASE PLAN
In April 1997, the Company adopted its Employee Stock Purchase Plan ("ESPP"), which qualifies as an "employee stock purchase plan" under Section 423 of the Internal Revenue Code. All regular full-time
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
employees of the Company (including officers) and all other employees who meet the eligibility requirements of the plan may participate in the ESPP. The ESPP provides eligible employees an opportunity to acquire the Company's common stock at 85% of the lower of the closing price per share of the Company's common stock on the first or last day of each six-month purchase period. An aggregate of 2,000,000 shares of common stock have been reserved for offering under the ESPP and are available for purchase there under, subject to anti-dilution adjustments in the event of certain changes in the capital structure of the Company. The Company makes no cash contributions to the ESPP, but bears the expenses of its administration. During fiscal years 2000, 1999 and 1998, respectively, 47,660, 130,492, and 47,888 shares were purchased under the ESPP.
10. STOCK-BASED AWARDS
1992 STOCK OPTION PLAN
The Company's 1992 Stock Option Plan (the "1992 Option Plan") was adopted by the shareholders of the Company in February 1992. The 1992 Option Plan provided for the granting of both incentive and nonqualified options to purchase common stock to key employees, non-employee directors and advisors and consultants in the service of the Company. The 1992 Option Plan was terminated following the Initial Offering, at which time options to purchase 4,366,464 shares had been granted.
1997 KEY EMPLOYEES' STOCK OPTION PLAN
In April 1997, the Company adopted the 1997 Key Employees' Stock Option Plan (the "1997 Option Plan"), which provides for the granting of options to purchase common stock to key employees and independent contractors in the service of the Company. The 1997 Option Plan permits the granting of both incentive options and nonqualified options. The aggregate number of shares of common stock that may be issued pursuant to options granted under the 1997 Option Plan may not exceed 5,200,000 shares, subject to adjustment in the event of certain events affecting the Company's capitalization.
DIRECTORS' OPTION PLAN
In April 1997, the Company adopted the Non-employee Directors' Stock Option Plan. Under the terms of this plan, directors who are not employees of the Company are entitled to receive options to acquire shares of common stock. An aggregate of 800,000 shares of common stock have been reserved for issuance under this plan, subject to adjustment for certain events affecting the Company's capitalization. In 2000 and 1999, respectively, the Company issued 60,000 and 80,000 options to eligible participants under the plan. In addition, during October 1998, the Company granted 60,000 options to certain directors outside of the Non-employee Directors' Stock Option Plan.
1999 STOCK INCENTIVE PLAN
The 1999 Stock Incentive Plan ("Stock Plan"), which the Company's shareholders approved at the 1999 annual meeting of shareholders, provides for the issuance of a maximum of 8,000,000 shares of common stock pursuant to awards granted under the Stock Plan. Awards that may be granted under the Stock Plan include incentive stock options and nonqualified stock options totaling 7,000,000 shares. The remaining 1,000,000 shares reserved under the plan are for stock appreciation rights, and restricted stock awards and restricted units. The number of shares reserved for issuance under the Stock Plan and the terms of awards may be adjusted upon certain events affecting the Company's capitalization. No awards may be granted under the Stock Plan after June 30, 2009. The Company recorded $8.8 million in November 1999 of deferred compensation associated with the awarding of 200,000 non-vested restricted stocks to key employees at no cost under the Stock Plan. This deferred compensation is being amortized to expense over the vesting periods of such restricted stock awards, up to four years.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company has elected to follow APB 25 and related interpretations in accounting for its employee stock-based awards. The Company has recorded deferred compensation expense of $300,000 for the difference between the grant price and the deemed fair value of certain of the Company's common stock options granted in 1997. Pro forma information regarding net income (loss) and net income (loss) per share is required by SFAS 123, and has been determined as if the Company accounted for its employee stock options using the fair value method of SFAS 123. The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model with the following assumptions for the years ended March 31, 2000, 1999 and 1998, respectively: risk-free interest rate of 6.5%, 5.5% and 5.7%, no expected dividends, a volatility factor of .892, .801 and .877 and a weighted average expected life of the options of 5 years. The weighted average fair value of options granted during 2000, 1999 and 1998 was $33.43, $4.54 and $2.54, respectively.
For purposes of pro forma disclosures, the estimated fair value of the awards is amortized to expense over the awards' vesting periods. The Company's pro forma information follows (in thousands, except for per share information):
A summary of activity of the Company's employee stock option plans follows:
Exercise prices for options outstanding as of March 31, 2000, ranged from $0.04 to $175.00. The weighted average remaining contractual life of outstanding options is 8.2 years. The weighted average exercise price of outstanding options at March 31, 2000 is $17.22. At March 31, 2000 and 1999, options to purchase 1,367,836 and 583,762 shares of common stock were exercisable, respectively.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table summarizes in more detail information regarding the Company's stock options outstanding at March 31, 2000:
11. COMMON STOCK RESERVED FOR FUTURE ISSUANCE
At March 31, 2000, the Company had reserved a total of 17,837,187 of its authorized 150,000,000 shares of common stock for future issuance as follows:
12. RELATED PARTY TRANSACTIONS
In connection with a bridge financing in 1996, which was subsequently converted to preferred stock, the Company issued to a shareholder warrants that entitled the holder to purchase 267,784 shares of common stock at exercise prices ranging from $0.6875 to $1.5125 per share. These warrants were exercised in March 1999.
