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LSI > SEC Filings for LSI > Form 10-Q on 8-Aug-2013All Recent SEC Filings

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Form 10-Q for LSI CORP


8-Aug-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

This management's discussion and analysis should be read in conjunction with the other sections of this Form 10-Q, including Part 1, Item 1-"Financial Statements."

Where more than one significant factor contributed to changes in results from year to year, we have quantified these factors throughout Management's Discussion and Analysis of Financial Condition and Results of Operations where practicable and material to understanding the discussion.

OVERVIEW

We design, develop and market complex, high-performance storage and networking semiconductors. We offer a broad portfolio of capabilities including custom and standard product integrated circuits that are used in hard disk drives, solid state drives, high-speed communications systems, computer servers, storage systems and personal computers. We deliver our products to our customers as stand-alone integrated circuits as well as incorporated onto circuit boards that offer additional functionality. We also license our intellectual property to other entities.

On January 3, 2012, we acquired SandForce, Inc., a provider of flash storage processors for enterprise and client flash solutions and solid state drives, for total consideration of approximately $346.4 million, net of cash acquired.

We derive the majority of our revenues from sales of products for the hard disk and solid state drive, server and networking equipment end markets and our revenues depend on market demand for these types of products. We believe that these markets offer us attractive opportunities because of the growing demand to create, store, manage and move digital content efficiently. Our products are sold primarily to original equipment manufacturers, or OEMs, in the server, storage and networking industries. We also sell some of our products through a network of resellers and distributors. The markets in which we operate are highly competitive and our revenues depend on our ability to compete successfully. We face competition not only from makers of products similar to ours, but also from competing technologies.

During the second quarter of 2013, we reported revenues of $589.6 million, compared to $659.6 million for the second quarter of 2012. For the six months ended June 30, 2013, we reported revenues of $1,158.2 million, compared to $1,282.0 million for the six months ended July 1, 2012. For the second quarter of 2013, we reported net income of $24.6 million, or $0.04 per diluted share, compared to $58.7 million, or $0.10 per diluted share, for the second quarter of 2012. For the six months ended June 30, 2013, we reported net income of $43.1 million, or $0.08 per diluted share, compared to $133.9 million, or $0.23 per diluted share, for the six months ended July 1, 2012.

Our board of directors authorized a stock repurchase program of up to $500.0 million on August 1, 2012. During the six months ended June 30, 2013, we repurchased 17.4 million shares for $122.3 million under this program. As of June 30, 2013, $356.3 million remained available for stock repurchases. Future purchases under the stock repurchase program are expected to be funded with available cash, cash equivalents and short-term investments. We ended the second quarter of 2013 with cash and cash equivalents, together with short-term investments, of $673.5 million, compared to $676.0 million at the end of 2012.

On July 24, 2013, we announced that our board of directors had declared a cash dividend of $0.03 per common share to be paid on September 20, 2013 to stockholders of record as of September 6, 2013. We intend to pay a regular quarterly cash dividend on our common stock, subject to approval by our board of directors.


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In early 2012, our sales of semiconductors for hard disk drives benefited as the hard disk drive industry recovered from the impact of flooding that occurred in Thailand in late 2011. Sales of desktop and notebook computers have declined in the first half of 2013 compared to the first half of 2012 and we expect the year over year decline in personal computer sales to continue in the near term, affecting sales of hard disk and solid state drives and our revenues from semiconductors for hard disk and solid state drives. We also believe that global economic conditions remain soft, and are resulting in reduced spending on information technology products in general, which is also affecting our revenues.

Many of our customers for standard product controllers used in solid state drives depend on suppliers for the flash memory used in those products. We believe that demand for that type of flash memory currently exceeds available supply and our customers may not be able to obtain all of the flash memory they could use, which may be affecting our revenues from standard product controllers for solid state drives.

Our networking revenues are closely tied to capital spending by wireless telecommunications carriers who have been limiting their capital expenditures in recent quarters. Some large carriers have indicated that they may increase their expenditures later in 2013.

In light of this environment, we are working to manage our operating expenses while at the same time continuing work on products under development. We are focusing our research and development operations on products that we believe provide favorable growth opportunities for our business. We are also working to expand our sales of products in newer areas such as flash memory-based server adapter cards, where we are working directly with large, internet-based datacenter operators, in addition to our more traditional customer base of OEMs and distributors.

RESULTS OF OPERATIONS

Revenues

Three Months Ended Six Months Ended
June 30, 2013 July 1, 2012 June 30, 2013 July 1, 2012
(In millions)

Revenues $ 589.6 $ 659.6 $ 1,158.2 $ 1,282.0

Revenues decreased by $70.0 million, or 10.6%, for the three months ended June 30, 2013 as compared to the three months ended July 1, 2012. The decrease primarily reflected lower unit sales of semiconductors used in hard disk drives in 2013. Revenues for the second quarter of 2012 reflected temporarily higher unit sales of semiconductors used in hard disk drives as a result of the recovery from the Thailand flooding, which had adversely impacted the hard disk drive industry in late 2011.

