Summary of IROBOT CORP - Yahoo! Finance

Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion of the financial condition and results of operations of iRobot Corporation should be read in conjunction with the consolidated financial statements and the related notes thereto included elsewhere in this Quarterly Report on Form 10-Q and the audited financial statements and notes thereto and Management's Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ended December 29, 2007, which has been filed with the Securities and Exchange Commission (the "SEC"). This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities and Exchange Act of 1934, as amended, and are subject to the "safe harbor" created by those sections. In particular, statements contained in this Quarterly Report on Form 10-Q, and in the documents incorporated by reference into this Quarterly Report on Form 10-Q, that are not historical facts, including, but not limited to statements concerning new product sales, product development and offerings, Roomba, Scooba, Looj and Verro products, PackBot tactical military robots, our home robot and government and industrial robots divisions, our competition, our strategy, our market position, market acceptance of our products, seasonal factors, revenue recognition, our profits, growth of our revenues, composition of our revenues, our cost of revenues, operating expenses, selling and marketing expenses, general and administrative expenses, research and development expenses, and compensation costs, our projected income tax rate, our credit facility and equipment facility, our valuations of investments, valuation and composition of our stock-based awards, and liquidity, constitute forward-looking statements and are made under these safe harbor provisions. Some of the forward-looking statements can be identified by the use of forward-looking terms such as "believes," "expects," "may," "will," "should," "could," "seek," "intends," "plans," "estimates," "anticipates," or other comparable terms. Forward-looking statements involve inherent risks and uncertainties which could cause actual results to differ materially from those in the forward-looking statements, including those risks and uncertainties described in our Annual Report on Form 10-K for the year ended December 29, 2007, as well as elsewhere in this report. We urge you to consider the risks and uncertainties discussed in our Annual Report on Form 10-K and in Item 1A contained herein in evaluating our forward-looking statements. We caution readers not to place undue reliance upon any such forward-looking statements, which speak only as of the date made. Overview
iRobot provides robots that make a difference. Founded in 1990 by roboticists who performed research at the Massachusetts Institute of Technology, we have developed proprietary technology incorporating advanced concepts in navigation, mobility, manipulation and artificial intelligence to build industry-leading robots. Our Roomba floor vacuuming robot and Scooba floor washing robot perform time consuming domestic chores in the home, while our Looj gutter cleaning robot and Verro pool cleaning robot perform tasks outside the home, and our PackBot tactical military robots perform battlefield reconnaissance and bomb disposal. In addition, we are developing the Small Unmanned Ground Vehicle reconnaissance robot for the U.S. Army's Future Combat Systems program, and through our acquisition of Nekton Research, LLC, or Nekton, we are entering the unmanned underwater vehicles marketplace. We sell our robots to consumers through a variety of distribution channels, including chain stores and other national retailers, and our on-line store, and to the U.S. military and other government agencies worldwide.
As of September 27, 2008, we had 505 full-time employees. We have developed expertise in most disciplines necessary to build durable, high-performance and cost-effective robots through the close integration of software, electronics and hardware. Our core technologies serve as reusable building blocks that we adapt and expand to develop next generation and new products, reducing the time, cost and risk of product development. Our significant expertise in robot design and engineering, combined with our management team's experience in military and consumer markets, positions us to capitalize on the expected growth in the market for robots.
Although we have successfully launched consumer and military products, our continued success depends upon our ability to respond to a number of future challenges. We believe the most significant of these challenges include increasing competition in the markets for both our consumer and military products, the impact on consumer spending as a result of current global economic conditions, our ability to obtain U.S. federal government funding for research and development programs, and our ability to successfully develop and introduce products and product enhancements.

Table of Contents

Critical Accounting Policies and Estimates The preparation of financial statements in conformity with generally accepted accounting principles in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenue and expenses during the reporting periods. On an ongoing basis, we evaluate our estimates and judgments, in particular those related to revenue recognition; valuation allowances (specifically sales returns and other allowances); assumptions used in valuing stock-based compensation instruments; evaluating loss contingencies; and valuation allowances for deferred tax assets. Actual amounts could differ significantly from these estimates. Our management bases its estimates and judgments on historical experience and various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities and the amounts of revenue and expenses that are not readily apparent from other sources. Additional information about these critical accounting policies may be found in the "Management's Discussion and Analysis of Financial Condition and Results of Operations" section included in our Annual Report on Form 10-K for the fiscal year ended December 29, 2007. Overview of Results of Operations
The following table sets forth our results of operations as a percentage of revenue for the three and nine month periods ended September 27, 2008 and September 29, 2007:

                                                        Three Months Ended                         Nine Months Ended
                                                September 27,         September 29,        September 27,        September 29,
                                                     2008                 2007                 2008                 2007
Revenue
Product revenue                                         94.4 %               91.9 %               91.5 %               89.2 %
Contract revenue                                         5.6                  8.1                  8.5                 10.8

