Item 1. Business
The following description of our business should be read in conjunction with the information included elsewhere in this document. The description contains certain forward-looking statements that involve risks and uncertainties. When used in this document, the words “intend,” “anticipate,” “believe,” “estimate,” “plan,” “expect” and similar expressions as they relate to us are included to identify forward-looking statements. Our actual results could differ materially from the results discussed in the forward-looking statements as a result of risk factors set forth elsewhere in this document. See also, “Item 1A.
Item 1A. Risk Factors
From time to time, information provided by us, statements made by our employees or information included in our filings with the Securities and Exchange Commission (including this Form 10-K) may contain statements that are not historical facts, so-called “forward-looking statements,” which involve risks and uncertainties. Such forward-looking statements are made pursuant to the safe harbor provisions of Section 21E of the Securities Exchange Act of 1934, as amended. In some cases you can identify forward-looking statements by terminology such as “may,” “should,” “could,” “will,” “expect,” “intend,” “plans,” “predict,” “anticipate,” “estimate,” “continue,” “believe” or the negative of these terms or other similar words. These statements discuss future expectations, contain projections of results of operations or of financial condition or state other forward-looking information. When considering forward-looking statements, you should keep in mind the risk factors and other cautionary statements in this Form 10-K.
Our actual future results may differ significantly from those stated in any forward-looking statements. Factors that may cause such differences include, but are not limited to, the factors discussed below. Each of these factors, and others, are discussed from time to time in our filings with the Securities and Exchange Commission.
Our operating results may fluctuate because of a number of factors, many of which are beyond our control. If our operating results are below the expectations of public market analysts or investors, then the market price of our common stock could decline. Some of the factors that affect our quarterly and annual results, but which are difficult to control or predict, are:
We have incurred significant net losses.
Our net losses have been considerable for the past several years. Due to current economic conditions, we expect that our revenues will continue to fluctuate in the future and there is no assurance that we will attain positive net earnings in the future.
Our net revenues may continue to fluctuate.
Due to current economic conditions and slowdowns in purchases of VLSI semiconductor devices, it has become increasingly difficult for us to predict the purchasing activities of our customers and we expect that our net revenues will continue to fluctuate in the future.
Our business is characterized by short-term orders and shipment schedules, and customer orders typically can be cancelled or rescheduled without significant penalty to our customers. Because we do not have substantial non-cancelable backlog, we typically plan our production and inventory levels based on internal forecasts of customer demand, which are highly unpredictable and can fluctuate substantially. Future fluctuations to our operating results may also be caused by a number of factors, many of which are beyond our control.
In response to anticipated long lead times to obtain inventory and materials from our foundries, we may order inventory and materials in advance of anticipated customer demand, which might result in excess inventory levels if the expected orders fail to materialize. As a result, we cannot predict the timing and amount of shipments to our customers, and any significant downturn in customer demand for our products would reduce our quarterly and annual operating results.
We continue to have substantial indebtedness.
As of December 31, 2007, we have approximately $25.0 million in principal amount of indebtedness outstanding in the form of our 5.45% Convertible Notes due September 30, 2010 (“2010 Notes”).
In addition to this indebtedness, we may incur substantial additional indebtedness in the future. The level of our indebtedness, among other things, could:
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make it difficult for us to make payments on our 2010 Notes;
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make it difficult for us to obtain any necessary future financing for working capital, capital expenditures, debt service requirements or other purposes;
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limit our flexibility in planning for, or reacting to changes in, our business; and
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make us more vulnerable in the event of a downturn in our business.
There can be no assurance that we will be able to meet our debt service obligations, including our obligations under the 2010 Notes. The terms of our 2010 Notes permit the holders thereof to voluntarily convert their notes at any time into a certain number of shares of our common stock.
We are using our available cash and cash equivalents each quarter to fund our operations, investments and financing activities.
We anticipate that we will use approximately $4.4 million in cash and cash equivalents during the first quarter of 2008 to fund our operations, investments and interest payments on debt.
However, we believe that we have adequate cash and cash equivalents to fund its operations, investments and to meet our debt obligations through at least December 31, 2008.
We may not be able to pay our debt and other obligations.
If our cash, cash equivalents and operating cash flows are inadequate to meet our obligations, we could face substantial liquidity problems. If we are unable to generate sufficient cash flow or otherwise obtain funds necessary to make required payments on the 2010 Notes or our other obligations, we would be in default under their respective terms. This would permit the holders of the 2010 Notes and our other obligations to accelerate their respective maturities and could also cause defaults under any future indebtedness we may incur. Any such default or cross default would have a material adverse effect on our business, prospects, financial condition and operating results. In addition, we cannot be sure that we would be able to repay amounts due in respect of the 2010 Notes if payment of those notes were to be accelerated following the occurrence of an event of default as defined in the 2010 Notes indenture.
We may seek to reduce our indebtedness by issuing equity securities, thereby causing dilution of our stockholders’ ownership interests.
We may from time to time seek to exchange our 2010 Notes for shares of our common stock or other securities. These exchanges may take different forms, including exchange offers or privately negotiated transactions. As a result of shares of our common stock or other securities being issued upon such conversion or pursuant to such exchanges, our stockholders may experience substantial dilution of their ownership interest.
If we seek to secure additional financing we may not be able to do so. If we are able to secure additional financing our stockholders may experience dilution of their ownership interest or we may be subject to limitations on our operations.
If we are unable to generate sufficient cash flows from operations to meet our anticipated needs for working capital and capital expenditures, we may need to raise additional funds. However, events in the future may require us to seek additional capital and, if so required, that capital may not be available on terms favorable or acceptable to us, if at all. If we raise additional funds through the issuance of equity securities, our stockholders may experience dilution of their ownership interest, and the newly issued securities may have rights superior to those of our common stock. If we raise additional funds by issuing debt, we may be limited in our success, as the terms of the 2010 Notes restrict our ability to issue debt that is senior to or pari passu with the 2010 Notes, without the consent of the holders of the 2010 Notes.
The terms of the 2010 Notes include voluntary conversion provisions upon which shares of our common stock would be issued. As a result of these shares of our common stock being issued, our stockholders may experience dilution of their ownership interest.
Our stock may be delisted on NASDAQ.
On January 28, 2008, we received notification from the NASDAQ Listing Qualification Department providing notification that, for the last 30 consecutive business days, the bid price of our common stock has closed below the minimum $1.00 per share required for continued inclusion under NASDAQ Marketplace Rule 4450(a)(5). We, in accordance with NASDAQ Marketplace Rule 4450(e)(2), have been provided 180 calendar days, or until July 23, 2008, to regain compliance. To regain compliance, the bid price of our common stock must close at $1.00 per share or more for a minimum of ten consecutive business days at any time before July 23, 2008.
If we do not regain compliance with NASDAQ Marketplace Rule 4450(a)(5) by July 23, 2008, we will be notified that our securities will be delisted. At that time, we may appeal NASDAQ’s determination to delist our securities to a Listing Qualification Panel. Alternatively, we could at that time apply to transfer our securities to The Nasdaq Capital Market if we satisfy the requirements for initial inclusion set forth in NASDAQ Marketplace Rule 4310(c). If that application were approved, we would be afforded the remainder of a second 180 calendar day grace period by the NASDAQ Global Market in order to regain compliance while on the Nasdaq Capital Market.
On February 29, 2008 the price of our shares was $0.65.
We cannot be sure that our price will comply with the requirements for continued listing of our common stock on The NASDAQ Global Market, or that any appeal of a decision to delist our common stock will be successful. If our common stock loses its status on The NASDAQ Global Market and we are not successful in obtaining a listing on The NASDAQ Capital Market, shares of our common stock would likely trade in the over-the-counter market bulletin board, commonly referred to as the “pink sheets.”
If our stock were to trade on the over-the-counter market, selling our common stock could be more difficult because smaller quantities of shares would likely be bought and sold, transactions could be delayed, and security analysts’ coverage of us may be reduced. In addition, in the event our common stock is delisted, broker-dealers have certain regulatory burdens imposed upon them, which may discourage broker-dealers from effecting transactions in our common stock, further limiting the liquidity thereof. These factors could result in lower prices and larger spreads in the bid and ask prices for shares of our common stock.
Such delisting from The NASDAQ Global Market or future declines in our stock price could also greatly impair our ability to raise additional necessary capital through equity or debt financing, and could significantly increase the ownership dilution to stockholders caused by our issuing equity in financing or other transactions.
Our Board of Directors may elect to exercise its discretion to affect a reverse stock split. There are risks and uncertainties inherent in a reverse stock split.
By resolution approved by our stockholders at the annual meeting of stockholders held on May 24, 2007, our Board of Directors has the authority, in its sole discretion, to effect a reverse stock split of our common stock at any time prior to the date of our annual meeting of stockholders to be held in 2008 at a ratio between one for two and one for twenty as selected by the Board of Directors. In addition, notwithstanding approval of the reverse stock split by the stockholders, the Board of Directors may choose, in its sole discretion, not to affect a reverse stock split without further approval or action by or prior notice to the stockholders.
There can be no assurance that any increase in the market price for our common stock resulting from a reverse stock split, if approved and implemented, would be sustainable since there are numerous factors and contingencies that would effect such price, including the market conditions for our common stock at the time, our reported results of operations in future periods and general economic, geopolitical, stock market and industry conditions. Accordingly, the total market capitalization of our common stock after a reverse stock split may be lower than the total market capitalization before such reverse stock split and, in the future, the market price of our common stock may not exceed or remain higher than the market price prior to such reverse stock split. Further, there can be no assurance that after a reverse stock split, we would continue to meet the minimum listing requirements of The NASDAQ Global Market.
While a higher share price may help generate investor interest in our common stock, there can be no assurance that a reverse stock split would result in a per share market price that attracts institutional investors or investment funds, or that such price would satisfy the investing guidelines of institutional investors or investment funds. As a result, the trading liquidity of our common stock may not improve as a result of a reverse stock split. Furthermore, the liquidity of our common stock could be adversely affected by the reduced number of shares of our common stock that would be outstanding after the reverse stock split.
Our stock price is volatile.
The market for securities for communication semiconductor companies, including our Company, has been highly volatile. The market sale price of our common stock has fluctuated between a low of $0.21 and a high of $74.69 during the period from June 19, 1995 to December 31, 2007. It is likely that the price of our common stock will continue to fluctuate widely in the future. Factors affecting the trading price of our common stock include:
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responses to quarter-to-quarter variations in operating results;
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announcements of technological innovations or new products by us or our competitors;
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current market conditions in the telecommunications and data communications equipment markets; and
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changes in earnings estimates by analysts.
We may have to further restructure our business.
We may have to make further restructuring changes if we do not achieve a substantial increase in revenues.
We anticipate that shipments of our products to relatively few customers will continue to account for a significant portion of our total net revenues.
Historically, a relatively small number of customers have accounted for a significant portion of our total net revenues in any particular period. For the years ended December 31, 2007 and 2006, shipments to our top five customers, including sales to distributors, accounted for approximately 44% and 45% of our total net revenues, respectively. We expect that a limited number of customers may account for a substantial portion of our total net revenues for the foreseeable future.
Some of the following may reduce our total net revenues or adversely affect our business:
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reduction, delay or cancellation of orders from one or more of our significant customers;
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development by one or more of our significant customers of other sources of supply for current or future products;
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loss of one or more of our current customers or a disruption in our sales and distribution channels; and
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failure of one or more of our significant customers to make timely payment of our invoices.
We cannot be certain that our current customers will continue to place orders with us, that orders by existing customers will return to the levels of previous periods or that we will be able to obtain orders from new customers. We have no long-term volume purchase commitments from any of our significant customers.
The cyclical nature of the communication semiconductor industry affects our business.
In 2006, the industry was marked by a number of high profile mergers and acquisitions both by service providers as well as by equipment manufacturers. Communication service providers, internet service providers, regional Bell operating companies and inter-exchange carriers continue to closely monitor their capital expenditures. Spending on voice-only equipment remains slow while spending on equipment providing the efficient transport of data services on existing infrastructure appears to be slowly recovering. Demand for new, high bandwidth applications such as video conferencing, broadband audio and telephone is placing an increased burden on existing public network infrastructure. We cannot be certain that the market for our products will not decline in the future.
Our international business operations expose us to a variety of business risks.
Foreign markets are a significant part of our net product revenues. For the years ended December 31, 2007 and December 31, 2006 foreign shipments accounted for approximately 79% and 75%, respectively of our total net product and services revenues. We expect foreign markets to continue to account for a significant percentage of our total net product revenues. A significant portion of our total net product revenues will, therefore, be subject to risks associated with foreign markets, including the following:
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unexpected changes in legal and regulatory requirements and policy changes affecting the telecommunications and data communications markets;
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changes in tariffs;
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exchange rates, currency controls and other barriers;
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political and economic instability;
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risk of terrorism;
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difficulties in accounts receivable collection;
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difficulties in managing distributors and representatives;
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difficulties in staffing and managing foreign operations;
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difficulties in protecting our intellectual property overseas;
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natural disasters;
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seasonality of customer buying patterns; and
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potentially adverse tax consequences.
Although substantially all of our total net product revenues to date have been denominated in U.S. dollars, the value of the U.S. dollar in relation to foreign currencies also may reduce our total net revenues from foreign customers. With the acquisition of our Israeli operations and the expansion of our India Design Center a substantial amount of our costs are denominated in Israeli shekels and the Indian rupee. To the extent that we further expand our international operations or change our pricing practices to denominate prices in foreign currencies, we will expose our margins to increased risks of currency fluctuations.
Our net product revenues depend on the success of our customers’ products, and our design wins do not necessarily generate revenues in a timely fashion.
Our customers generally incorporate our new products into their products or systems at the design stage. However, customer decisions to use our products (design wins), which can often require significant expenditures by us without any assurance of success, often precede the generation of production revenues, if any, by a year or more. Some customer projects are canceled, and thus will not generate revenues for our products. In addition, even after we achieve a design win, a customer may require further design changes. Implementing these design changes can require significant expenditures of time and expense by us in the development and pre-production process. Moreover, the value of any design win will largely depend upon the commercial success of the customer’s product and on the extent to which the design of the customer’s systems accommodates components manufactured by our competitors. We cannot ensure that we will continue to achieve design wins in customer products that achieve market acceptance. Further, most revenue-generating design wins take several years to translate into meaningful revenues.
We must successfully transition to new process technologies to remain competitive.
Our future success depends upon our ability to develop products that utilize new process technologies.
