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| FCS > SEC Filings for FCS > Form 10-Q on 7-Nov-2008 | All Recent SEC Filings |
7-Nov-2008
Quarterly Report
Except as otherwise indicated in this Quarterly Report on Form 10-Q, the terms "we," "our," the "company," "Fairchild" and "Fairchild International" refer to Fairchild Semiconductor International, Inc. and its consolidated subsidiaries, including Fairchild Semiconductor Corporation, our principal operating subsidiary. We refer to individual corporations where appropriate.
Overview
Our primary business goal for 2008 is to continue our focus on new product development and new business opportunities. The development of new products will increase our mix of more proprietary, higher margin products as we continue to deemphasize outdated, lower margin products. Our focus is to be the supplier of choice that profitably provides important power management and signal path solutions for our customers. We are working to develop innovative power conversion and switching solutions that meet the highest efficiency standards. We reduced packaging costs in 2008 as we continue an insourcing program we began in 2007.
Beginning late in the third quarter of 2008, we observed progressively weakening order rates which we attribute to the current uncertainty in global economic conditions. Our current business forecasting is hampered by poor forward visibility, as our original equipment manufacturers and distributor end customers become increasingly cautious in their booking activity. While we cannot predict how long this down cycle will last, we are proactively taking actions to manage our business through it. We are doing this primarily through careful inventory and expense management.
We continue to manage our production output to match end market demand and tightly control our inventory. This includes our target of keeping our distribution inventory on hand at 11 weeks, plus or minus a week. At the end of the third quarter of 2008, distribution inventory on hand was at the midpoint of our target range. We also continue to manage our internal inventories, with a target range of 10 weeks of internal inventory, plus or minus a week. Our internal inventory at the end of the third quarter of 2008 was at approximately 10 weeks. By actively managing inventories we reduce the impact that inventory corrections can have on our shipments and revenues. These inventory levels will allow us to be responsive to our customers during these challenging economic conditions.
We are aggressively managing our manufacturing and operating expenses as evidenced by our significant spending reduction in the third quarter of 2008. We are taking actions to at least maintain this trend in the fourth quarter of 2008.
Effective for the first quarter of 2008, we have realigned our operating segments and management structure and, accordingly, our segment reporting. The realignment corresponds with the way we manage the business and was designed to improve end-market intimacy and segment focus in order to accelerate growth within key end markets. The new structure will allow us to better leverage our product and market knowledge to provide customers a more comprehensive set of power management and analog solutions. The new segments are Mobile, Computing, Consumer and Communications (MCCC); Power Conversion, Industrial and Automotive (PCIA); and the Standard Products Group (SPG), which did not change. All segment reporting within management's discussion and analysis has been restated to reflect this change.
MCCC's main focus is to supply the mobile, computing, consumer and communication end market segments with innovative power and signal path solutions including our low voltage MOSFETs, Power Management IC's and Mixed Signal Analog products. We seek to deliver exceptional product performance by optimizing silicon processes and application specific design to satisfy specific requirements for our customers. This enables us to deliver solutions with greater energy efficiency and smaller footprint than is commonly available. We expect a steady acceleration of new product sales especially for solutions targeted to the handset and ultraportable market.
PCIA's focus is to capitalize on the growing demand for greater energy efficiency in power supplies, battery chargers and automobiles. We are a leader in power factor correction, low standby power consumption designs and innovative switching techniques that enable greater efficiency under load. Improving the efficiency of our customers' products is vital to meeting new energy efficiency regulations. Effectively managing the power conversion and initial voltage regulation in power supplies is one of the greatest opportunities we have to improve overall system efficiency. We believe the growing global focus on energy efficiency will continue to drive strong growth in this product line.
SPG remains unchanged in its mission to profitably manage its business for superior cash flow and return on assets. We continue to follow an "asset-light" investment strategy for many of our standard products, which typically have lower gross margins and lower or negative long-term sales growth potential. Through this strategy we are gradually transferring the manufacturing of some of these mature products to third-party subcontractors, where appropriate, thereby allowing our own manufacturing facilities to focus on building higher growth, higher margin and more proprietary products. This strategy should improve return on invested capital by minimizing the operating expenses required to support the business. We believe that by following this long term "asset-light" approach for mature products, we will improve our return on invested capital and reduce our exposure to falling prices on commodity products during industry downturns.