Total revenue                                          100.0                100.0                100.0                100.0

Cost of Revenue
Cost of product revenue                                 63.2                 61.4                 64.1                 59.8
Cost of contract revenue                                 5.5                  7.1                  7.9                  9.3

Total cost of revenue                                   68.7                 68.5                 72.0                 69.1

Gross profit                                            31.3                 31.5                 28.0                 30.9
Operating Expenses
Research and development                                 5.3                  7.4                  6.3                  8.7
Selling and marketing                                   11.4                 17.4                 16.3                 20.0
General and administrative                               8.2                 10.1                 10.0                 11.7

Total operating expenses                                24.9                 34.9                 32.6                 40.4

Operating loss                                           6.4                 (3.4 )               (4.6 )               (9.5 )
Other income, net                                        0.2                  1.3                  0.4                  1.8

Loss before income taxes                                 6.6                 (2.1 )               (4.2 )               (7.7 )
Income tax expense (benefit)                             2.4                  0.1                 (2.0 )                0.1

Net loss                                                 4.2 %               (2.2 )%              (2.2 )%              (7.8 )%

Comparison of Three and Nine Months Ended September 27, 2008 and September 29, 2007
Revenue

                                               Three Months Ended                                                     Nine Months Ended
                        September 27,       September 29,         Dollar        Percent        September 27,        September 29,         Dollar        Percent
                             2008                2007             Change         Change            2008                 2007              Change         Change
                                      (Dollars in thousands)                                                 (Dollars in thousands)

Total revenue $ 92,415 $ 63,840 $ 28,575 44.8 % $ 216,919 $ 150,341 $ 66,578 44.3 %

Total revenue for the three months ended September 27, 2008 increased to $92.4 million, or 44.8%, compared to $63.8 million for the three months ended September 29, 2007. Revenue increased approximately $19.3 million, or 56.3%, in our home robots business and increased approximately $9.3 million, or 31.4%, in our government and

Table of Contents

industrial business.
The $19.3 million increase in revenue from our home robots division for the three months ended September 27, 2008 was driven by a $17.5 million increase in home floor care robots revenue due to a 54.7% increase in units shipped and a $1.8 million increase in product life cycle revenue (spares and accessories), as compared to the three months ended September 29, 2007. Total home floor care robots shipped in the three months ended September 27, 2008 were approximately 355,000 units compared to approximately 229,000 units in the three months ended September 29, 2007. The $9.3 million increase in revenue from our government and industrial business for the three months ended September 27, 2008 as compared to three months ended September 29, 2007 was due to a $12.9 million increase in product sales of our military robots. This increase was driven by a 179.8% increase in units shipped in the three months ended September 27, 2008 as compared to the three months ended September 29, 2007. This was partially offset by a 32.8% decrease in associated net average selling prices related to product mix primarily attributable to a shift of our military product line into lower priced FasTac units as compared to MTRS units last year, and a $3.7 million decrease in product life cycle revenue (spares and accessories). Revenue in the three months ended September 27, 2008 includes $0.6 million of contract revenue from Nekton.
Total revenue for the nine months ended September 27, 2008 increased to $216.9 million, or 44.3%, compared to $150.3 million for the nine months ended September 29, 2007. Revenue increased approximately $54.5 million, or 76.8%, in our home robots business and increased approximately $12.1 million, or 15.2%, in our government and industrial business.
The $54.5 million increase in revenue from our home robots division for the nine months ended September 27, 2008 was driven by a $49.5 million increase in home floor care robots revenue due to a 66.6% increase in units shipped and an 8.5% increase in average selling prices, and a $5.0 million increase in product life cycle revenue (spares and accessories), as compared to the nine months ended September 29, 2007. Total home floor care robots shipped in the nine months ended September 27, 2008 were approximately 761,000 units compared to approximately 456,000 units in the nine months ended September 29, 2007. The $12.1 million increase in revenue from our government and industrial business for the nine months ended September 27, 2008 as compared to the nine months ended September 29, 2007 was driven by an increase in product sales of our military robots of $13.1 million due to a 77.7% increase in units shipped, 645 compared to 363, offset by a 28.6% decrease in associated net average selling prices related to product mix primarily attributable to a shift of our military product line into lower priced models. Recurring contract development revenue generated under research and development contracts increased $2.2 million. These increases were partially offset by a decrease of $3.1 million in product life cycle revenue. Revenue in the nine months ended September 27, 2008 includes $0.6 million of contract revenue from Nekton.