Semiconductor design and process methodologies are subject to rapid technological change and require large expenditures for research and development. We currently manufacture our products using 0.8, 0.5, 0.35, 0.25, 0.18 and 0.13 micron complementary metal oxide semiconductor (“CMOS”) processes and a 1.0 micron bipolar CMOS (“BiCMOS”) process. We continuously evaluate the benefits, on a product-by-product basis, of migrating to smaller geometry process technologies. Other companies in the industry have experienced difficulty in transitioning to new manufacturing processes and, consequently, have suffered increased costs, reduced yields or delays in product deliveries. We believe that transitioning our products to smaller geometry process technologies will be important for us to remain competitive. We cannot be certain that we can make such a transition successfully, if at all, without delay or inefficiencies.
Our success depends on the timely development of new products, and we face risks of product development delays.
Our success depends upon our ability to develop new VLSI devices and software for existing and new markets. The development of these new devices and software is highly complex, and from time to time we have experienced delays in completing the development of new products. Successful product development and introduction depends on a number of factors, including the following:
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accurate new product definition;
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timely completion and introduction of new product designs;
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availability of foundry capacity;
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achievement of manufacturing yields; and
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market acceptance of our products and our customers’ products.
Our success also depends upon our ability to do the following:
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build products to applicable standards;
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develop products that meet customer requirements;
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adjust to changing market conditions as quickly and cost-effectively as necessary to compete successfully;
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introduce new products that achieve market acceptance; and
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develop reliable software to meet our customers’ application needs in a timely fashion.
In addition, we cannot ensure that the systems manufactured by our customers will be introduced in a timely manner or that such systems will achieve market acceptance.
We sell a range of products that each has a different gross profit. Our total gross profits will be adversely affected if most of our shipments are of products with low gross profits.
We currently sell more than 50 products. Some of our products have a high gross profit while others do not. If our customers decide to buy more of our products with low gross profits and fewer of our products with high gross profits, our total gross profits could be adversely affected. We plan our mix of products based on our internal forecasts of customer demand, which are highly unpredictable and can fluctuate substantially.
The price of our products tends to decrease over the lives of our products.
Historically, average selling prices in the communication semiconductor industry have decreased over the life of a product, and, as a result, the average selling prices of our products may decrease in the future. Decreases in the price of our products would adversely affect our operating results. Our customers are increasingly more focused on price, as semiconductor products become more prevalent in their equipment. We may have to decrease our prices to remain competitive in some situations, which may negatively impact our gross margins.
Our success depends on the rate of growth of the global communications infrastructure.
We derive virtually all of our total net revenues from products for telecommunications and data communications applications. These markets are characterized by the following:
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susceptibility to seasonality of customer buying patterns;
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subject to general business cycles;
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intense competition;
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rapid technological change; and
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short product life cycles.
We anticipate that these markets will continue to experience significant volatility in the near future.
Our products must successfully include industry standards to remain competitive.
Products for telecommunications and data communications applications are based on industry standards, which are continually evolving. Our future success will depend, in part, upon our ability to successfully develop and introduce new products based on emerging industry standards, which could render our existing products unmarketable or obsolete. If the telecommunications or data communications markets evolve to new standards, we cannot be certain that we will be able to design and manufacture new products successfully that address the needs of our customers and include the new standards or that such new products will meet with substantial market acceptance.
Our intellectual property indemnification practices may adversely impact our business.
We have historically agreed to indemnify our customers for certain costs and damages of intellectual property rights in circumstances where one of our products is the factor creating the customer’s infringement exposure. This practice may subject us to significant indemnification claims by our customers. In some instances, our products are designed for use in devices manufactured by our customers that comply with international standards. These international standards are often covered by patent rights held by third parties, which may include our competitors. The costs of obtaining licenses from holders of patent rights essential to such international standards could be high. The cost of not obtaining such licenses could also be high if a holder of such patent rights brings a claim for patent infringement. We are not aware of any claimed violations on our part. However, we cannot assure you that claims for indemnification will not be made or that if made, such claims would not have a material adverse effect on our business, results of operations or financial condition.
We continue to expense our new product process development costs when incurred.
In the past, we have incurred significant new product and process development costs because our policy is to expense these costs, including tooling, fabrication and pre-production expenses, at the time that they are incurred. We may continue to incur these types of expenses in the future. These additional expenses will have a material and adverse effect on our operating results in future periods
We face intense competition in the communication semiconductor market.
The communication semiconductor industry is intensely competitive and is characterized by the following:
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rapid technological change;
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subject to general business cycles;
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price erosion;
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limited access to fabrication capacity;
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unforeseen manufacturing yield problems; and
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heightened international competition in many markets.
These factors are likely to result in pricing pressures on our products, thus potentially affecting our operating results.
Our ability to compete successfully in the rapidly evolving area of high-performance integrated circuit technology depends on factors both within and outside our control, including:
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success in designing and subcontracting the manufacture of new products that implement new technologies;
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protection of our products by effective use of intellectual property laws;
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product quality;
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reliability;
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price;
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efficiency of production;
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failure to find alternative manufacturing sources to produce VLSI devices with acceptable manufacturing yields;
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the pace at which customers incorporate our products into their products;
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success of competitors’ products; and
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general economic conditions.
The telecommunications and data communications industries, which are our primary target markets, have become intensely competitive because of deregulation, heightened international competition and significant decreases in demand since 2000. A number of our customers have internal semiconductor design or manufacturing capability with which we also compete in addition to our other competitors. Any failure by us to compete successfully in these target markets, particularly in the communications markets, would have a material adverse effect on our business, financial condition and results of operations.
We rely on outside fabrication facilities, and our business could be hurt if our relationships with our foundry suppliers are damaged.
We do not own or operate a VLSI circuit fabrication facility. Four foundries currently supply us with all of our semiconductor device requirements. While we have had good relations with these foundries, we cannot be certain that we will be able to renew or maintain contracts with them or negotiate new contracts to replace those that expire. In addition, we cannot be certain that renewed or new contracts will contain terms as favorable as our current terms. There are other significant risks associated with our reliance on outside foundries, including the following:
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the lack of assured semiconductor wafer supply and control over delivery schedules;
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the unavailability of, or delays in obtaining access to, key process technologies; and
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limited control over quality assurance, manufacturing yields and production costs.
Reliance on third-party fabrication facilities limits our ability to control the manufacturing process.
Manufacturing integrated circuits is a highly complex and technology-intensive process. Although we try to diversify our sources of semiconductor device supply and work closely with our foundries to minimize the likelihood of reduced manufacturing yields, our foundries occasionally experience lower than anticipated manufacturing yields, particularly in connection with the introduction of new products and the installation and start-up of new process technologies. Such reduced manufacturing yields have at times reduced our operating results. A manufacturing disruption at one or more of our outside foundries, including, without limitation, those that may result from natural disasters, accidents, acts of terrorism or political instability or other natural occurrences, could impact production for an extended period of time.
Our dependence on a small number of fabrication facilities exposes us to risks of interruptions in deliveries of semiconductor devices.
We purchase semiconductor devices from outside foundries pursuant to purchase orders, and we do not have a guaranteed level of production capacity at any of our foundries. We provide the foundries with forecasts of our production requirements. However, the ability of each foundry to provide wafers to us is limited by the foundry’s available capacity and the availability of raw materials. Therefore, our foundry suppliers could choose to prioritize capacity and raw materials for other customers or reduce or eliminate deliveries to us on short notice. Accordingly, we cannot be certain that our foundries will allocate sufficient capacity to satisfy our requirements.
We have been, and expect in the future to be, particularly dependent upon a limited number of foundries for our VLSI device requirements. In particular, as of the date of this Form 10-K, a single foundry manufactures all of our BiCMOS devices. As a result, we expect that we could experience substantial delays or interruptions in the shipment of our products due to any of the following:
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sudden demand for an increased amount of semiconductor devices or sudden reduction or elimination of any existing source or sources of semiconductor devices;
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time required to qualify alternative manufacturing sources for existing or new products could be substantial; and
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failure to find alternative manufacturing sources to produce VLSI devices with acceptable manufacturing yields.
We are subject to risks arising from our use of subcontractors to assemble our products.
Contract assembly houses in Asia assemble all of our semiconductor products. Raw material shortages, natural disasters, political and social instability, service disruptions, currency fluctuations, or other circumstances in the region could force us to seek additional or alternative sources of supply or assembly. This could lead to supply constraints or product delivery delays.
Our failure to protect our proprietary rights, or the costs of protecting these rights, may harm our ability to compete.
Our success depends in part on our ability to obtain patents and licenses and to preserve other intellectual property rights covering our products and development and testing tools. To that end, we have obtained certain domestic and foreign patents and intend to continue to seek patents on our inventions when appropriate. The process of seeking patent protection can be time consuming and expensive. We cannot ensure the following:
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that patents will be issued from currently pending or future applications;
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that our existing patents or any new patents will be sufficient in scope or strength to provide meaningful protection or any commercial advantage to us;
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that foreign intellectual property laws will protect our foreign intellectual property rights; and
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that others will not independently develop similar products, duplicate our products or design around any patents issued to us.
Intellectual property rights are uncertain and adjudication of such rights involves complex legal and factual questions. We may be unknowingly infringing on the proprietary rights of others and may be liable for that infringement, which could result in significant liability for us. We occasionally receive correspondence from third parties alleging infringement of their intellectual property rights. If we are found to infringe the proprietary rights of others, we could be forced to either seek a license to the intellectual property rights of others or alter our products so that they no longer infringe the proprietary rights of others. A license could be very expensive to obtain or may not be available at all. Similarly, changing our products or processes to avoid infringing the rights of others may be costly or impractical.
We are responsible for any patent litigation costs. If we were to become involved in a dispute regarding intellectual property, whether ours or that of another company, we may have to participate in legal proceedings in the United States Patent and Trademark Office or in the United States or foreign courts to determine any or all of the following issues: patent validity, patent infringement, patent ownership or inventorship. These types of proceedings may be costly and time consuming for us, even if we eventually prevail. If we do not prevail, we might be forced to pay significant damages, obtain a license, if available, or stop making a certain product. From time to time we may prosecute patent litigation against others and as part of such litigation, other parties may allege that our patents are not infringed, are invalid and are unenforceable.
We also rely on trade secrets, proprietary know-how and confidentiality provisions in agreements with employees and consultants to protect our intellectual property. Such parties may not comply with the terms of their agreements with us, and we may not be able to adequately enforce our rights against these parties.
The loss of key management could affect our ability to run our business.
Our success depends largely upon the continued service of our executive officers, including Dr. Santanu Das, Chief Executive Officer and President, and other key management and technical personnel and on our ability to continue to attract, retain and motivate other qualified personnel.
We may engage in acquisitions that may harm our operating results, dilute our stockholders and cause us to incur debt or assume contingent liabilities.
We may pursue acquisitions from time to time that could provide new technologies, skills, products or service offerings. Future acquisitions by us may involve the following:
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use of significant amounts of cash and cash equivalents;
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potentially dilutive issuances of equity securities; and
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incurrence of debt or amortization expenses related to intangible assets with definitive lives.
In addition, acquisitions involve numerous other risks, including:
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diversion of management’s attention from other business concerns;
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risks of entering markets in which we have no or limited prior experience; and
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unanticipated expenses and operational disruptions while acquiring and integrating new acquisitions.
From time to time, we have engaged in discussions with third parties concerning potential acquisitions of product lines, technologies and businesses. We currently have no commitments or agreements with respect to any such acquisition. If such an acquisition does occur, we cannot be certain that our business, operating results and financial condition will not be materially adversely affected or that we will realize the anticipated benefits of the acquisition.
Our business could be harmed if we fail to integrate future acquisitions adequately.
During the past five years, we have acquired three privately-held companies, one based in the United States and two in Israel. The integration of the operations of the ASIC Design Services, Inc. (ASIC), acquired in August 2003, Mysticom, acquired in January 2006 and Data JCE, acquired in January 2007, have been completed.
Our management must devote time and resources to the integration of the operations of any future acquisitions. The process of integrating research and development initiatives, computer and accounting systems and other aspects of the operations of any future acquisitions presents a significant challenge to our management. This is compounded by the challenge of simultaneously managing a larger and more geographically dispersed entity.
Future acquisitions could present a number of additional difficulties of integration, including:
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difficulties in integrating personnel with disparate business backgrounds and cultures;
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difficulties in defining and executing a comprehensive product strategy; and
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difficulties in minimizing the loss of key employees of the acquired company.
If we delay integrating or fail to integrate operations or experience other unforeseen difficulties, the integration process may require a disproportionate amount of our management’s attention and financial and other resources. Our failure to address these difficulties adequately could harm our business or financial results, and we could fail to realize the anticipated benefits of the transaction.
We have in the past, as a result of industry conditions, later discontinued or abandoned certain product lines acquired through prior acquisitions.
We have made, and may continue to make, investments in development stage companies, which may not produce any returns for us in the future.
From time to time we have made investments in early stage venture-backed, start-up companies that develop technologies that are complementary to our product roadmap. In April 2003, we made an initial investment in Opulan Technologies Corp. (Opulan). Opulan develops high performance and cost-effective IP convergence ASSPs from its development facility in Shanghai, China. We plan to continue to use our cash to make selected investments in these types of companies. Certain companies in which we invested in the past have failed, and we have lost our entire investment in them. These investments involve all the risks normally associated with investments in development stage companies. As such, there can be no assurance that we will receive a favorable return on these or any future venture-backed investments that we may make. Additionally, our original and any future investments may continue to become impaired if these companies do not succeed in the execution of their business plans. Any further impairment or equity losses in these investments could negatively impact our future operating results.
We could be subject to class action litigation due to stock price volatility, which if it occurs, will distract our management and could result in substantial costs or large judgments against us.
In the past, securities and class action litigation has often been brought against companies following periods of volatility in the market prices of their securities. We may be the target of similar litigation in the future. Securities litigation could result in substantial costs and divert our management’s attention and resources, which could cause serious harm to our business, operating results and financial condition or dilution to our stockholders.
Provisions of our certificate of incorporation, by-laws, stockholder rights plan and Delaware law may discourage take over offers and may limit the price investors would be willing to pay for our common stock.
Delaware corporate law contains, and our certificate of incorporation and by-laws and shareholder rights plan contain, certain provisions that could have the effect of delaying, deferring or preventing a change in control of our Company even if a change of control would be beneficial to our stockholders. These provisions could limit the price that certain investors might be willing to pay in the future for shares of our common stock. Certain of these provisions:
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authorize the issuance of “blank check” preferred stock (preferred stock which our Board of Directors can create and issue without prior stockholder approval) with rights senior to those of common stock;
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prohibit stockholder action by written consent;
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establish advance notice requirements for submitting nominations for election to the Board of Directors and for proposing matters that can be acted upon by stockholders at a meeting; and
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dilute stockholders who acquire more than 15% of our common stock.