Results of Operations
The following table summarizes certain information relating to our operating
results as derived from our unaudited consolidated financial statements.
Three Months Ended Nine Months Ended
September 28, September 30, September 28, September 30,
2008 2007 2008 2007
(Dollars in millions)
Total revenue $ 428.3 100.0 % $ 426.8 100.0 % $ 1,253.3 100.0 % $ 1,238.3 100.0 %
Gross margin 128.2 29.9 % 129.4 30.3 % 370.3 29.5 % 355.5 28.7 %
Operating expenses:
Research and development 29.1 6.8 % 26.9 6.3 % 89.2 7.1 % 82.4 6.7 %
Selling, general and
administrative 54.7 12.8 % 57.3 13.4 % 173.4 13.8 % 175.0 14.1 %
Amortization of
acquisition-related intangibles 5.5 1.3 % 5.6 1.3 % 16.6 1.3 % 18.0 1.5 %
Restructuring and impairments 1.8 0.4 % 2.4 0.6 % 13.3 1.1 % 8.5 0.7 %
Charge for potential litigation
outcomes, net - 0.0 % 7.8 1.8 % - 0.0 % 9.5 0.8 %
Loss on sale of product line, net - 0.0 % 0.4 0.1 % - 0.0 % 0.4 0.0 %
Purchased in-process research and
development - 0.0 % 0.2 0.0 % - 0.0 % 3.9 0.3 %
Total operating expenses 91.1 21.3 % 100.6 23.6 % 292.5 23.3 % 297.7 24.0 %
Operating income 37.1 8.7 % 28.8 6.7 % 77.8 6.2 % 57.8 4.7 %
Other expense, net 5.4 1.3 % 5.0 1.2 % 16.9 1.3 % 15.2 1.2 %
Income before income taxes 31.7 7.4 % 23.8 5.6 % 60.9 4.9 % 42.6 3.4 %
Provision for income taxes 5.0 1.2 % 3.5 0.8 % 10.2 0.8 % 12.6 1.0 %
Net income $ 26.7 6.2 % $ 20.3 4.8 % $ 50.7 4.0 % $ 30.0 2.4 %
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Total Revenue. Total revenue in the third quarter and first nine months of 2008 increased $1.5 million and $15.0 million, or approximately flat and 1%, respectively, as compared to the same periods in 2007. Included in the nine month increase is approximately $1.4 million of additional revenue resulting from a full first quarter of revenue related to the acquisition of System General as compared to a partial first quarter of revenue in 2007.
Geographic revenue information is based on the customer location within the indicated geographic region. The following table presents, as a percentage of sales, geographic sales for the United States, Other Americas, Europe, China, Taiwan, Korea and Other Asia/Pacific (which for our geographic reporting purposes includes Japan and Singapore) for the three and nine months ended September 28, 2008 and September 30, 2007.
Three Months Ended Nine Months Ended
September 28, September 30, September 28, September 30,
2008 2007 2008 2007
United States 8 % 9 % 8 % 9 %
Other Americas 3 2 3 3
Europe 12 12 13 12
China 33 30 30 29
Taiwan 20 21 21 21
Korea 12 13 13 13
Other Asia/Pacific 12 13 12 13
Total 100 % 100 % 100 % 100 %
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Gross Margin. Gross margin dollars in the third quarter decreased approximately 1% but increased 4% in the first nine months of 2008, as compared to the same periods in 2007. The increase in gross margin is due to increased revenue, improved product mix and lower inventory obsolescence costs, offset by higher energy and raw materials costs. In addition, included in gross margin in the first nine months of 2007 is a purchase accounting charge related to the System General acquisition of $3.7 million. The charge was an incremental expense for the recognition of the step-up of inventory to fair market value at the acquisition date.