In connection with the technology licensing agreement discussed previously, the Company issued a warrant to TRW to purchase up to 4,000,000 shares of the Company's common stock at an exercise price of $2.50 per share. The TRW warrant first became exercisable on June 15, 1998, the date that the Company's wafer facility became operational, and was exercised on September 14, 1998. A value of $250,000 was recorded for this warrant.
The Company has agreed to purchase from TRW, through the year 2000, certain minimum quantities of wafers and wafer starting material used in its production of RFICs. The estimated minimum annual purchase in calendar year 2000 is $29 million.
RF MICRO DEVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In connection with the expansion of the license arrangements with TRW for use of the GaAs HBT technology to manufacture products for commercial coaxial and other non-fiber wire applications, the Company granted TRW two warrants for the purchase of shares of common stock. The first warrant is for 250,000 shares of common stock and is exercisable after December 31, 2000 and expires on June 30, 2001. The second warrant is for 500,000 shares of common stock and is exercisable after December 31, 2000 and expires on December 31, 2001, but will become null and void if the Company fails to achieve certain annualized sales milestones. The exercise price established for these warrants will be the average of the closing prices of the Company's common stock for ten trading days immediately preceding December 31, 2000 multiplied by 0.75. The value of these warrants was estimated using an option pricing model to be $10.0 million, which represents the cost of the Company's right to use TRW's technology for these new applications. Accordingly, the related intangible asset was increased on the Company's balance sheet. Amortization of this portion of the intangible asset is being provided on a straight-line basis over the remaining estimated useful life of the technology, approximately 13.5 years.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information required by this Item is contained in our definitive proxy statement relating to our Annual Meeting of Shareholders to be held on July 25, 2000 under the captions "Executive Officers," "Proposal 1 -- Election of Directors" and "Section 16(a) Beneficial Ownership Reporting Compliance," which are incorporated by reference herein.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
Information required by this Item is contained in our definitive proxy statement relating to our Annual Meeting of Shareholders to be held on July 25, 2000 under the caption "Management Compensation," which is incorporated by reference herein.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information required by this Item is contained in our definitive proxy statement relating to our Annual Meeting of Shareholders to be held on July 25, 2000 under the caption "Security Ownership," which is incorporated by reference herein.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information required by this Item is contained in our definitive proxy statement relating to our Annual Meeting of Shareholders to be held on July 25, 2000 under the caption "Certain Transactions," which is incorporated by reference herein.
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a)(1) Financial Statements
The following consolidated financial statements of RF Micro Devices, Inc. included in this Annual Report on Form 10-K are included in Item 8:
(a)(2) Schedule II; Valuation and Qualifying Accounts -- see additional section of this Report.
No other financial statement schedules are to be filed with this Annual Report on Form 10-K due to the absence of the conditions under which they are required or because the required information is included within the consolidated financial statements or the notes thereto included herein.
(a)(3) Exhibits
- ---------------
(1) Incorporated by reference to the exhibit filed with our Quarterly Report on Form 10-Q for the quarterly period ended June 26, 1999 (2) Incorporated by reference to the exhibit filed with our Registration Statement on Form S-1 (File No. 333-22625) (3) Incorporated by reference to the exhibit filed with our Quarterly Report on Form 10-Q for the quarterly period ended December 25, 1999 (4) Incorporated by reference to the exhibit filed with our Annual Report on Form 10-K for the fiscal year ended March 27, 1999 (5) Incorporated by reference to the exhibit filed with our Annual Report on Form 10-K for the fiscal year ended March 28, 1998
* Executive compensation plan or agreement ** Filed in electronic format only
(b) Reports on Form 8-K filed in the 4th quarter of fiscal 2000:
We filed a Current Report on Form 8-K on March 10, 2000 to disclose that on March 9, 2000 we announced that we intended to offer, subject to market and other conditions, $425 million of Convertible Subordinated Notes due 2005 (plus an additional amount of up to $75 million to cover over-allotments, if any) through initial purchasers to qualified institutional buyers under Rule 144A of the Securities Act. Due to market conditions, we subsequently determined not to proceed with this offering.
(c) Exhibits
The exhibits required by Item 601 of Regulation S-K are filed herewith and incorporated by reference herein. The response to this portion of Item 14 is submitted under Item 14(a)(3).
(d) Financial Statement Schedules
The response to this portion of Item 14 is submitted under Item 14(a)(2).
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
RF Micro Devices, Inc. Date: June 23, 2000 By: /s/ DAVID A. NORBURY ------------------------------------ David A. Norbury President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated on June 23, 2000.
/s/ DAVID A. NORBURY - ------------------------------------------------------ Name: David A. Norbury Title: President, Chief Executive Officer And Director (principal executive officer)
/s/ WILLIAM A. PRIDDY, JR. - ------------------------------------------------------ Name: William A. Priddy, Jr. Title: Chief Financial Officer and Vice President of Administration (principal financial officer)
/s/ BARRY D. CHURCH - ------------------------------------------------------ Name: Barry D. Church Title: Controller (principal accounting officer)
/s/ ERIK H. VAN DER KAAY - ------------------------------------------------------ Name: Erik H. van der Kaay Title: Director
/s/ DR. ALBERT E. PALADINO - ------------------------------------------------------ Name: Dr. Albert E. Paladino Title: Director
/s/ WILLIAM J. PRATT - ------------------------------------------------------ Name: William J. Pratt Title: Director
/s/ WALTER H. WILKINSON, JR. - ------------------------------------------------------ Name: Walter H. Wilkinson, Jr. Title: Director
/s/ TERRI D. ZINKIEWICZ - ------------------------------------------------------ Name: Terri D. Zinkiewicz Title: Director
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS YEARS ENDED MARCH 31, 2000, 1999 AND 1998