Natural disasters or acts of terrorism affecting our locations, or those of our suppliers, in the United States or internationally may negatively impact our business.
We operate our businesses in the United States and internationally, including the operation of a design center in India, and sales, design and engineering operations in Israel. Some of the countries in which we operate or in which our customers are located have in the past been subject to terrorist acts and could continue to be subject to acts of terrorism. In addition, some of these areas may be subject to natural disasters, such as earthquakes or floods. If our facilities, or those of our suppliers or customers, are affected by a natural disaster or terrorist act, our employees could be injured and those facilities damaged, which could lead to loss of skill sets and affect the development or fabrication of our products, which could lead to lower short and long-term revenues. In addition, natural disasters or terrorist acts in the areas in which we operate or in which our customers or suppliers operate could lead to delays or loss of business opportunities, as well as changes in security and operations at those locations, which could increase our operating costs.
Item 1B.
Item 1B. Unresolved Staff Comments
Not applicable.
Item 2.
Item 2. Properties
Our headquarters are located in a suburban office park in Shelton, Connecticut. We have additional sales offices and design centers located throughout the world. The following is a summary of our material offices and locations for which we have lease commitments:
Refer to Note 12-Commitments and Contingencies of our Consolidated Financial Statements for additional disclosures regarding our commitments under lease obligations. Also, refer to Note 11-Restructuring and Asset Impairment Charges in our Consolidated Financial Statements regarding our restructuring charges during fiscal years 2005 through 2007 as we have recorded charges for future rent payments relating to excess office space.
(1) Of the space being leased in Shelton, Connecticut, approximately 116,373 square feet is considered excess for which we have taken restructuring charges in 2006, 2005, 2004, 2003, 2002 and 2001. Approximately 115,559 square feet of this space is currently being sublet.
Item 3.
Item 3. Legal Proceedings
We are not party to any material litigation proceedings.
From time to time, we may be subject to other legal proceedings and claims in the ordinary course of business. We are not currently aware of any such proceedings or claims that we believe will have, individually or in the aggregate, a material adverse effect on the business, financial condition or results of our operations.
Item 4.
Item 4. Submission of Matters to a Vote of Security-Holders
We did not submit any matters to a vote of our security-holders during the three months ended December 31, 2007.
PART II
Item 5.
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Delisting Notice
On January 28, 2008, the Company received notification from the NASDAQ Listing Qualification Department providing notification that, for the last 30 consecutive business days, the bid price of the Company’s common stock has closed below the minimum $1.00 per share required for continued inclusion under NASDAQ Marketplace Rule 4450(a)(5). The Company, in accordance with NASDAQ Marketplace Rule 4450(e)(2), has been provided 180 calendar days, or until July 23, 2008, to regain compliance. To regain compliance, the bid price of the Company’s common stock must close at $1.00 per share or more for a minimum of ten consecutive business days at any time before July 23, 2008.
If the Company does not regain compliance with NASDAQ Marketplace Rule 4450(a)(5) by July 23, 2008, the Company will be notified that its securities will be delisted. At that time, the Company may appeal NASDAQ’s determination to delist its securities to a Listing Qualification Panel. Alternatively, the Company could at that time apply to transfer its securities to The Nasdaq Capital Market if it satisfies the requirements for initial inclusion set forth in NASDAQ Marketplace Rule 4310(c). If that application were approved, the Company would be afforded the remainder of a second 180 calendar day grace period by the NASDAQ Global Market in order to regain compliance while on the Nasdaq Capital Market.
Our common stock is traded under the symbol “TXCC” on the Nasdaq Global Market. The following table sets forth, for the periods indicated, the range of high and low closing prices for our common stock.
As of February 29, 2008, there were approximately 475 holders of record and approximately 17,233 beneficial shareholders of our common stock.
We have never paid cash dividends on our common stock. We currently do not anticipate paying any cash dividend in the foreseeable future. Any future declaration and payment of dividends will be subject to the discretion of our Board of Directors, will be subject to applicable law and will depend upon our results of operations, earnings, financial condition, contractual limitations, cash requirements, future prospects and any other factors deemed relevant by our Board of Directors.
We also have securities authorized for issuance under equity compensation plans. The following table provides information as of December 31, 2007 with respect to shares of our common stock that may be issued under our existing equity compensation plans, including our 1995 Fourth Amended and Restated Stock Plan (the “1995 Plan”), our 2000 Stock Option Plan (the “2000 Plan”), the 1995 Non-Employee Director Stock Option Plan (the “Non-Employee Director Plan”), and the 2005 Employee Stock Purchase Plan (the “Purchase Plan”) as well as the 1995 Stock Plan of Alacrity Communications, Inc. and the 1999 Stock Incentive Plan of Onex Communications Corporation.
(1) Consists of the 1995 Plan, the Non-Employee Director Plan and the Purchase Plan.
(2) Consists of the 2000 Plan and shares subject to outstanding options granted under equity compensation plans assumed by us in connection with mergers and acquisitions of the companies which originally granted those options. No additional options may be granted under the assumed plans.
(3) Excludes purchase rights accruing under the Purchase Plan which has a stockholder-approved reserve of 1,000,000 shares. Under the Purchase Plan, each eligible employee is able to purchase up to 1,000 shares of our common stock at semi-annual intervals each year at a purchase price per share equal to 85% of the lower of the fair market value of our common stock on the first or last trading day of a purchase period.
Recent Sales of Unregistered Securities
On January 11, 2007, the Company completed the acquisition of the ASIC Design Center of Data - JCE, an Israel-based publicly held electronics components distribution company. In consideration of this acquisition, the Company issued to Data - JCE 3,746,713 shares of the Company’s common stock, par value $.001. The issuance of this common stock was for the specific purpose of this acquisition and did not involve any public sale of securities. The shares were exempt from registration pursuant to Section 4(2) of the Securities Act of 1933, as amended. No commission or other remuneration was paid or given directly or indirectly for these transactions.
Item 6.
Item 6. Selected Financial Data
The following selected consolidated financial data should be read in conjunction with the consolidated financial statements and related notes thereto and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” appearing in Item 7
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Management’s Discussion and Analysis of Financial Conditions and Results of Operations (MD&A) is provided to supplement the accompanying consolidated financial statements and notes in Item 8 to help provide an understanding of our financial condition, changes in our financial condition and results of operations. MD&A is organized as follows:
Caution concerning forward-looking statements. This section discusses how certain forward-looking statements made by us throughout the MD&A are based on management’s present expectations about future events and are inherently susceptible to uncertainty and changes in circumstances.
Overview. This section provides a general description of our business.
Critical accounting policies and use of estimates. This section discusses those accounting policies that are both considered important to our financial condition and operating results and require significant judgment and estimates on the part of management in their application.
Results of operations. This section provides an analysis of our results of operations for the years ended December 31, 2007, 2006 and 2005. In addition, a brief description is provided of transactions and events that impact the comparability of the results.
Liquidity and capital resources. This section provides an analysis of our cash position and cash flows, as well as a discussion of our financing arrangements. In this section, we also summarize related party transactions and recent accounting pronouncements not yet adopted by us.
CAUTION CONCERNING FORWARD-LOOKING STATEMENTS
Management’s Discussion and Analysis of Financial Condition and Results of Operations contain forward-looking statements that involve risks and uncertainties. When used in this report, the words, “intend,” “anticipate,” “believe,” “estimate,” “plan,” “expect” and similar expressions as they relate to us are included to identify forward-looking statements. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of factors, including those set forth under “Item 1A Risk Factors” and elsewhere in this report. You should read this discussion in conjunction with the consolidated financial statements and the notes thereto included in this report.
OVERVIEW
TranSwitch is a Delaware corporation incorporated on April 26, 1988. TranSwitch designs, develops and markets innovative semiconductor solutions that provide core functionality and complete solutions for voice, data and video communications network equipment. As a leading supplier to telecom, datacom, cable television and wireless markets, TranSwitch customers include the major original equipment manufacturers that serve the worldwide public network, the internet, and corporate wide area networks. TranSwitch devices are inherently flexible, many incorporating embedded programmable microcontrollers to rapidly meet customers’ new requirements or evolving network standards by modifying a function via software instruction
In addition to an extensive portfolio of standard integrated circuit products addressing voice, data, wireless and video markets, TranSwitch supplies a number of intellectual property core products for Ethernet and high definition video (HDMI protocol) applications. In 2007, we expanded our offerings to include design services. Our combination of standard products, intellectual property cores and custom design services enables us to serve our customers needs more fully.
Our products and services are compliant with relevant communications network standards. We offer several products that combine multi-protocol capabilities on a single chip, enabling our customers to develop network equipment for triple play (voice, data and video) applications. A key attribute of our products is their inherent flexibility. Many of our products incorporate embedded programmable micro-processors, enabling us to rapidly accommodate new customer requirements or evolving network standards by modifying a function of the device via software instructions.
Our revenues were $32.6 million in 2007 and $38.9 million in 2006 and $32.9 million in 2005.
CRITICAL ACCOUNTING POLICIES AND USE OF ESTIMATES
Our consolidated financial statements and related disclosures, which are prepared to conform with accounting principles generally accepted in the United States of America (U.S. GAAP), require us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses during the period reported. We are also required to disclose amounts of contingent assets and liabilities at the date of the consolidated financial statements. Our actual results in future periods could differ from those estimates and assumptions. Estimates and assumptions are reviewed periodically, and the effects of revisions are reflected in the consolidated financial statements in the period they are determined to be necessary.
We consider the most critical accounting policies and uses of estimates in our consolidated financial statements to be those relating to:
(1) recognizing net revenues, cost of revenues and gross profit;
(2) estimating the derivative liability associated with our 5.45% Convertible Plus Cash Notes due 2007;
(3) estimating stock-based compensation;
(4) estimating values for goodwill and long-lived assets;
(5) estimating excess inventories;
(6) estimating restructuring liabilities; and
(7) estimating values of investments in non-publicly traded companies.
These accounting policies, the bases for these estimates and their potential impact to our consolidated financial statements, should any of these estimates change, are further described as follows:
Net Revenues, Cost of Revenues and Gross Profit. Net revenues are primarily comprised of product shipments, principally to domestic and international telecommunications and data communications OEMs and to distributors. Net revenues from product sales are recognized at the time of product shipment when the following criteria are met: (1) persuasive evidence of an arrangement exists; (2) title and risk of loss transfers to the customer; (3) the selling price is fixed or determinable; and (4) collectability is reasonably assured. Agreements with certain distributors provide price protection and return and allowance rights. With respect to recognizing revenues from our distributors: (1) the prices are fixed at the date of shipment from our facilities; (2) payment is not contractually or otherwise excused until the product is resold; (3) we do not have any obligations for future performance relating to the resale of the product; and (4) the amount of future returns, allowances, refunds and costs to be incurred can be reasonably estimated and are accrued at the time of shipment. Service revenues are recognized when the following criteria are met: (1) persuasive evidence of an arrangement exists; (2) we have performed a service in accordance with our contractual obligations; (3) the fee is fixed or determinable; and (4) collectability is reasonably assured.
At the time of shipment, we record a reduction to revenue (with a related liability) to accrue for future price protection. This liability is established based on historical experience, contractually agreed-to provisions and future shipment forecasts. Such accruals have been insignificant for the last three years.
We also accrue, at the time of shipment, a reduction to revenue (with a related liability) and an inventory asset against product cost of revenues in order to establish a provision for the gross margin related to future returns under our distributor stock rotation program. Such accruals are insignificant to our financial position and results of operations for all periods presented. Should our actual experience differ from our estimated liabilities, there could be adjustments (either favorable or unfavorable) to our net revenues, cost of revenues and gross profits.
We warranty our products for up to one year from the date of shipment. A liability is recorded for estimated claims to be incurred under product warranties and is based primarily on historical experience. Estimated warranty expense is recorded as cost of product revenues when products are shipped. Warranty expense is insignificant to all periods presented. Should future warranty claims differ from our estimated current liability, there could be adjustments (either favorable or unfavorable) to our cost of revenues. Any adjustments to cost of revenues could also impact future gross profits.
Derivative Liability Associated with our 5.45% Convertible Plus Cash Notes due 2007. In accordance with Statement of Financial Accounting Standards No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended (SFAS 133), the auto-conversion make-whole provision and the holder’s conversion right (collectively, the features) contained in the terms governing our 5.45% Convertible Plus Cash Notes due 2007 (the “Plus Cash Notes”) were not clearly and closely related to the characteristics of the Plus Cash Notes upon issuance. Accordingly, these features qualified as embedded derivative instruments and, because they do not qualify for any scope exception within SFAS 133, they are required by SFAS 133 to be accounted for separately from the debt instrument and recorded as derivative financial instruments.
During the year ended December 31, 2007, we recorded other income of $1.0 million, all of which related to the holder’s conversion right, to reflect the change in fair value of our derivative liability. During the year ended December 31, 2006, we recorded other income of $5.1 million, all of which related to the holder’s conversion right, to reflect the change in fair value of our derivative liability. During the year ended December 31, 2005, we recorded other income of $2.5 million, of which, $0.1 million and $2.4 million related to the auto-conversion make-whole provision and holder’s conversion right, respectively, to reflect the change in fair value of our derivative liability, which is shown below:
We adjust the derivative financial instruments to their estimated fair value and analyze the instruments to determine their classification as a liability or equity. As of December 31, 2007, the estimated fair value of our derivative liability was zero as these Plus Cash Notes due 2007 were no longer outstanding. On July 6, 2007 the Company exchanged approximately $21.2 million aggregate principal amount of its outstanding Plus Cash Notes for an equivalent principal amount of a new series of 5.45% Convertible Notes due September 30, 2010 (the “2010 Notes”). The remaining $8.9 million balance of the Plus Cash Notes was redeemed at par value at the end of September, 2007. The auto-conversion make-whole provision of the Plus Cash Notes expired on September 30, 2005, thus there was no value to this provision as of December 31, 2007 and 2006. As of December 31, 2006 and December 31, 2005, the estimated fair value of our derivative liability was $1.0 and $6.0 million, respectively all of which relates to the holder’s conversion right. The estimated fair value of the auto-conversion make-whole provision and holder’s conversion right were determined using the Monte Carlo simulation model and a lattice (trinomial) option-pricing model, respectively, while they were estimates, they are no longer subject to change.