Operating Expenses. Research and development (R&D) increased in the third quarter and first nine months of 2008, as compared to the same periods in 2007. R&D increased due to spending for new product development, investments in manufacturing cost reduction programs and increases in variable compensation. Selling, general and administrative (SG&A) expenses decreased in the third quarter of 2008 and first nine months of 2008, as compared to the same periods in 2007, due to continued cost discipline and reduced equity compensation, offset slightly by increased variable compensation.
The decrease in amortization of acquisition-related intangibles during the third quarter and first nine months of 2008 is due to certain intangibles becoming fully amortized. For the nine month period, the decrease was partially offset by an increase of approximately $0.5 million in amortization expense due to a full first quarter of expense related to the System General acquisition in 2008 as compared to a partial quarter of expense in the first quarter of 2007.
Restructuring and Impairments. During the three and nine months ended September 28, 2008, we recorded restructuring and impairment charges, net of releases, of $1.8 million and $13.3 million, respectively. In the third quarter of 2008, the charges include $0.2 million of employee separation costs and $1.7 million in lease impairment costs for the streamlining of warehouse operations associated with the 2008 Infrastructure Realignment Program and $0.1 million in releases associated with the 2007 Infrastructure Realignment Program. Charges for the nine months ended September 28, 2008 also include $2.3 million of employee separation costs, $8.0 million in asset impairment costs and $0.1 million in office closure costs all associated with the 2008 Infrastructure Realignment Program and $1.3 million of employee separation costs and $0.2 million in reserve releases both associated with the 2007 Infrastructure Realignment Program.
During the three and nine months ended September 30, 2007, we recorded $2.4 million and $8.5 million, respectively, in restructuring and impairment charges associated with the 2006 and 2007 Infrastructure Realignment Programs. In the third quarter of 2007, the $2.4 million was primarily related to employee separation costs associated with the 2007 Infrastructure Realignment Program. The first nine months of 2007 also includes $2.6 million in employee separation costs, $2.4 million in asset impairment costs and $0.2 million in contract cancellation costs, all associated with the 2007 Infrastructure Realignment Program. In addition, there was $0.6 million in severance charges and $0.3 million in employee separation costs associated with the 2006 Infrastructure Realignment Program.
The 2007 Infrastructure Realignment Program is partially complete and is expected to be substantially complete by the first quarter of 2009. This action impacts approximately 105 manufacturing and non-manufacturing personnel. We achieved annualized cost savings associated with the employee separation costs of approximately $7.8 million during the first nine months of 2008. We also achieved annualized depreciation cost savings of $0.8 million related to the asset impairment charges. We expect annualized cost savings of approximately $1.4 million effective during the fourth quarter of 2008 associated with severance charges incurred during the second quarter of 2008.
Employee severance related accruals associated with the 2008 Infrastructure Realignment Program are expected to be substantially complete by the first quarter of 2009. This action impacts approximately 85 manufacturing and non-manufacturing personnel. We expect annualized cost savings associated with the employee separation costs of approximately $4.9 million with a partial effect in the third quarter of 2008 and a full impact by the first quarter of 2009. In addition, we achieved annualized depreciation cost savings of approximately $1.6 million related to the asset impairment charges effective the third quarter of 2008. We expect annualized cost savings associated with the lease impairment of approximately $0.5 million effective during the third quarter of 2008.
Purchased In-Process Research and Development (IPR&D). In the third quarter and first nine months of 2007, we recorded $0.2 million and $3.9 million of IPR&D as a result of the acquisition of System General.
Other Expense, net.
The following table presents a summary of other expense, net for the three and
nine months ended September 28, 2008 and September 30, 2007.
Three Months Ended Nine Months Ended
September 28, September 30, September 28, September 30,
2008 2007 2008 2007
(In millions)
Interest expense $ 7.6 $ 9.7 $ 25.5 $ 29.0
Interest income (2.4 ) (4.9 ) (9.4 ) (14.3 )
Other (income) expense, net 0.2 0.2 0.8 0.5
Other expense, net $ 5.4 $ 5.0 $ 16.9 $ 15.2
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Interest expense. Interest expense in the third quarter and first nine months of 2008 decreased $2.1 million and $3.5 million, respectively, as compared to the same periods in 2007, primarily due to lower interest rates on outstanding debt and lower debt balances.