Cost of Revenue

                                                      Three Months Ended                                                                  Nine Months Ended
                           September 27,          September 29,            Dollar           Percent           September 27,           September 29,            Dollar           Percent
                                2008                   2007                Change            Change               2008                    2007                 Change            Change
                                            (Dollars in thousands)                                                             (Dollars in thousands)
Total cost of
revenue                    $     63,485           $     43,728           $ 19,757             45.2 %         $     156,161           $     103,888           $ 52,273             50.3 %
As a percentage of
total revenue                      68.7 %                 68.5 %                                                      72.0 %                  69.1 %

Total cost of revenue increased to $63.5 million in the three months ended September 27, 2008, compared to $43.7 million in the three months ended September 28, 2007. The increase is due to higher costs associated with the 54.7% increase in home robot unit sales and the 179.8% increase in government and industrial unit sales.
Total cost of revenue increased to $156.2 million in the nine months ended September 27, 2008, compared to $103.9 million in the nine months ended September 29, 2007. The increase is primarily due to higher costs associated with the 66.6% increase in home robot unit sales and a 77.7% increase in government and industrial unit sales.

Table of Contents

Gross Profit

                                              Three Months Ended                                                    Nine Months Ended
                        September 27,       September 29,        Dollar        Percent       September 27,       September 29,         Dollar        Percent
                             2008                2007            Change         Change            2008                2007             Change         Change
                                      (Dollar in thousands)                                                (Dollars in thousands)
Total gross profit      $     28,930        $     20,112        $ 8,818          43.8 %      $     60,758        $     46,453        $ 14,305          30.8 %
As a percentage of
total revenue                   31.3 %              31.5 %                                           28.0 %              30.9 %

Gross profit increased $8.8 million, or 43.8%, to $28.9 million (31.3% of revenue) in the three months ended September 27, 2008, from $20.1 million (31.5% of revenue) in the three months ended September 28, 2007. The decrease in gross profit as a percentage of revenue was the result of the government and industrial division gross profit decreasing 2.4 percentage points, offset by the home robots division gross profit increasing 2.4 percentage points. The government and industrial decrease was the result of lower product life cycle revenue (spares and accessories) and shipments of lower margin FasTac units as compared to higher margin MTRS units last year. The 2.4 percentage point increase in the home robots division is attributable to product mix as revenue was primarily from the sale of higher margin Roomba 500 units in the current quarter as compared to the transition from lower margin Roomba 400 units in the comparable quarter.
Gross profit increased $14.3 million, or 30.8%, to $60.8 million (28.0% of revenue) in the nine months ended September 27, 2008, from $46.5 million (30.9% of revenue) in the nine months ended September 29, 2007. The decrease in gross profit as a percentage of revenue in the nine months ended September 27, 2008 compared to the nine months ended September 29, 2007 was the result of the home robots division gross profit decreasing 1.3 percentage points, and by the government and industrial division gross profit decreasing 3.8 percentage points. The 1.3 percentage point decrease in the home robots division was driven by business mix. Direct revenue represented a lower percentage of total revenue for the period due to growth in our international channel which carries lower margins than sales directly to consumers. This overall impact was partially offset by sales of higher margin Roomba 500 units in the nine months ended September 27, 2008 as compared to the nine months ended September 29, 2007. The government and industrial division decrease was attributable to the shift of our military product line into lower margin FasTac units in 2008 as compared to MTRS units in 2007, and to higher overhead expenses due to increased investments to drive scalability and increased facility costs. Research and Development

                                              Three Months Ended                                                  Nine Months Ended
                        September 27,       September 29,       Dollar        Percent       September 27,       September 29,       Dollar        Percent
                             2008                2007           Change        Change             2008                2007           Change        Change
                                    (Dollars in thousands)                                              (Dollars in thousands)
Total research and
development expense     $      4,940        $      4,739        $ 201            4.2 %      $     13,631        $     13,074        $ 557            4.3 %
As a percentage of
total revenue                    5.3 %               7.4 %                                           6.3 %               8.7 %

Research and development expenses increased by $0.2 million, or 4.2%, to $4.9 million (5.3% of revenue) in the three months ended September 27, 2008, from $4.7 million (7.4% of revenue) for the three months ended September 29, 2007. This increase in research and development expenses is primarily due to a write off of in-process research and development costs relating to our acquisition of Nekton in September 2008.
Research and development expenses increased by $0.6 million, or 4.3%, to $13.6 million (6.3% of revenue) in the nine months ended September 27, 2008, from $13.1 million (8.7% of revenue) for the nine months ended September 29, 2007. The increase in research and development expenses is primarily due to an increase in compensation and employee related costs, offset by a decrease in material costs associated with internal research and

Table of Contents

development projects and the write off of in-process research and development costs relating to the Nekton acquisition.
Given the seasonality of our business and the impact on quarterly revenues, research and development expenses are expected to fluctuate as a percent of revenue throughout the year.
Overall research and development headcount increased to 107 at September 27, 2008 compared to 105 at September 29, 2007, an increase of two employees or 2% In addition to our internal research and development activities discussed above, we incur research and development expenses under funded development arrangements with both governments and industrial third parties. For the three and nine months ended September 27, 2008, these expenses amounted to $5.1 million and $17.2 million compared to $4.5 million and $14.0 million for the three and nine months ended September 29, 2007, respectively. In accordance with generally accepted accounting principles, these expenses have been classified as cost of revenue rather than research and development expense.
Headcount for research and development under funded development arrangements increased to 80 at September 27, 2008 compared to 63 at September 29, 2007, an increase of 17 employees or 27%.