Stock-based Compensation. Determining the amount of stock-based compensation for awards granted includes selecting an appropriate model to calculate fair value. We have used the Black-Scholes option valuation model to value employee stock option awards. Certain inputs to this valuation model require considerable judgment. These inputs include estimating the volatility of our stock, the expected life of the option awarded and the forfeiture rate. We have estimated volatility, the expected life and the forfeiture rate based on historical data. Volatility is estimated over a term that approximates the expected life of the option awarded.
Goodwill and Long-Lived Assets. Our goodwill is tested for impairment annually or more frequently if events or changes in circumstances indicate that the asset might be impaired. We perform impairment reviews using a fair-value method based on management’s judgments and assumptions. The fair value represents the amount at which an entity could be bought or sold in a current transaction between willing parties on an arms-length basis. In estimating fair value, the Company uses our common’s stock market price to determine fair value. Quoted market prices are the best evidence of fair value, and the market capitalization based on the Company’s common stock price is apportioned based on revenue to the entity being tested for impairment. The estimated fair value is then compared with the carrying amount of the entity, including goodwill. In the case where an entities’ estimated fair value would be lower than its carrying value, we would perform discounted cash flow analysis on the entity to determine fair value. If after a discounted cash flow analysis the entities estimated fair value is lower than its carrying value, we would retain independent appraisers to perform additional fair value calculations. We are subject to financial statement risk to the extent that the carrying amount exceeds the estimated fair value. The impairment testing performed by us at October 1, 2007
indicated that the estimated fair value of entities tested exceeded their corresponding carrying amount. As such, there was no impairment. Indefinite lived intangible assets are subject to annual impairment testing, as well. On an annual basis, the fair value of the indefinite lived assets are evaluated by us to determine if an impairment charge is required. We have only nominal amounts of indefinite lived assets.
We review long-lived assets for impairment when events or changes in business circumstances indicate the carrying amount of the assets may not be fully recoverable. If such indicators are present, we perform undiscounted operating cash flow analyses to determine if impairment exists. If impairment is determined to exist, any related impairment loss is calculated based on fair value.
A considerable amount of management judgment and assumptions are required in performing the impairment test. While we believe that our judgments and assumptions were reasonable, different assumptions could change the estimated fair values and, therefore, impairment charges could be required.
Estimated Excess Inventories. We periodically review our inventory levels to determine if inventory is stated at the lower of cost or net realizable value. The telecommunications and data communications industries have experienced a significant downturn during the past few years and, as a result, we have had to evaluate our inventory position based on known backlog of orders, projected sales and marketing forecasts, shipment activity and inventory held at our significant distributors. We recorded charges for excess and obsolete inventories totaling approximately $0.4 million in 2007, zero in 2006 and $0.6 million in 2005. Most of these products have not been disposed of and remain in our inventory.
During 2007, 2006 and 2005, we recorded net product revenues of approximately $3.5 million, $9.1 million and $12.2 million, respectively, on shipments of excess and obsolete inventory that had previously been written down to their estimated net realizable value of zero. This resulted in almost 100% gross margin on these product revenues. Had these products been sold at our historical average cost basis, gross margin would have been 64%, 68% and 69% in 2007, 2006 and 2005 respectively. We currently do not anticipate that a significant amount of the excess and obsolete inventories subject to the write-downs described above will be used in the future based upon our current demand forecast. Should our actual future demand exceed the estimates that we used in writing down our excess and obsolete inventories, we will recognize a favorable impact to cost of revenues and gross profits. Should demand fall below our current expectations, we may record additional inventory write-downs which will result in a negative impact to cost of revenues and gross profits.
Estimated Restructuring Liabilities. During 2007, 2006 and 2005, we recorded restructuring charges and asset impairments totaling $1.5 million, $0.4 million and $2.7 million, respectively, related to employee termination benefits and costs to exit certain facilities, net of sub-lease benefits. At December 31, 2007 and 2006, the restructuring liabilities were $21.1 million and $21.5 million, respectively, on our consolidated balance sheets. Certain assumptions are used by us to derive this estimate, including future maintenance costs, price escalation and sublease income derived from these facilities. Should we negotiate additional sublease rental income agreements or reach a settlement with our lessors to be released from our existing obligations, we could realize a favorable benefit to our results of future operations. Should future lease, maintenance or other costs related to these facilities exceed our estimates, we could incur additional expenses in future periods.
Valuation of Investments in Non-Publicly Traded Companies. Since 1999, we have been making strategic equity investments in non-publicly traded companies that develop technologies that are complementary to our product road map. Depending on our level of ownership and whether or not we have the ability to exercise significant influence, we account for these investments on either the cost or equity method, and review such investments periodically for impairment. The appropriate reductions in carrying values are recorded when, and if, necessary. The process of assessing whether a particular investment’s net realizable value is less than its carrying cost requires a significant amount of judgment. In making this judgment, we carefully consider the investee’s cash position, projected cash flows (both short and long-term), financing needs, most recent valuation data, the current investing environment, management / ownership changes, and competition. This evaluation process is based on information that we request from these privately held companies. This information is not subject to the same disclosure and audit requirements as the reports required of U.S. public companies, and as such, the reliability and accuracy of the data may vary. Based on our evaluations, we recorded impairment charges related to our investments in non-publicly traded companies of $0.1 million, zero and $1.5 million during 2007, 2006 and 2005, respectively. The total investment in non-public companies was $2.9 million, $3.0 million and $1.0 million as of December 31, 2007, 2006 and 2005, respectively. (For further discussion, please refer to Note 3. Investments in Non-Publicly Traded Companies and Venture Capital Funds in our Consolidated Financial Statements). We used the modified equity method of accounting to determine the impairment loss for certain investments, as it was determined
that no better current evidence of the value of our cost method investments existed and we believe that this gives us the best basis for our estimate given the historic negative cash flows of these companies. The modified equity method of accounting results in recording an impairment loss on a cost method investment equal to the investor’s proportionate share of the investee’s losses as its contributed capital is consumed to fund operating losses of the investee from the inception of the investor’s investment.
RESULTS OF OPERATIONS
The results of operations that follow should be read in conjunction with our critical accounting policies and estimates summarized above as well as our consolidated financial statements and notes thereto contained in Item 8 of this report. The following table sets forth certain consolidated statements of operations data as a percentage of net revenues for the periods indicated.
Comparison of Fiscal Years 2007 and 2006
Net Revenues. During 2007, we changed our presentation of net revenues by product line. We have four product line categories: 1) Broadband Access; 2) Optical Transport; 3) Carrier Ethernet and 4) Non-Telecommunications. The Broadband Access product line is incorporated into OEM systems that allow telecommunications service providers to transition their legacy voice networks to support next generation services such as voice, data and video. The Optical Transport product line is incorporated into OEM systems that improve the efficiency of fiber optic networks and in the process increase the overall network capacity. The Carrier Ethernet product line allows carriers to provide robust and differentiated services using Ethernet technology in their wide-area networks. The Non-Telecommunications product line consists of non-telecommunications ASIC products. The following tables summarize our net product revenue mix by product line:
Total product sales in 2007 were $29.3 million as compared to $36.1 million in 2006, a decrease of $6.8 million or 19%. The decrease in net product revenue for 2007 compared to 2006 reflects decreased volume of our Optical Transport products of $10.1 million, including decreasing sales of $9.0 million in legacy products (led by DART, L3M and SOT-3) and $1.1 million decreased sales in new products (mainly EtherPHAST 48 Plus). Broadband Access, Carrier Ethernet and Non-Telecommunications product sales increased by $3.2 million in total primarily due to ASIC product sales in our Mysticom and ASIC Design Center businesses.
Service revenues (approximately $3.3 million in 2007 and $2.8 million in 2006) consist of design services performed for third parties on a short-term contract basis and technology licenses.
For 2007 and 2006 international net revenues were approximately 79% and 75%, respectively, of net revenues.
As of December 31, 2007 our backlog was $4.6 million, as compared to $7.0 million as of December 31, 2006. Backlog represents firm orders anticipated to be shipped, and service revenue expected to be billed under existing contracts, during the next 12 months. Our business and, to a large extent, that of the entire communication semiconductor industry, is characterized by short-term order and shipment schedules. Since orders constituting our current backlog are subject to changes in delivery schedules or to cancellation at the option of the purchaser without significant penalty, backlog is not necessarily indicative of future revenues.
Gross Profit. The following table presents the impact to gross profit of the excess and obsolete inventory charges and benefits:
(1) Excess and obsolete inventory benefit results from the sale of products that had previously been written down to a cost basis of zero. For the purposes of comparing the change in gross profit on net revenues, we are excluding this benefit and calculating gross profit on these product revenues as if they had been sold at their historical average costs.
The decrease in gross profit for 2007 as compared to 2006 reflects lower overall revenues, a decrease in sales of our newer non-ASIC products, which generally yield a higher margin than our legacy products, and an increase in sales of our lower margin ASIC products.
We anticipate that gross profit will continue to be impacted by fluctuations in the volume and mix of our product shipments as well as material costs, yield and the fixed cost absorption of our production operations.
Research and Development. Research and development expenses consist primarily of salaries and related costs of employees engaged in research, design and development activities, costs related to electronic design automation tools, subcontracting and fabrication costs, depreciation and amortization and facilities expenses. Research and development expenses for 2007 were $21.7 million which increased $0.5 million, or 2% as compared to the prior year. This increase is primarily due to increased fabrication costs associated with new product development.
We believe that continued investment in the design and development of future products is vital to maintain a competitive edge. We have closely monitored our known and forecasted revenue demand and operating expense run rates. We continue to seek opportunities to focus our research and development activities and will continue to closely monitor both our costs and our revenue expectations in future periods. We will continue to concentrate our spending in this area to meet our customer requirements and respond to market conditions.
Marketing and Sales. Marketing and sales expenses consist primarily of personnel-related, trade show, travel and facilities expenses. Marketing and sales expenses for 2007 were $10.2 million which decreased $1.3 million, or 11% as compared to the prior year. The decrease is primarily due to lower salary and commission expenses associated with a lower headcount and lower levels of revenue.
General and Administrative. General and administrative (G&A) expenses consist primarily of personnel-related expenses, professional and legal fees, and facilities expenses. G&A expenses were $5.6 million in 2007 a decrease of approximately $0.5 million, or 9% compared to the prior year. The decrease was primarily due to a lower headcount associated with cost cutting measures.
Restructuring Charges. We recorded restructuring charges of $1.4 million and $0.4 million for 2007 and 2006, respectively. Information on restructuring charges and asset impairments for each of the last two years is located in Note 11 of the Notes to Consolidated Financial Statements.
Change in Fair Value of the Derivative Liability. For 2007 and 2006, we recorded other income of approximately $1.0 million and $5.1 million, respectively, to reflect the change in the fair value of the derivative liability associated with the 5.45% Convertible Plus Cash Notes due September 30, 2007 (the “Plus Cash Notes”). (Refer to Note 10 - Convertible Notes of the Notes to Consolidated Financial Statements.)
Loss on Extinguishment of Debt. On July 6, 2007 the Company exchanged approximately $21.2 million aggregate principal amount of its outstanding Plus Cash Notes for an equivalent principal amount of a new series of 5.45% Convertible Notes due September 30, 2010 (the “2010 Notes”). As a result we recognized a $0.4 million extinguishment loss.
Interest Expense net. Interest expense, net decreased approximately $0.5 million to $1.1 million in 2007.
Interest expense decreased from $4.4 million in 2006 to $3.6 million in 2007 due to lower debt balances resulting from the exchanges of the Plus Cash Notes described above.
Interest income decreased slightly from $2.7 million in 2006 to $2.5 million in 2007, due to lower interest earning cash equivalent balances. At December 31, 2007 and 2006, the effective interest rates on our interest-bearing securities were approximately 4.70% and 5.20%, respectively.
Income Tax Expense. Our income tax expense of $0.3 million in 2007 and $0.1 million in 2006 is applicable to the operating results of certain of our foreign subsidiaries. We have incurred significant taxable losses for U.S. federal and state purposes. We have not recognized any income tax benefits on those losses because their realization is uncertain.
Comparison of Fiscal Years 2006 and 2005
Net Revenues. The following tables summarize our net product revenue mix by product line (dollar amounts in thousands):
The 10% increase in revenue for 2006 compared to 2005 reflects increased volume of our SONET/SDH products, including increasing sales of our EtherMap family of products. In addition, sales of our Aspen products in ATM/IP were down considerably due to lower demand from our largest customer.
Included in total net revenues is service revenues (of approximately $2.8 million in 2006 and zero in 2005) consisting of design services performed for third parties on a short-term contract basis. Service revenues are not our primary strategic focus and, as such, will fluctuate from period to period, depending on business priorities.
For the year ended December 31, 2006 international net revenues represent approximately 75% of net revenues compared with approximately 85% of net revenues for the year ended December 31, 2005, reflecting higher U.S. revenues.
Gross Profit. The following table presents the impact to gross profit of the excess and obsolete inventory charges and benefits for the years ended December 31, 2006 and 2005, respectively:
(1) Excess and obsolete inventory benefit results from the sale of products that had previously been written down to a cost basis of zero. For the purposes of comparing the change in gross profit on net revenues, we are excluding this benefit and calculating gross profit on these product revenues as if they had been sold at their historical average costs.
The increase in gross profit for the year ended December 31, 2006 as compared to the year ended December 31, 2005 reflects an increase in sales of our newer products, which generally yield a higher margin than our legacy products. These newer products include our EtherMap, Aspen Express and Envoy devices.
We anticipate that gross profit will continue to be impacted by fluctuations in the volume and mix of our product shipments as well as material costs, yield and the fixed cost absorption of our production operations.
Research and Development. Research and development expenses consist primarily of salaries and related costs of employees engaged in research, design and development activities, costs related to electronic design automation tools, subcontracting and fabrication costs, depreciation and amortization and facilities expenses. Research and development expenses for 2006 of $21.2 million were essentially flat with the year ended December 31, 2005 expenses of $21.3 million.
We believe that continued investment in the design and development of future products is vital to maintain a competitive edge. We have closely monitored our known and forecasted revenue demand and operating expense run rates. We continue to seek opportunities to focus our research and development activities and will continue to closely monitor both our costs and our revenue expectations in future periods. We will continue to concentrate our spending in this area to meet our customer requirements and respond to market conditions.
Marketing and Sales. Marketing and sales expenses consist primarily of personnel-related, trade show, travel and facilities expenses. Marketing and sales expenses for 2006 were $11.5 million which increased $1.9 million, or 20% as compared to the prior year. The increase is primarily due to Mysticom marketing and sales expense of $0.6 million and stock compensation expense of $0.7 million.