Interest income. Interest income in the third quarter and first nine months of 2008 decreased $2.5 million and $4.9 million, respectively, as compared to the same periods in 2007, as a result of lower invested balances in cash and cash equivalents and lower rates of return.
Income Taxes. Income taxes for the third quarter and first nine months of 2008 were $5.0 million and $10.2 million on income before taxes of $31.7 million and $60.9 million, respectively, as compared to income taxes of $3.5 million and $12.6 million on income before taxes of $23.8 million and $42.6 million, respectively, for the comparable periods in 2007. The effective tax rate for the third quarter and first nine months of 2008 was 15.8% and 16.7%, respectively, compared to 14.7% and 29.6%, respectively, for the comparable periods of 2007. The change in effective tax rate is primarily due to shifts of income among jurisdictions with differing tax rates, foreign currency revaluations of tax liabilities, the impact of the first quarter 2007 tax contingencies as a result of implementation of Financial Interpretation (FIN) 48, as well as a net tax benefit of $1.7 million recorded in the second quarter of 2008 relating to adjustments to prior year estimates. The net benefit included additional withholding tax expense associated with historical license fees cross-charged to a foreign jurisdiction which imposes a withholding tax on outbound payments, offset by the release of excess state tax accruals primarily relating to the repatriation of prior year's foreign earnings. In the first nine months of 2008, the valuation allowance on our deferred tax assets was increased by $0.9 million. In the third quarter of 2008, a deferred tax asset and full valuation allowance was recorded in the amount of $22.9 million relating to our Malaysian manufacturing incentives. This amount represents a cumulative incentive balance covering both current and prior accounting periods. Although the deferred tax asset and accompanying valuation allowance should have been grossed up for the incentives in prior periods, the results have been determined to be immaterial. Offsetting this increase to the valuation allowance on our deferred tax assets was the utilization of certain tax assets in the U.S. during the first nine months of 2008. The overall increase did not impact our results of operations.
In accordance with Accounting Principles Board (APB) Opinion 23, Accounting for Income Taxes - Special Areas, deferred taxes have not been provided on undistributed earnings of foreign subsidiaries which are reinvested indefinitely. Certain non-U.S. earnings, which have been taxed in the U.S. but earned offshore, have and continue to be part of our repatriation plan. After further analysis of our APB 23 position regarding the February 2007 acquisition of System General in Taiwan, a decision was made not to be permanently reinvested in Taiwan as the local laws provide incentives to companies to declare and distribute annual dividends. In addition, with the closing of one of our foreign operations, which ultimately will result in the repatriating of undistributed earnings, a decision was made not to be permanently reinvested at that site.
Reportable Segments.
The following tables present comparative disclosures of revenue and gross margin
of our reportable segments.
Three Months Ended
September 28, 2008 September 30, 2007
Gross Operating Gross Operating
Revenue % of total Margin % Income (loss) Revenue % of total Margin % Income (loss)
(Dollars in millions)
MCCC $ 172.9 40.4 % 35.2 % $ 22.0 $ 166.1 38.9 % 35.8 % $ 21.7
PCIA 160.7 37.5 % 30.2 % 13.5 161.1 37.7 % 30.6 % 13.0
SPG 94.7 22.1 % 21.2 % 7.4 99.6 23.4 % 21.9 % 10.8
Other (1) - - - (5.8 ) - - - (16.7 )
Total $ 428.3 100.0 % 29.9 % $ 37.1 $ 426.8 100.0 % 30.3 % $ 28.8
Nine Months Ended
September 28, 2008 September 30, 2007
Gross Operating Gross Operating
Revenue % of total Margin % Income (loss) Revenue % of total Profit % Income (loss)
(Dollars in millions)
MCCC $ 495.4 39.5 % 35.4 % $ 56.3 $ 456.0 36.8 % 34.7 % $ 42.1
PCIA 472.4 37.7 % 29.3 % 28.8 487.9 39.4 % 28.7 % 27.0
SPG 285.5 22.8 % 21.1 % 22.8 294.4 23.8 % 20.9 % 26.4
Other (1) - - - (30.1 ) - - - (37.7 )
Total $ 1,253.3 100.0 % 29.5 % $ 77.8 $ 1,238.3 100.0 % 28.7 % $ 57.8
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(1) The three and nine months ended September 28, 2008 includes $4.0 million and $16.8 million of stock-based compensation expense and $1.8 million and $13.3 million of restructuring and impairments expense, respectively. The three and nine months ended September 30, 2007 includes $6.1 million and $19.0 million of stock-based compensation expense, $2.4 million and $8.5 million of restructuring and impairments expense, and $7.8 million and $9.5 million in charges for potential litigation outcomes, net, respectively. Also included in the three and nine months ended September 30, 2007 is a net loss of $0.4 million on the sale of a product line. In addition, the nine months ended September 30, 2007 includes $0.3 million of other expense.