Selling and Marketing

                                              Three Months Ended                                                   Nine Months Ended
                        September 27,       September 29,        Dollar       Percent       September 27,       September 29,        Dollar        Percent
                             2008                2007            Change        Change            2008                2007            Change         Change
                                     (Dollars in thousands)                                              (Dollars in thousands)
Total selling and
marketing expense       $     10,522        $     11,115        $ (593 )        (5.3 )%     $     35,451        $     30,108        $ 5,343          17.7 %
As a percentage of
total revenue                   11.4 %              17.4 %                                          16.3 %              20.0 %

Selling and marketing expenses decreased by $0.6 million, or 5.3%, to $10.5 million (11.4% of revenue) in the three months ended September 27, 2008 from $11.1 million (17.4% of revenue) in the three months ended September 29, 2007. The decrease was primarily driven by decreases in our home robots division of $1.5 million primarily attributable to our direct response infomercial program, which ran during the three month period ending September 29, 2007 and was not repeated in the three month period ending September 27, 2008. Our government and industrial division had increases of $0.9 million primarily attributable to increases in sales representative commissions and other costs associated with bid and proposal activity as compared to the three months ended September 29, 2007.
Selling and marketing expenses increased by $5.3 million, or 17.7%, to $35.5 million (16.3% of revenue) in the nine months ended September 27, 2008 from $30.1 million (20.0% of revenue) in the nine months ended September 29, 2007. The increase was primarily driven by increases in our home robots division of $3.0 million in television, online and print media, $1.0 million in freight, $1.1 million in labor and sales commissions, $0.5 million in marketing consulting and research, and $1.1 million in fulfillment related expenses. The increase was offset by a decrease of $3.5 million related to our direct response infomercial program, which ran during the nine month period ending September 29, 2007 and was not repeated in the nine month period ending September 27, 2008. Our government and industrial division had increases of $1.7 million, primarily attributable to sales representative commission, labor, costs associated with bid and proposal activity, and other marketing costs as compared to the nine months ended September 29, 2007.
Overall selling and marketing headcount increased to 44 at September 27, 2008 compared to 36 as of September 29, 2007, an increase of 8 employees or 22% growth, primarily due to headcount growth in our overseas territories.

Table of Contents

General and Administrative

                                                      Three Months Ended                                                               Nine Months Ended
                           September 27,          September 29,           Dollar           Percent          September 27,          September 29,           Dollar           Percent
                                2008                   2007               Change            Change               2008                   2007               Change            Change
                                           (Dollars in thousands)                                                           (Dollars in thousands)
Total general and
administrative
expense                    $      7,578           $      6,459           $ 1,119             17.3 %         $     21,696           $     17,538           $ 4,158             23.7 %
As a percentage of
total revenue                       8.2 %                 10.1 %                                                    10.0 %                 11.7 %

General and administrative expenses increased by $1.1 million, or 17.3%, to $7.6 million (8.2% of revenue) in the three months ended September 27, 2008 from $6.5 million (10.1% of revenue) in the three months ended September 29, 2007. The increase in general and administrative expenses was primarily driven by increases of $0.5 million in compensation expense due to increased headcount and $0.5 million in stock-based compensation, over the comparable period last year.
General and administrative expenses increased by $4.2 million, or 23.7%, to $21.7 million (10.0% of revenue) in the nine months ended September 27, 2008 from $17.5 million (11.7% of revenue) in the nine months ended September 29, 2007. The increase in general and administrative expenses was primarily driven by increases of $1.9 million in compensation expense due to increased headcount, $1.0 million in stock-based compensation, $0.6 million in occupancy and depreciation expense relating to the move to our new corporate headquarters, and $0.6 million in bad debt expense associated with collectability concerns of receivables due from two of our retail customers given their financial condition and bankruptcy filings, over the comparable period last year.
Overall general and administrative headcount increased to 109 at September 27, 2008 compared to 84 as of September 29, 2007, an increase of 25 employees or 30% growth.

Other Income, Net

                                                    Three Months Ended                                                             Nine Months Ended
                          September 27,        September 29,          Dollar           Percent         September 27,         September 29,            Dollar            Percent
. . .