We have monitored our known and forecasted sales demand and operating expense run rates closely and, as a result, have taken five restructuring actions since June 2001. We have added resources in those markets, primarily Asia, where we believe customer requirements warrant the additional operating expense. We will continue to closely monitor both our costs and our revenue expectations in future periods and will take actions as market conditions dictate. There can be no assurances that future acquisitions, market conditions or unforeseen events will not cause our expenses to rise or fall in future periods
General and Administrative. General and administrative (G&A) expenses consist primarily of personnel-related expenses, professional and legal fees, and facilities expenses. General and administrative expenses for 2006 were $6.1 million which increased approximately $1.1 million, or 23% compared to the prior year, primarily due to Mysticom G&A expense of $0.6 million and stock compensation expense of $0.7 million.
Restructuring Charges. We recorded restructuring charges of $0.4 million and $2.7 million for the years ended December 31, 2006 and 2005, respectively.
Change in Fair Value of the Derivative Liability. For the years ended December 31, 2006 and 2005, we recorded other income of approximately $5.1 million and $2.5 million, respectively, to reflect the change in the fair value of the derivative liability resulting from issuance of the Plus Cash Notes.
Loss on Extinguishment of Debt. During the year ended December 31, 2006, we issued an aggregate of 1,500,000 shares of our common stock plus approximately $22.6 million cash in exchange for $24.6 million in aggregate original principal amount of the Plus Cash Notes and accrued interest. During 2005, we issued an aggregate of 4,186,534 shares of our common stock plus approximately $19.2 million cash in exchange for $25.7 million in aggregate original principal amount of the Plus Cash Notes and accrued interest. The shares issued were exempt from registration pursuant to Section 3(a)(9) of the Securities Act of 1933, as amended. No commission or other remuneration was paid or given directly or indirectly for soliciting these transactions. As a result of the exchanges, in 2006 and 2005, we recorded extinguishment losses of approximately $3.1 million and $2.5 million, respectively. The recorded losses reflect the non-cash write-off of unamortized debt discount and deferred debt issuance costs.
Interest Expense net. Interest expense, net decreased approximately $5.7 million to $1.6 million in 2006.
Interest expense decreased from $10.1 million in 2005 to $4.4 million in 2006 due to lower debt balances resulting from the exchanges of the Plus Cash Notes described above, as well as the maturation of our outstanding 4.50% Notes, which we paid in full on September 12, 2005.
Interest income decreased slightly from $2.8 million in 2005 to $2.7 million in 2006, as higher market yields did not quite offset the impact of lower cash and investment balances. At December 31, 2006 and 2005, the effective interest rates on our interest-bearing securities were approximately 5.20% and 3.28%, respectively
Income Tax Expense. Income tax expense, representing income taxes incurred by certain of our foreign subsidiaries, was $0.1 million and $0.3 million for the year ended December 31, 2006 and 2005, respectively. We have incurred taxable losses for U.S. federal and state purposes, but have recognized no corresponding tax benefits in 2006 and 2005, as such benefits have been offset by an increase in our deferred tax asset valuation allowance.
Information on income taxes for each of the last three years is located in Note 7 of the Notes to Consolidated Financial Statements.
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 2007, we had cash and cash equivalents of approximately $34.1 million compared to $57.7 million as of December 31, 2006. Further, our working capital was $36.7 million compared to $30.3 million last year. Our primary source of liquidity is cash and cash equivalents. We have used cash in our operating activities in each of the last three years, including $12.8 million in 2007 and $6.9 million in 2006. During 2007 we reduced debt from $28.8 million as of December 31, 2006 which was classified as current to $25.0 million as of December 31, 2007 which is classified as long-term. We believe that our existing cash and cash equivalents will be sufficient to fund operating losses and capital expenditures, and provide adequate working capital through at least December 31, 2008. However, there can be no assurance that events in the future will not require us to seek additional capital and, if so required, that capital will be available on terms favorable or acceptable to us, if at all.
To conserve cash and cash equivalents we have implemented cost-cutting measures, including headcount reductions. We intend to continue to assess our cost structure as it relates to our revenue levels and cash position.
If our existing resources and cash generated from operations are insufficient to satisfy liquidity requirements, we may seek to raise additional funds through public or private debt or equity financings. The sale of equity or debt securities could result in additional dilution to our stockholders, could require us to pledge our intellectual property or other assets to secure the financing, or could impose restrictive covenants on us. We cannot be certain that additional financing will be available in amounts or on terms acceptable to us, or at all. If we are unable to obtain this additional financing, we may be required to reduce the scope of our planned product development and sales and marketing efforts, which could harm our business, financial condition and operating results, and/or cause us to sell assets or otherwise restructure our business to remain viable.
Commitments and Significant Contractual Obligations
We have existing commitments to make future interest payments on the 2010 Notes and to redeem these notes in September 2010. Over the remaining life of the outstanding 2010 Notes, we expect to accrue and pay approximately $4.1 million of interest on them.
We have outstanding operating lease commitments of $36.3 million, payable over the next ten years. Some of these commitments are for space that is not being utilized and, for which, we recorded restructuring charges in prior years for excess facilities. We are in the process of trying to sublease additional excess space but it is unlikely that any sublease income generated will offset the entire future commitment. As of December 31, 2007, we have sub-lease agreements totaling $3.8 million in place to rent portions of our excess facilities over the next three years. We currently believe that we can fund these lease commitments in the future. However, there can be no assurances that we will not be required to seek additional capital or provide additional guarantees or collateral on these obligations.
A summary of our significant future contractual obligations and their payments follows (in thousands):
We also have pledged approximately $0.2 million in available cash and cash equivalents as collateral for stand-by letters of credit that guarantee certain long-term property lease obligations.
Recent Accounting Pronouncements
Newly issued accounting pronouncements that potentially impact our financial statements are disclosed in the Notes to Consolidated Financial Statements of this report.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Interest Rate Risk. We have investments in money market accounts that earn interest income that is a function of the market rates. As a result, we have exposure to changes in interest rates. For example, if interest rates were to decrease by one half percentage point from their current levels, our potential interest income for 2008, assuming a constant cash balance, would decrease by approximately $0.2 million. We do, however, expect our cash balance to decline during 2008 and expect that our interest income will therefore also decrease proportionately.
Foreign Currency Exchange Risk. As substantially all of our net revenues are currently made or denominated in U.S. dollars, a strengthening of the dollar could make our products less competitive in foreign markets. Although we recognize our revenues in U.S. dollars, we incur expenses in currencies other than U.S. dollars. In 2007, operating expenses incurred in foreign currencies were approximately 33% of our total operating expenses. Although we have not experienced significant foreign exchange rate losses to date, we may in the future, especially to the extent that we do not engage in hedging. We do not enter into derivative financial instruments for trading or speculative purposes. The economic impact of currency exchange rate movements on our operating results is complex because such changes are often linked to variability in real growth, inflation, interest rates, governmental actions and other factors. These changes, if material, may cause us to adjust our financing and operating strategies. Consequently, isolating the effect of changes in currency does not incorporate these other important economic factors.
Fair Market Value of Financial Instruments. As of December 31, 2007, our debt consisted exclusively of convertible notes due September 30, 2010 with interest at a fixed rate of 5.45%. Consequently, we do not have significant cash flow exposure on the interest payments on these notes. However, the Company does have considerable exposure in the requirement to redeem these convertible notes on September 30, 2010. There is no guarantee that the Company will have either enough cash to pay down this debt, or the ability to refinance this debt on terms acceptable to the Company. The fair market value of our outstanding 5.45% Convertible Notes due September 30, 2010 was estimated based on current market conditions at approximately $20.6 million at December 31, 2007. Among other factors, changes in interest rates and the price our common stock affect the fair value of our convertible notes. Refer to critical accounting policies and use of estimates in Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations for additional information associated with our 2010 Notes.
Changes in Market Risk. There has been no significant change in our market risk since December 31, 2006.
Item 8.
Item 8. Financial Statements and Supplementary Data
TRANSWITCH CORPORATION AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
AND FINANCIAL STATEMENT SCHEDULE
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholders and Board of Directors
TranSwitch Corporation
We have audited the accompanying consolidated balance sheets of TranSwitch Corporation and subsidiaries (the Company) as of December 31, 2007 and 2006, and the related consolidated statements of operations, stockholders’ equity and comprehensive loss, and cash flows for each of the years in the three-year period ended December 31, 2007. Our audit also included the financial statement schedule listed in the Index at Item 8. We have also audited the Company’s internal control over financial reporting as of December 31, 2007, based on the criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). These financial statements and schedule are the responsibility of the Company’s management. Further, the Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in Management’s Annual Report on Internal Control over Financial Reporting under Item 9A. Our responsibility is to express an opinion on these financial statements and schedule, and an opinion on the Company’s internal control over financial reporting based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Company as of December 31, 2007 and 2006, and the consolidated results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2007 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. Further, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2007, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
As discussed in Note 1 to the consolidated financial statements, effective January 1, 2006, the Company adopted Financial Accounting Standards Board Statement No. 123(R), Share Based Payment. Further, as discussed in Note 7, the Company adopted FIN 48, Accounting for Uncertainty in Income Taxes - an Interpretation of FASB Statement No. 109, effective January 1, 2007.
/s/ UHY LLP
New Haven, Connecticut
March 12, 2008
TRANSWITCH CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands)
See accompanying notes to consolidated financial statements.
TRANSWITCH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
See accompanying notes to consolidated financial statements.
TRANSWITCH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
AND COMPREHENSIVE LOSS
(dollars in thousands)
See accompanying notes to consolidated financial statements.
TRANSWITCH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
See accompanying notes to consolidated financial statements.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Tabular dollars in thousands, except share and per share amounts)
Note 1. Business and Summary of Significant Accounting Policies
Description of Business
TranSwitch Corporation was incorporated in Delaware on April 26, 1988 and is headquartered in Shelton, Connecticut. TranSwitch Corporation and its subsidiaries (collectively, “TranSwitch” or the “Company”) design, develop, market and support highly integrated digital and mixed-signal semiconductor devices for the telecommunications and data communications markets.
Principles of Consolidation
The consolidated financial statements include the accounts of TranSwitch Corporation and its subsidiaries. All significant intercompany accounts and transactions have been eliminated.
Use of Estimates
The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and revenues and expenses during the period reported. Actual results could differ from those estimates. Estimates relate to uncollectable accounts receivable, excess or slow-moving or obsolete inventories, impairment of assets, product warranty allowances, depreciation and amortization, income taxes, sales returns allowances, stock rotation allowances and contingencies. Estimates and assumptions are reviewed periodically, and the effects of revisions are reflected in the consolidated financial statements in the period they are determined to be necessary.
Cash and Cash Equivalents
All highly liquid investments with an original maturity of three months or less when purchased are considered cash equivalents. Cash equivalents consist of money market funds and, as of December 31, 2006, commercial paper. The majority of the Company’s cash and cash equivalents balances are maintained with a limited number of major financial institutions. Cash and cash equivalents balances at institutions may, at times, be above the Federal Deposit Insurance Corporation insured limit of $0.1 million per account.
Fair Value of Financial Instruments
The carrying amounts for cash and cash equivalents, accounts receivable, and accounts payable approximate fair value. The fair value of the outstanding 5.45% Convertible Notes due 2010 was estimated at approximately $20.6 million as of December 31, 2007 based on current market conditions. The fair value of the outstanding 5.45% Convertible Plus Cash Notes due 2007 was estimated at approximately $30.2 million at December 31, 2006 based on par value.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
The fair value of investments in non-publicly traded companies is not readily determinable.
Inventories
Inventories are carried at the lower of cost (determined on a weighted-average cost basis) or estimated net realizable value.
Product Licenses
All product licenses are fully amortized as of December 31, 2007. Prior thereto product licenses were amortized using the greater of: (1) the amount computed using the ratio of a product’s current gross revenues to the product’s total of current and estimated future gross revenues; or (2) the straight-line method over the estimated useful life of the asset, generally three to five years, not to exceed the term of the license. Amortization of product licenses amounted to $0.2 million and $0.3 million for the years ended December 31, 2006 and 2005, respectively.
Property and Equipment
Property and equipment are carried at cost less accumulated depreciation and amortization. Any gain or loss resulting from sale or retirement is included in the consolidated statement of operations. Repairs and maintenance are expensed as incurred while renewals and betterments are capitalized. Costs incurred for assets being constructed or installed but not yet available for service at the balance sheet date are shown as construction in progress.
Goodwill
Goodwill represents the excess of the purchase price over the fair value of identifiable net assets of the business acquired. The Company reviews goodwill for potential impairment at least annually.
Patents
As of December 31, 2007 and 2006 there were no unamortized patent costs. During 2005 the Company determined that its remaining unamortized patent costs were impaired and recorded an impairment charge of $1.0 million. Prior thereto patents were being amortized on a straight line basis over their estimated economic lives of ten years. Amortization expense for patents was less than $0.1 million for 2005.
Deferred Financing Costs
Deferred financing costs are being amortized using the interest method over the term of the related debt. Accumulated amortization of deferred financing fees was $21.0 million and $20.5 million as of December 31, 2007 and 2006, respectively. Amortization, included in the consolidated statement of operations as a component of interest expense, was $0.5 million, $0.4 million, and $1.0 million for 2007, 2006 and 2005, respectively.
Impairment of Intangibles and Long-Lived Assets
The Company reviews long-lived and intangible assets (including goodwill) for impairment at least annually, or whenever events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. When factors indicate that a long-lived asset should be evaluated for possible impairment, an estimate of the related asset’s undiscounted future cash flows over the remaining life of the asset is made to measure whether the carrying value is recoverable. Any impairment is measured based upon the excess of the carrying value of the asset over its estimated fair value which is generally based on an estimate of future discounted cash flows. A significant amount of management judgment is used in estimating future discounted cash flows.
Investments in Non-Publicly Traded Companies
The Company has minority investments in certain non-publicly traded companies. Depending on the Company’s level of ownership and whether or not the Company has the ability to exercise significant influence, these investments are accounted for by either the cost or equity method. All such investments as of December 31, 2007 and 2006 are accounted for by the cost method. These investments are reviewed periodically for impairment.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Revenue Recognition
Net revenues from product sales are recognized at the time of product shipment when the following criteria are met: (1) persuasive evidence of an arrangement exists; (2) ownership and risk of loss transfers to the customer; (3) the selling price is fixed or determinable; and (4) collectability is reasonably assured.