Mobile, Computing, Consumer and Communication. MCCC revenue increased approximately 4% and 9% in the third quarter and first nine months of 2008, respectively, as compared to the same periods in 2007. The overall increase in revenue was primarily driven by increases in unit volumes which were offset by decreases in average selling prices. The increase in unit volumes was driven by strong market demand for computing MOSFETs, switches and ultraportable products. Gross margin increased mainly due to increased revenue, improved product mix and lower inventory obsolescence costs.
MCCC had operating income of $22.0 million and $56.3 million in the third quarter and first nine months of 2008, respectively, compared to $21.7 million and $42.1 million for the comparable periods in 2007. The increase in operating income was due to higher gross margin, slightly offset by higher R&D expenses to support continue growth and SG&A expenses due to increased variable compensation and legal costs associated with litigation. The decrease in amortization of acquisition-related intangibles was due to certain intangibles becoming fully amortized.
Power Conversion, Industrial and Automotive. PCIA revenue was flat in the third quarter of 2008, while revenue decreased approximately 3% in first nine months of 2008, compared to the same periods in 2007. The overall decrease in revenue was driven by decreases in unit volumes which were partially offset by increases in average selling prices due to the introduction of higher margin new products and changes in product mix. In addition, PCIA includes a full first quarter of revenue in 2008 related to the acquisition of System General as compared to six weeks of revenue in the first quarter of 2007. The revenue decreases in the first nine months of 2008 were primarily driven by increased competition and reduced demand in our high voltage and power conversion products, offset by increases in demand for mobile charger products. Gross margin dollars decreased due to lower revenue and unit volumes, higher manufacturing costs as the result of lower factory utilization and unfavorable mix. Included in gross margin in first nine months of 2007 is a purchase accounting charge related to the System General acquisition of $3.7 million. The charge was an incremental expense for the recognition of the step-up of inventory to fair market value at the acquisition date.
PCIA had operating income of $13.5 million and $28.8 million in the third quarter and first nine months of 2008, respectively, compared to $13.0 million and $27.0 million for the comparable periods in 2007. The increase in operating income was mainly due to IPR&D expense included in the first nine months of 2007, of which there is no comparable amount in 2008, and lower SG&A expenses due to continued cost discipline. The increase was partially offset by reduced gross profit and higher R&D expenses due to new product development. In addition, R&D increased as a result of a full first quarter of expense related to the acquisition of System General as compared to a partial quarter of expense in the first quarter of 2007. The decrease in amortization of acquisition-related intangibles was due to certain intangibles becoming fully amortized; this was offset slightly by an increase due to a full first quarter of expense related to the System General acquisition as compared to a partial quarter of expense in the first quarter of 2007.
Standard Products. SPG revenue decreased approximately 5% and 3% in the third quarter and first nine months of 2008, respectively, as compared to the same periods in 2007. The overall decrease in revenue was primarily driven by decreases in unit volumes. Generally, we anticipate that SPG as a percentage of total revenue will continue to decrease, as we expect to experience faster growth in our MCCC and PCIA segments. While we anticipate revenue will continue to decline as a percentage of our total revenue, our strategy is to manage SPG more selectively, while maintaining or increasing our margins in this business. The decrease in gross margins is due to lower revenues as the result of lower unit volumes.
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