Agreements with certain distributors provide price protection and return and allowance rights. With respect to recognizing revenues from distributors: (1) the prices are fixed at the date of shipment from the Company’s facilities; (2) payment is not contractually or otherwise excused until the product is resold; (3) the Company does not have any obligations for future performance relating to the resale of the product; and (4) the amount of future returns, allowances, refunds and costs to be incurred can be reasonably estimated and are accrued at the time of shipment.
Service revenues are recognized when the following criteria are met: (1) persuasive evidence of an arrangement exists; (2) services have been performed in accordance with the contractual obligations; (3) the fee is fixed or determinable; and (4) collectability is reasonably assured.
In 2006, the Company commenced licensing intellectual property. Revenues from licensing arrangements generally consist of multiple elements such as license, implementation and maintenance services. The items (deliverables) included in the arrangement are evaluated pursuant to EITF Issue No. 00-21 “Revenue Arrangements with Multiple Deliverables” to determine whether they represent separate units of accounting. The Company performs this evaluation at the inception of an arrangement and as the Company delivers each item in the arrangement.
Generally, the Company accounts for a deliverable (or a group of deliverables) separately if (1) the delivered item(s) has standalone value to the customer, (2) there is objective and reliable evidence of the fair value of the undelivered items included in the arrangement, and (3) if the Company has given the customer a general right of return relative to the delivered items, delivery or performance of the undelivered items or services are probable and substantially in the Company’s control.
Also in 2006, the Company commenced recognizing revenue from royalties upon notification of sale by its licensees. The terms of the royalty agreements generally require licensees to give notification to the Company and to pay royalties within 45 days of the end of the quarter during which the sales by its licensees take place.
Concentrations of Credit Risk
Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash and cash equivalents, and accounts receivable.
Cash and cash equivalents are held by high-quality financial institutions, thereby reducing credit risk concentrations. In addition, the Company limits the amount of credit exposure to any one financial institution.
At December 31, 2007, approximately 44% of accounts receivable were due from five customers. The majority of the Company’s sales are to customers in the telecommunications and data communications industries. The Company performs ongoing credit evaluations of its customers and generally does not require collateral. The Company establishes an allowance for potentially uncollectable accounts based upon factors surrounding the credit risk of specific customers, historical payment trends and other information.
Product Warranties
The Company provides warranties on its products for up to one year from the date of shipment. A liability is recorded for estimated costs to be incurred under product warranties, which is based on various inputs including historical experience. Estimated warranty expense is recorded as cost of revenues as products are shipped. Product warranty costs are nominal for all periods presented.
Research and Development Costs
Research and development costs are expensed as incurred.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Income Taxes
Deferred income tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and for operating loss and tax credit carry forwards. Deferred income tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred income tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is provided to the extent that it is more likely than not that the Company will not be able to utilize deferred income tax assets in the future.
Stock-Based Compensation
Effective January 1, 2006, the Company adopted FASB Statement No. 123 (revised), “Share-Based Payment” (“SFAS 123R”) using the modified prospective approach. Among its provisions, SFAS 123R requires companies to record compensation expense for share-based awards issued to employees and directors, including employee stock options related to the Company’s stock option plans and employee stock purchases related to the 2005 Employee Stock Purchase Plan, in exchange for services provided. The amount of the compensation expense is based on the estimated fair value of the awards on their grant dates and is recognized over the required service periods.
Prior to the adoption of SFAS 123R, the Company utilized the intrinsic-value based method of accounting under APB Opinion No. 25, “Accounting for Stock Issued to Employees” and related interpretations, and adopted the disclosure requirements of SFAS No. 123, “Accounting for Stock-Based Compensation” (SFAS 123). Under the intrinsic-value based method of accounting, compensation expense for stock options granted to the Company’s employees was measured as the excess of the quoted market price of common stock at the grant date over the amount the employee must pay for the stock. The Company’s policy is to grant stock options at fair value on the date of grant. As a result, no compensation expense was historically recognized for stock options.
The modified prospective approach requires the application of the new standard to all share-based awards issued on or after January 1, 2006, and to any outstanding share-based awards that were issued but not vested as of January 1, 2006. Results for prior periods have not been restated as provided for under the modified prospective approach. For equity awards granted after January 1, 2006, the Company recognizes share-based compensation expense for the fair value of the awards on the date granted on a straight-line basis over their vesting term.
Compensation expense is recognized only for share-based payments expected to vest. The Company estimates forfeitures at the date of grant based on the Company’s historical experience and future expectations.
As of December 31, 2007, the unrecognized stock-based compensation cost related to non-vested option awards was $1.0 million. Such amount will be recognized in operations over a weighted average period of 0.7 years.
Stock compensation charged to operations was $2.0 million in 2007, $2.4 million in 2006 and $0.5 million in 2005.
Prior to adopting SFAS 123R, the Company accounted for share-based payment awards using the intrinsic value method of APB 25 and related interpretations. As such, the Company did not record compensation expense for employee share options, unless the awards were modified. The following table illustrates the effect on reported net loss and loss per share, as if the Company accounted for all share-based payment awards using the fair value method of SFAS 123R (in thousands, except per share data) for 2005:
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Loss Per Common Share
The basic and diluted loss per common share amount is based upon the weighted average common shares outstanding during the periods. All “in-the-money” stock options and shares issuable upon the conversion of the 5.45% Convertible Notes due 2010 were anti-dilutive.
Foreign Currency Translation
Substantially all foreign subsidiaries use their local currency as their functional currency. Therefore, assets and liabilities of foreign subsidiaries are translated at exchange rates in effect at the balance sheet date and revenue and expense accounts are translated at average exchange rates during the year. The resulting translation adjustments are recorded in accumulated other comprehensive income (loss). Translation gains and losses related to monetary assets and liabilities denominated in a currency different from a subsidiary’s functional currency are included in the consolidated statements of operations.
Derivatives and Hedging Activities
Fluctuating foreign exchange rates may significantly impact the Company’s operating results and cash flows. The Company periodically hedges forecasted foreign currency transactions related to certain operating expenses. All derivatives are recorded in the balance sheet at fair value. For a derivative designated as a fair value hedge, the effective portion of changes in the fair value of the derivative and of the hedged item attributable to the hedged risk are recognized in operations. For a derivative designated as a cash flow hedge, the effective portions of changes in the fair value of cash flow hedges are recorded in other comprehensive income. If the derivative used in an economic hedging activity is not designated in an accounting hedging relationship or if it becomes ineffective, changes in the fair value of the derivative are recognized in operations. During 2007, the effect of hedging activity was not material.
Recent Accounting Pronouncements
The Company continually assesses any new accounting pronouncements to determine their applicability to the Company. In the case where it is determined that a new accounting pronouncement effects the Company’s financial reporting, the Company undertakes a study to determine the consequence of the change to it’s financial reporting, and assures that there are proper controls in place to ascertain that the Company’s financials properly reflect the change. New pronouncements assessed by the Company are discussed below:
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, “Fair Value Measurements”, (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value, and expands disclosure requirements regarding fair value measurement. This statement simplifies and codifies fair value related guidance previously issued and is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The Company does not believe that SFAS 157 will significantly effect its financial statements.
In February 2007, the FASB issued SFAS 159, “The Fair Value Option for Financial Assets and Liabilities-Including an amendment of FASB Statement No. 115” (“SFAS 159”). SFAS 159 expands the use of fair value accounting but does not affect existing standards which requires assets or liabilities to be carried at fair value. The objective of SFAS 159 is to improve financial reporting by providing companies with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. Under SFAS 159, a company may elect to use fair value to measure eligible items at specified election dates and report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. Eligible items include, but are limited to, accounts receivable, accounts payable, and issued debt. If elected, SFAS 159 is effective for fiscal years beginning after November 15, 2007. The Company is currently evaluating the effect of adopting SFAS 159 on its consolidated financial statements.
In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations” (“SFAS 141(R)”). SFAS 141(R) establishes principles and requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, any non-controlling interest in the acquiree and the goodwill acquired. SFAS 141(R) also establishes disclosure requirements to enable the evaluation of the nature and financial effects of the business
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
combination. SFAS 141(R) is effective for fiscal years beginning after December 15, 2008. The Company will adopt SFAS 141(R) in the first quarter of 2009 and apply its provisions to any acquisition after the adoption date.
Note 2. Acquisitions
On January 11, 2007, the Company acquired the ASIC Design Center Division of Data - JCE, an Israel-based publicly held electronics components distribution company. The ASIC Design Center develops and sells customer-specific semiconductor products.
The acquisition was financed with the issuance of 3,746,713 shares of the Company’s common stock with an approximate fair value of $5.5 million and $1.4 million of cash. The Company incurred transaction costs of approximately $0.3 million which resulted in a total purchase price of approximately $7.2 million.
Under the earn-out provisions of the ASIC Design Center acquisition agreement, the Company may have been required to pay up to an additional $14.5 million in the form of TranSwitch common stock or cash, at its option, if the ASIC Design Center achieved stipulated revenue and operating profit for 2007. Such targets were not achieved.
The results of operations of the ASIC Design Center have been included in the Company’s consolidated financial results from January 11, 2007. All significant inter-company balances and transactions have been eliminated. The acquisition was accounted for by the purchase method of accounting.
The Company has allocated the cost to acquire the ASIC Design Center to its identifiable tangible and intangible assets and liabilities, with the remaining amount classified as goodwill. None of the amount allocated to goodwill is expected to be deductible for income tax reporting purposes. The total purchase price of the ASIC Design Center has been allocated in the Company’s consolidated financial statements as follows:
(1) The valuation of existing contracts of the ASIC Design Center was determined based on their estimated fair value at the acquisition date. The income approach, which includes an analysis of the cash flows and risks associated with achieving such cash flows, was the primary technique used to value such contracts. The value assigned to the ASIC contracts is generally being amortized ratably over five years, which represents the estimated contract average remaining useful life. Amortization expenses of $0.4 million were recognized during the year ended December 31, 2007.
(2) In connection with the purchase price allocation, the Company has estimated the fair value of the ASIC Design Center’s existing consulting and maintenance obligation related to deferred revenues. The estimated fair value of this obligation was determined utilizing a cost build-up approach. The cost build-up approach determines fair value by estimating the costs relating to fulfilling the obligations plus a normal profit margin. The sum of the costs and operating profit approximates the amount the Company would be required to pay a third party to assume the support obligations. As of December 31, 2007, the remaining obligation under deferred revenue was $0.2 million.
Unaudited pro forma results for 2006 assuming the ASIC Design Center was acquired as of January 1, 2006 follows: Net revenues of $43.7 million; net loss of $(10.4) million, and basic and diluted loss per common share of $(.08). Unaudited pro forma results for 2007 approximate the reported results included in the consolidated financial statements.
On January 30, 2006, the Company completed its acquisition of Mysticom Ltd. (“Mysticom”), an Israel-based, privately-held developer of high-performance, low-power, multi-Gigabit Ethernet transceivers for the communications industry. The
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
acquisition of Mysticom allows TranSwitch to integrate high-speed SerDes and PHY capabilities in the Company’s next generation of products as the market for 10-Gbps ports on telecommunications and data communications equipment grows.
TranSwitch acquired all the capital stock of Mysticom through the issuance of 2,378,185 shares of TranSwitch common stock. The common stock issued was valued at approximately $4.4 million ($1.85 per share). The Company incurred transaction costs of approximately $1.0 million in conjunction with this acquisition, resulting in a total purchase price of approximately $5.4 million.
Under the earn-out provisions of the Mysticom acquisition agreement, the Company could have paid up to an additional $10 million in the form of TranSwitch common stock or cash, upon Mysticom’s achievement of stipulated revenue objectives and a positive operating cash flow over the 12 month period ending January 30, 2007. Based on the operating performance of Mysticom there will be no earn-out provision payment.
The results of operations of Mysticom have been included in the Company’s consolidated financial results beginning on January 31, 2006, and all significant inter-company balances have been eliminated. The acquisition was accounted for under the purchase method of accounting. The Company has allocated the cost to acquire Mysticom to its identifiable tangible and intangible assets and liabilities, with the remaining amount classified as goodwill. None of the amount allocated to goodwill is expected to be deductible for tax reporting purposes. The total purchase price of Mysticom has been allocated as follows:
(1) The valuation of the purchased intellectual property ($0.9 million) was determined based on its estimated fair value at the acquisition date. The income approach, which includes an analysis of the cash flows and risks associated with achieving such cash flows, was the primary technique utilized in valuing the purchased intellectual property. The purchased intellectual property is primarily being amortized ratably, based upon the recognition of the associated license revenue. Amortization expense of $0.5 million and $0.3 million was recognized during 2006 and 2007.
(2) In connection with the preliminary purchase price allocation, the Company has estimated the fair value of Mysticom’s existing consulting and maintenance obligations related to deferred revenues. The estimated fair value of these obligations was determined utilizing a cost build-up approach. The cost build-up approach determines fair value by estimating the costs relating to fulfilling the obligations plus a normal profit margin. The sum of the costs and operating profit approximates the amount that the Company would be required to pay a third party to assume the support obligations. As of December 31, 2007, the remaining obligation under deferred revenue was zero.
Unaudited pro forma results assuming Mysticom was acquired as of January 1, 2005 follows: Net revenues of $36.3 million; net loss of $28.6 million, and basic and diluted loss per common share of $0.27 for 2005. Unaudited pro forma results for 2006 approximate the reported results included in TranSwitch’s consolidated financial statements.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Note 3. Investments in Non-Publicly Traded Companies and Venture Capital Funds
As of December 31, 2004, the Company owned convertible preferred stock of Opulan Technologies Corp. (Opulan), and Metanoia Technologies, Inc. (Metanoia). In addition, the Company had a 3% limited partnership interest in Neurone Ventures II L.P (Neurone), part of a venture capital fund organized as a limited partnership. The cost and carrying amount of these investments was $2.1 million. During 2005, the Company made additional investments in these companies of $0.3 million.
During 2005, the Company made the decision to no longer provide funding to Metanoia and determined that its investment was impaired. As a result, the Company recorded an impairment charge related to Metanoia of approximately $1.5 million.
As of December 31, 2005, the Company’s cost method investments were approximately $1.0 million, consisting of convertible preferred stock of Opulan of $0.7 million and a 3% limited partnership interest in Neurone II of $0.3 million.
During 2006, the Company made additional investments of approximately $2.0 million substantially all of which was invested in Opulan.
As of December 31, 2006, the Company’s cost method investments were approximately $3.0 million, consisting of convertible preferred stock of Opulan of $2.7 million and a 3% limited partnership interest in Neurone II of $0.3 million.
During 2007, the Company made additional investments of less than $0.1 million and recognized an impairment of $0.1 million on its investment in Neurone II.
The financial condition of these companies is subject to significant changes resulting from their operating performance and their ability to obtain financing. As such, the Company continually evaluates its investments in these companies for impairment. In making this judgment, the Company considers the investee’s cash position, projected cash flows (both short and long-term), financing needs, most recent valuation data, the current investing environment, management/ownership changes, and competition. This evaluation process is based on information that the Company requests from these privately held companies. This information is not subject to the same disclosure and audit requirements as the reports required of U.S. public companies, and as such, the reliability and accuracy of the data may vary. During 2005, the Company used the modified equity method of accounting to determine the impairment loss for its investments in non-publicly traded companies, as the Company determined that no better current evidence of the value of its cost method investments existed and it believed that this measurement process gave the Company the best basis for an estimate given the negative cash flows. The modified equity method of accounting resulted in recording an impairment loss on a cost method investment equal to the investor’s proportionate share of the investee’s losses as its contributed capital is consumed to fund operating losses of the investee from the inception of the investor’s investment.
In addition, the Company also evaluated all outstanding bridge loans under SFAS 114, “Accounting by Creditors for Impairment of a Loan” (SFAS 114) which it had not already impaired under the modified equity method of accounting. Under SFAS 114, a loan is considered impaired, based on current information and events, if it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. The measurement of impaired loans is generally based on the present value of expected future cash flows discounted at the historical effective interest rate, except that all collateral-dependent loans are measured for impairment based on the fair value of the collateral.
Based upon its evaluations, the Company recorded impairment charges as referred to above relate to investments in non-publicly traded companies of $1.5 million in 2005.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Note 4. Inventories
The components of inventories follow:
The Company recorded charges for excess and obsolete inventories totaling approximately $0.4 and $0.6 million during 2007 and 2005, respectively. The effect of these inventory provisions was to write inventory down to a new cost basis of zero. During 2007, 2006 and 2005, the Company sold certain products that had previously been written down to a cost basis of zero. The following table presents the impact on gross profit of excess and obsolete inventory charges and benefits:
Note 5. Property and Equipment, Net
The components of property and equipment follow:
* Estimated useful life of improvement if shorter.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Depreciation expense was $3.9 million, $3.5 million, and $3.9 million, for the 2007, 2006 and 2005, respectively.
Note 6. Segment Information and Major Customers
The Company has one business segment: communication semiconductor products. Its VLSI semiconductor devices provide core functionality of communications network equipment. The integration of various technologies and standards in these devices result in a homogeneous product line for management and measurement purposes.
Enterprise-wide Information
Enterprise-wide information provided on geographic net revenues is based on the customer’s ordering location. Long-lived asset information is based on the physical location of the assets. The following tables present net revenues and long-lived assets information for geographic areas:
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Information about Major Customers
The Company ships its products to distributors and directly to end customers. The following table sets forth the percentage of net revenues attributable to the Company’s significant customers:
* Revenues were less than 10% of the Company’s net revenues in these years.
Note 7. Income Taxes
The Company adopted FIN 48, Accounting for Uncertainty in Income Taxes, effective January 1, 2007. FIN 48 clarifies and sets forth consistent rules for accounting for uncertain income tax positions in accordance with FAS 109 Accounting for Income Taxes. There was no cumulative effect of applying the provisions of this interpretation upon adoption due to the net operating loss and valuation allowance positions of the Company. Changes in unrecognized tax benefits follow:
Due to the Company’s net operating loss position in the U.S., any subsequent recognition of these tax benefits would not likely change the Company’s effective tax rate. The Company does not reasonably expect any significant changes in the amount of unrecognized tax benefits to occur within the next year.
Historically the Company has not accrued or paid significant interest and penalties for underpayments of income taxes due to its net operating loss position. Interest and penalties related to underpayment of income taxes would be classified as a component of income tax expense in the consolidated statement of operations. No interest and penalties for underpayments of income taxes were required to be accrued through December 31, 2007.
The Company files income tax returns in the U.S. and several foreign countries and has not extended the statute of limitations to assess additional taxes for any of these jurisdictions. The Company has effectively settled U.S. Federal tax positions taken through 2002 in accordance with FSP FIN 48-1. However, the Company is subject to adjustment in each of these periods, to the extent of its net operating loss carry forwards. The open tax years for foreign jurisdictions are 2002 through 2007 and 1997 through 2007 for U.S. state and local jurisdictions.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
The components of the loss before income taxes follow:
The provision for income taxes consists exclusively of current foreign income taxes.
A reconciliation of the U.S. federal statutory rate to the effective income tax rate follows:
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
The tax effects of temporary differences that give rise to deferred income taxes follow:
The Company continually evaluates its deferred income tax assets to determine whether it is more likely than not that such assets will be realized. In assessing the realizability, management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies. Based on this assessment, management believes that significant uncertainty exists concerning the recoverability of the deferred income tax assets. As such, a valuation allowance has been provided for deferred income tax assets as of December 31, 2007 and 2006. Of the $148.2 million valuation allowance at December 31, 2007, subsequently recognized income tax benefits, if any, in the amount of $4.6 million will be applied directly to additional paid-in capital.
At December 31, 2007, the Company had available, for federal income tax purposes, net operating loss (“NOL”) carry-forwards of approximately $236.6 million, capital loss carry-forwards of approximately $40.9 million and research and development tax credit carry-forwards of approximately $11.6 million expiring in varying amounts from 2007 through 2026. For state income tax purposes, the Company had available NOL carry-forwards of approximately $98.3 million and capital loss carry-forwards of $41.0 million and state tax credit carry-forwards of $7.4 million expiring in varying amounts from 2007 to 2025.
Certain transactions involving the Company’s beneficial ownership have occurred in prior years, which resulted in a stock ownership change for purposes of Section 382 of the Internal Revenue Code of 1986, as amended. Consequently, approximately $21.9 million of the NOL carry-forwards and $1.4 million of research and development tax credit carry-forwards are subject to these limitations. The Company has not yet determined if any of the NOL and credits generated through 2007 will be subject to limitation under Section 382.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Note 8. Stockholders’ Rights Plan
On October 1, 2001, the Board of Directors enacted a stockholder rights plan and declared a dividend of one preferred share purchase right for each outstanding share of TranSwitch common stock outstanding at the close of business on October 1, 2001 to the stockholders of record on that date. Each stockholder of record as of October 1, 2001 received a summary of the rights and any new stock certificates issued after the record date contain a legend describing the rights. Each preferred share purchase right entitles the registered holder to purchase from the Company one one-thousandth of a share of Series A Junior Participating Preferred Stock, par value $0.01 per share, of the Company, at a price of $50.00 per one one-thousandth of a Preferred Share, subject to adjustment, upon the occurrence of certain triggering events, including the purchase of 15% or more of the Company’s outstanding common stock by a third party. Until a triggering event occurs, the common stockholders have no right to purchase shares under the stockholder rights plan. If the right to purchase the preferred stock is triggered, the common stockholders will have the ability to purchase sufficient stock to significantly dilute the 15% or greater holder.
Note 9. Employee Benefit Plans
Employee Stock Purchase Plans
Under the Company’s employee stock purchase plans, eligible employees may purchase a limited number of shares of common stock at 85% of the fair market value at either the date of enrollment or the date of purchase, whichever is less. Under the 1995 Employee Stock Purchase Plan (the 1995 ESPP), shares issued for 2005 were 48,295. The 1995 ESPP was closed effective December 31, 2004. On May 19, 2005 the Company’s shareholders approved the 2005 Employee Stock Purchase Plan (the 2005 ESPP). Under the 2005 ESPP, the Company is authorized to issue 1,000,000 shares of common stock. In 2007 and 2006, 101,844 and 89,077 shares were issued under the 2005 ESPP, respectively.
Stock Option Plans
As of December 31, 2007, the Company has two stock options plans: the 1995 Stock Plan, as amended (the “1995 Plan”) and the 2000 Stock Option Plan, as amended (the “2000 Plan”). The 1995 Non-Employee Director Stock Option Plan, as amended (the “Director Plan”) expired during 2005.
Under the 1995 Plan, 31,400,000 shares of the Company’s common stock are available to grant to employees in the form of incentive stock options. Also, non-qualified stock options and stock awards may be granted to employees, consultants and directors. The terms of the options granted are subject to the provisions of the 1995 Plan, as determined by the Compensation Committee of the Board of Directors. The exercise price of options under the 1995 Plan must be equal to the fair market value of the common stock on the date of grant. Options granted under the 1995 Plan are generally nontransferable. The 1995 Plan, as amended, expires March 15, 2010. As of December 31, 2007, 4,589,172 shares were available for grant under the 1995 Plan.
The 2000 Plan provides for the granting of non-qualified options to employees and consultants to purchase up to an aggregate of 10,000,000 shares of common stock. No member of the Board of Directors or executive officers appointed by the Board of Directors is eligible for grants of options under the 2000 Plan. The terms of the options granted are subject to the provisions of the 2000 Plan, as determined by the Compensation Committee of the Board of Directors. Each non-qualified stock option shall either be fully exercisable on the date of grant or shall become exercisable thereafter in such installments as the Board of Directors may specify. The 2000 Plan will terminate in 2010. No option granted under the 2000 Plan may be exercised after the expiration of seven years from the date of grant. The exercise price of options under the 2000 Plan must be equal to the fair market value of the common stock on the date of grant. Options granted under the 2000 Plan are generally nontransferable. As of December 31, 2007, 2,430,015 shares were available for grant under the 2000 Plan.
The Director Plan expired during 2005. Prior to its expiration, the Director Plan provided for the automatic grant of options to non-employee directors on the anniversary date of each individual board member joining the Board of Directors to purchase up to an aggregate of 2,075,000 shares. Upon joining the Board of Directors, each director was granted an option to purchase 37,500 shares, one-third of which vested immediately, one-third after the first year, and the remaining one-third after the second year. Annually thereafter, each director was granted an option to purchase 28,800 shares, which vest fully after one year. The Director Plan was administered by the Compensation Committee of the Board of Directors. No option granted under the Director Plan is exercisable after the expiration of five years from the date of grant. The exercise price of options under the Director Plan was required to equal the fair market value of the common stock on the date of grant. Options granted under the Director Plan are generally nontransferable.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Information regarding stock options follows:
The Company has, in connection with the acquisitions of various companies, assumed the stock option plans of each acquired company. The related options are included in the preceding table.
Options outstanding and exercisable at December 31, 2007 follow:
Stock options generally expire five, seven or ten years from the date of grant and generally vest ratably over periods ranging from immediately to four years.
As of December 31, 2007 both the fair value of options outstanding and the fair value of options exercisable were less than the exercise price.
Stock compensation charged to operations was $2.0 million in 2007, $2.4 million in 2006 and $0.5 million in 2005. Further, no compensation cost was capitalized as part of inventory, and no income tax benefit was recognized in those years. Lastly, no equity awards were settled in cash.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Stock-Based Compensation Fair Value Disclosures
The fair value of each option granted is estimated on the date of grant using the Black-Scholes option-pricing model with the following assumptions:
The weighted average fair value of stock options granted, calculated using the Black-Scholes option-pricing model, is $0.93, $1.15 and $0.81 for 2007, 2006 and 2005, respectively. The total intrinsic value of the options exercised was $0.5 million, $1.2 million, and $0.4 million for 2007, 2006 and 2005, respectively.
The Company recognized compensation expense related to stock options granted to non-employees of $0.1 million in 2007 less than $0.1 million in 2006 and $0.1 million in 2005.
In December 2005, the Company’s Board of Directors approved the acceleration of the vesting of certain stock options held by current non-officer employees with two or more years of employment with the Company. As a result, stock options to purchase approximately 1.5 million shares that would have vested from time to time to December 2009 became immediately exercisable. As such, the Company recorded compensation expense of approximately $0.3 million in the fourth quarter of 2005. The accelerated vesting reduces the amount of compensation expense that the Company would have otherwise been required to recognize in 2006 and later upon the adoption effective January 1, 2006 of SFAS 123R. The reduction in compensation expense for 2006 was approximately $0.5 million.
Employee 401(k) Plan
The TranSwitch Corporation 401(k) Retirement Plan (the “Plan”) provides tax-deferred salary deductions for eligible employees. Employees may contribute an annual maximum amount as set periodically by the Internal Revenue Service. The Company provides matching contributions equal to 50% of the employees’ contributions, up to a maximum of 6% of the employee’s annual compensation. Company contributions begin vesting after two years and are fully vested after three years. Contribution expense related to the Plan was $0.2 million, $0.3 million and $0.3 million for 2007, 2006 and 2005, respectively.
Note 10. Convertible Notes
4.50% Convertible Notes Due 2005
The outstanding balance of the 4.50% Convertible Notes Due 2005 of $24.4 million as of December 31, 2004 was paid at maturity in September 2005. Also in 2005, the Company issued an aggregate of 4,186,534 shares of the Company’s common stock plus approximately $19.2 million cash in exchange for $25.7 million in aggregate original principal amount of 5.45% Convertible Plus Cash NotesSM due September 30, 2007 (the “Plus Cash Notes”) and accrued interest. In 2006, the Company issued an aggregate of 1,500,000 shares of the Company’s common stock plus approximately $22.2 million cash in exchange for $24.6 million aggregate original principal amount of Plus Cash Notes and accrued interest. As a result of these exchanges, the Company recorded an extinguishment loss of approximately $3.1 million in 2006 and $2.5 million in 2005, including non-cash write-offs of unamortized debt discount and deferred debt issuance costs.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
5.45% Convertible Plus Cash Notes due 2007 and 5.45% Convertible Notes due 2010
On July 6, 2007 the Company exchanged approximately $21.2 million aggregate principal amount of its outstanding Plus Cash Notes for an equivalent principal amount of a new series of 5.45% Convertible Notes due September 30, 2010 (the “2010 Notes”). The remaining $8.9 million balance of the 2007 Plus Cash Notes were redeemed at par value for cash at the end of September, 2007. In connection with the exchange the Company recorded an extinguishment loss of approximately $0.4 million, including a non-cash write-off of unamortized debt discount and deferred debt issuance costs.
Also on July 6, 2007 the Company issued for an equal amount of cash an additional $3.8 million aggregate principal amount of 2010 Notes. At December 31, 2007, the Company had $25.0 million of the 2010 Notes outstanding.
The 2010 Notes are redeemable at par value by the Company at any time after July 6, 2009, provided that the closing price per share of the Company’s common stock as reported on the Nasdaq Global Market exceeds 150% of the conversion price for at least 20 trading days within a period of 30 consecutive trading days, and the Company provides notice of redemption to the holders of the 2010 Notes.
Upon the occurrence of a change of control, as defined, each of the holders of the 2010 Notes has the right to require the Company to repurchase all or a portion of such holder’s 2010 Notes at a purchase price equal to 100% of the principal amount plus interest, accrued and unpaid to the date of such repurchase. Also, prior to July 6, 2010, if the 2010 Notes are converted in connection with a change of control, where 10% or more of the consideration paid for the Company’s common stock consists of cash or securities that are not traded or scheduled to be traded on a United States national securities exchange, then in addition to the shares of the Company’s common stock that such holder would be entitled to receive upon such conversion, the Company is required to pay a make-whole payment in cash to such holder.
Upon the occurrence of certain events of default, the trustee or the holders of at least 25% in principal amount of the then-outstanding 2010 Notes may declare the principal of, and accrued but unpaid interest on the 2010 Notes immediately due and payable. Certain such events of default include failure to make payments of principal, failure to make payments of interest, failure to comply with certain covenants and agreements, failure to file certain periodic reports, and certain events of bankruptcy or insolvency. The Indenture governing the terms of the 2010 Notes also contains certain covenants that limit, among other things, the Company’s ability to incur additional debt.
Initially, each $1,000 principal amount of the 2010 Notes is convertible into 472 common shares or $2.118 per share of common stock. The conversion rate is subject to adjustment upon the occurrence of certain events, including, the issuance of a common stock or cash dividend or distribution of securities, cash or assets, certain subdivisions and combinations of the Company’s common stock, where the fair market value of a tender or exchange offer exceeds certain amounts, or if the Company’s September 30, 2008 trailing twelve month net income is less than $0.00. The Company may increase the conversion rate by any amount for any period of time if the period is at least twenty (20) days and the Board of Directors has made the determination that such increase would be in the Company’s best interest. Under no circumstances, may the conversion rate be adjusted to less than $1.83.
Note 11. Restructuring and Asset Impairment Charges
During 2007 the Company recorded restructuring charges of approximately $1.5 million related to workforce reductions.
During 2006 the Company recorded restructuring charges of approximately $0.4 million including $0.2 million of additional costs for changes in estimates for restructuring actions taken at the Company’s European design centers in 2004 and 2005, and $0.2 million for changes in estimates relating to subleases at the Company’s facilities in Shelton, Connecticut.
In 2005, the Company implemented an organizational restructuring that included the elimination of 26 positions, primarily in the Company’s Shelton, Connecticut and Boston, Massachusetts locations. As a result, the Company recorded restructuring charges of approximately $0.7 million related to employee termination benefits, $0.2 million related to asset impairments and $0.1 million related to excess facility costs, for a total restructuring charge of approximately $1.0 million.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Also in 2005, the Company implemented a plan to disengage from TranSwitch S.A. (formerly, ADV Engineering S.A.), a wholly owned research and development subsidiary in France. This action resulted in the dismissal of 20 employees. As a result of this action, the Company incurred restructuring charges of approximately $1.2 million related to employee termination benefits and $0.3 million related to legal and other transaction costs. These charges were offset by translation and other gains of $0.6 million, for a net restructuring charge of approximately $0.9 million.
Moreover, in 2005, the Company conducted a review of certain patent assets that were acquired with the Company’s acquisition of Onex Communications Corporation (Onex) in 2001. The impairment review was conducted because the Company determined that it no longer had significant sales expectations for the products related to these patents. As such, the Company determined that these patent assets were impaired and recorded an impairment charge of $1.0 million which is included with other restructuring charges.
Lastly, in 2005, the Company recorded net restructuring charges of approximately $0.2 million related to an organizational restructuring of its Swiss design center. This action resulted in the dismissal of 4 employees.
The restructuring charges discussed above for 2005 were reduced by benefits of $0.4 million reflecting the Company’s new agreements to sub-lease certain portions of excess facilities.
A summary of the restructuring liabilities and activity follows:
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Note 12. Commitments and Contingencies
Lease Agreements
The Company leases buildings and equipment at its headquarters in Shelton, Connecticut as well as at its subsidiaries’ locations worldwide. Rental expense under all operating lease agreements was $1.7 million in 2007, $1.7 million in 2006 and $1.3 million in 2005.
The following table summarizes as of December 31, 2007 future minimum operating lease commitments, including contractually obligated building operating commitments that have remaining, non-cancelable lease terms in excess of one year and future sublease income:
Patent Indemnity
Under the terms of substantially all of its sales agreements, the Company has agreed to indemnify its customers for costs and damages arising from claims against such customer based on, among other things, allegations that the Company’s products infringed upon the intellectual property rights of a third party. In the event of an infringement claim, the Company retains the right to (i) procure for the customer the right to continue using the product; (ii) replace the product with a non-infringing item which shall give equally good service; (iii) modify the product so that it becomes non-infringing; or (iv) remove the product and, on return of the product to the Company, the Company shall refund the buyers purchase price. Due to the nature of these indemnification agreements, the maximum potential future payments the Company could be required to make under these guarantees, when and if such claims may arise, cannot be reliably determined. No amounts have been accrued for any estimated losses with respect to these guarantees for customer indemnifications since it is not probable that a loss will be incurred. No claims have been made under these indemnity provisions.
Purchase Commitments
In the normal course of business, the Company makes various commitments to purchase goods or services from specific suppliers, including those related to capital expenditures. As of December 31, 2007, the Company had purchase commitments totaling $3.0 million.
Note 13. Supplemental Cash Flow Information
Supplemental cash flow information follows:
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Non-cash investing and financing activities include:
Note 14. Issuance of Common Stock
In connection with the ASIC Design Center acquisition in 2007 the Company issued 3,746,713 shares of its common stock with an approximate fair value of $5.5 million.
In connection with the Mysticom acquisition in 2006 the Company issued 2,261,845 shares of its common stock with an approximate fair value of $4.8 million. Of the shares issued, 243,600 of them were used to settle assumed liabilities under retention agreements with certain Mysticom employees. Also in 2006, the Company completed an offering of shares of common stock that resulted in the sale of 13,766,667 shares, with proceeds to the Company, after placement agency fees and expenses, of $18.9 million.
Note 15. Subsequent Events
On January 28, 2008, the Company received notification from the NASDAQ Listing Qualification Department providing notification that, for the last 30 consecutive business days, the bid price of the Company’s common stock has closed below the minimum $1.00 per share required for continued inclusion under NASDAQ Marketplace Rule 4450(a)(5). The Company, in accordance with NASDAQ Marketplace Rule 4450(e)(2), has been provided 180 calendar days, or until July 23, 2008, to regain compliance. To regain compliance, the bid price of the Company’s common stock must close at $1.00 per share or more for a minimum of ten consecutive business days at any time before July 23, 2008.
If the Company does not regain compliance with NASDAQ Marketplace Rule 4450(a)(5) by July 23, 2008, the Company will be notified that its securities will be delisted. At that time, the Company may appeal NASDAQ’s determination to delist its securities to a Listing Qualification Panel. Alternatively, the Company could at that time apply to transfer its securities to The Nasdaq Capital Market if it satisfies the requirements for initial inclusion set forth in NASDAQ Marketplace Rule 4310(c). If that application were approved, the Company would be afforded the remainder of a second 180 calendar day grace period by the NASDAQ Global Market in order to regain compliance while on the Nasdaq Capital Market.
On February 13, 2008 the Company announced that its Board of Directors authorized a stock repurchase program under which the Company may repurchase up to $10 million of its outstanding common stock. The share repurchase program authorizes the Company to repurchase shares over the next 24 months, from time to time, through transactions in the open market or in privately negotiated transactions. The number of shares to be purchased and the timing of the purchases will be based on market conditions and other factors. The stock repurchase program does not require the Company to repurchase any specific dollar value or number of shares, and the Company may terminate the repurchase program at any time.
TRANSWITCH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tabular dollars in thousands, except share and per share amounts)
Note 16. Quarterly Information (Unaudited)
The table below shows selected unaudited quarterly information of operating results. The Company believes that this information reflects all normal recurring adjustments necessary for a fair presentation of the information for the periods presented. Interim operating results are not necessarily indicative of future period results.
(1) The sum of quarterly per share amounts may not equal per share amounts reported for year-to-date periods due to changes in the number of weighted average shares outstanding and the effects of rounding.
(2) Effective January 1, 2006, the Company adopted SFAS 123R. As such, the reported net loss for 2007 and 2006 reflects stock-based compensation expense of $2.0 million (Q1 of $0.4 million, Q2 of $0.7 million, Q3 of $0.4 million and Q4 of $0.5 million) and $2.4 million (Q1 of $0.4 million, Q2 of $0.7 million, Q3 of $0.6 million and Q4 of $0.6 million), respectively.
SCHEDULE II
TRANSWITCH CORPORATION
VALUATION AN D QUALIFYING ACCOUNTS
(in thousands)
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A.
Item 9A. Controls and Procedures
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures
Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the Exchange Act). Based upon that evaluation, our principal executive officer and principal financial officer concluded that, as of the evaluation date, our disclosure controls and procedures are effective to ensure that information required to be disclosed in the reports that we file or submit under the Securities Exchange Act of 1934 are recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms.
Management’s Annual Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f). Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on our evaluation under the framework in Internal Control - Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2007.
The independent registered public accounting firm of the Company has issued a report on its assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2007. That report appears under Item 8.
Changes in Internal Control over Financial Reporting
No change in our internal control over financial reporting occurred during the quarter ended December 31, 2007, that materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Item 9B.
Item 9B. Other Information
None.
PART III
Item 10.
Item 10. Directors, Executive Officers and Corporate Governance
Information with respect to directors, the Audit Committee of the Board of Directors, Audit Committee financial experts and named executive officers is incorporated herein by reference to the section entitled Proposal No. 1 “Election of Directors”, “Audit Committee Report” and “Compensation and Other Information Concerning Named Executive Officers”, respectively, contained in our definitive proxy statement for the annual meeting of shareholders of the Company to be held on May 22, 2008, which is to be filed with the Securities and Exchange Commission not later than 120 days after the close of the year ended December 31, 2007. Information concerning Section 16(a) compliance is incorporated by reference to the section of our definitive proxy statement entitled “Section 16(a) Beneficial Ownership Reporting Compliance.”
Code of Ethics
The Company has a code of ethics that applies to all its directors, officers, employees and representatives. This code is publicly available at the investor relations section of the Company’s website located at http://www.transwitch.com. Amendments to the code of ethics and any grant of a waiver from a provision of the code requiring disclosure under applicable SEC rules will be disclosed within the investor relations section of the Company’s website located at http://www.transwitch.com. These materials may also be requested in print by writing to the Company’s Investor Relations department at TranSwitch Corporation, Attention: Investor Relations, Three Enterprise Drive, Shelton, CT 06484.
Corporate Governance Principles and Charters
The Company’s corporate governance principles and the charters of its Board of Directors’ Audit and Finance Committee, Nominations and Corporate Governance Committee and Compensation Committee are available at the investor relations section of the Company’s website at http://www.transwitch.com. These materials may also be requested in print by writing to the Company’s Investor Relations department at TranSwitch Corporation, Attention: Investor Relations, Three Enterprise Drive, Shelton, CT 06484.
Item 11.
Item 11. Executive Compensation
Information with respect to executive compensation is incorporated herein by reference to the section entitled “Compensation and Other Information Concerning Named Executive Officers” contained in our definitive proxy statement for the annual meeting of shareholders of the Company to be held on May 22, 2008 which is to be filed with the Securities and Exchange Commission not later than 120 days after the close of the year ended December 31, 2007.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Information regarding security ownership of certain beneficial owners, directors and executive officers is incorporated herein by reference to the information in the section entitled “Security Ownership of Certain Beneficial Owners and Management”, “Related Party Transactions” and “Indemnification Matters” contained in our definitive proxy statement for the annual meeting of shareholders of the Company to be held on May 22, 2008 which is to be filed with the Securities and Exchange Commission not later than 120 days after the close of the year ended December 31, 2007.
Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence
Information regarding certain relationships and related transactions of the Company is incorporated herein by reference to the sections entitled “Compensation Committee Interlocks and Insider Participation” and “Related Party Transactions” contained in our definitive proxy statement for the annual meeting of shareholders of the Company to be held on May 22, 2008 which is to be filed with the Securities and Exchange Commission not later than 120 days after the close of the year ended December 31, 2007.
Item 14.
Item 14. Principal Accountant Fees and Services
Information regarding principal accountant fees and services is incorporated herein by reference to the section entitled, under the headings “Information about the Corporation’s Independent Auditors” contained in our definitive proxy statement for the annual meeting of shareholders of the Company to be held on May 22, 2008, which is to be filed with the Securities and Exchange Commission not later than 120 days after the close of the year ended December 31, 2007.
PART IV
Item 15.
Item 15. Exhibits and Financial Statement Schedules
(a)(1) The following financial statements of TranSwitch Corporation are filed as part of this Form 10-K under Item 8 “Financial Statements and Supplementary Data.”
(a)(2) All other schedules are omitted because they are either not applicable, not required or because the information is presented in the Consolidated Financial Statements and Financial Statement Schedule or the notes thereto.
(a)(3) Exhibits
* Indicates management contract or compensatory plan, contract or arrangement identified as required in Item 15(a)(3) of Form 10-K
(b) Exhibits
We hereby file as exhibits to this Form 10-K those exhibits listed in Item 15 (a) (3) above.
(c) Financial Statement Schedule
TranSwitch files as a financial statement schedule to this Form 10-K, the financial statement schedule listed in Item 8 and 15(a) (2) above.
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.
TRANSWITCH CORPORATION
By:
/S/ DR. SANTANU DAS
Dr. Santanu Das
President and Chief Executive Officer
March 13, 2008
POWER OF ATTORNEY AND SIGNATURES
We, the undersigned named executive officers and directors of TranSwitch Corporation, hereby severally constitute and appoint Dr. Santanu Das and Mr. Robert A. Bosi, and each of them singly, our true and lawful attorneys, with full power to them and each of them singly, to sign for us in our names in the capacities indicated below, all amendments to this report, and generally to do all things in our names and on our behalf in such capacities to enable TranSwitch Corporation to comply with the provisions of the Securities Exchange Act of 1934, as amended and all requirements of the Securities and Exchange Commission.
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 and on the dates indicated.