Revenues decreased by $123.8 million, or 9.7%, for the six months ended June 30, 2013 as compared to the six months ended July 1, 2012. The decrease reflected lower unit sales of semiconductors used in hard disk drives and our older networking products in 2013. Revenues in the first six months of 2012 reflected temporarily higher unit sales of semiconductors used in hard disk drives as a result of the recovery from the Thailand flooding. These decreases were partially offset by increased unit sales from the ramping of flash memory-based storage products and a $12.9 million increase in intellectual property licensing revenues in 2013.

Significant Customers:

The following table provides information about sales to Seagate, which was our only customer that accounted for 10% or more of our revenues in each of the three and six months ended June 30, 2013 and July 1, 2012:

Three Months Ended Six Months Ended June 30, 2013 July 1, 2012 June 30, 2013 July 1, 2012 Percentage of revenues 26 % 35 % 26 % 34 %

Revenues by Geography:

The following table summarizes our revenues by geography based on the ordering
location of the customer. Because we sell our products primarily to other
sellers of technology products and not to end users, the information in the
table below may not accurately reflect geographic end-user demand for our
products.



                                              Three Months Ended                        Six Months Ended
                                       June 30, 2013        July 1, 2012        June 30, 2013        July 1, 2012
                                                                     (In millions)
North America*                        $         157.7       $       154.5      $         304.3      $        313.4
Asia                                            385.3               464.0                759.3               878.0
Europe and the Middle East                       46.6                41.1                 94.6                90.6

Total                                 $         589.6       $       659.6      $       1,158.2      $      1,282.0

* Primarily the United States.

Revenues in Asia decreased by $78.7 million, or 17.0%, for the three months ended June 30, 2013 as compared to the three months ended July 1, 2012. The decrease was primarily attributable to lower unit sales of semiconductors used in hard disk drives in 2013 as compared to 2012, which benefited from the recovery from the flooding in Thailand. Revenues in North America increased by $3.2 million, or 2.1%, for the three months ended June 30, 2013 as compared to the three months ended July 1, 2012. The increase was primarily attributable to higher unit sales of our flash memory-based storage products. Revenues in Europe and the Middle East increased by $5.5 million, or 13.4%, for the three months ended June 30, 2013 as compared to the three months ended July 1, 2012. The increase was due to higher demand across our product groups.


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Revenues in Asia decreased by $118.7 million, or 13.5% for the six months ended June 30, 2013 as compared to the six months ended July 1, 2012. The decrease was primarily attributable to lower unit sales of semiconductors used in hard disk drives in 2013 as compared to 2012, which benefited from the recovery from the flooding in Thailand. The decrease was partially offset by increased unit sales from the ramping of flash memory-based storage products in 2013. Revenues in North America decreased by $9.1 million, or 2.9%, for the six months ended June 30, 2013 as compared to the six months ended July 1, 2012. The decrease was primarily attributable to lower unit sales of our server storage connectivity products and our storage semiconductors, offset in part by increased unit sales from the ramping of flash memory-based storage products and higher intellectual property licensing revenues in 2013. Revenues in Europe and the Middle East increased by $4.0 million, or 4.4%, for the six months ended June 30, 2013 as compared to the six months ended July 1, 2012. The increase was due to higher demand across our product groups.

Revenues by Product Groups:

The following table presents our revenues by product groups:



                                              Three Months Ended                        Six Months Ended
                                       June 30, 2013        July 1, 2012        June 30, 2013        July 1, 2012
                                                                     (In millions)
Storage products                      $         457.2       $       534.7      $         895.1      $      1,023.2
Networking products                             104.5                98.8                197.1               205.8
Other                                            27.9                26.1                 66.0                53.0

Total                                 $         589.6       $       659.6      $       1,158.2      $      1,282.0

Revenues from storage products decreased by $77.5 million, or 14.5%, and by $128.1 million, or 12.5%, respectively, for the three and six months ended June 30, 2013 as compared to the three and six months ended July 1, 2012. The decreases were attributable to lower unit sales of semiconductors used in hard disk drives in 2013. Revenues in 2012 reflected temporarily higher unit sales of semiconductors used in hard disk drives as a result of the recovery from the Thailand flooding. These decreases were partially offset by increased unit sales from the ramping of flash memory-based storage products in 2013.

Revenues from networking products increased by $5.7 million, or 5.8%, for the three months ended June 30, 2013 as compared to the three months ended July 1, 2012. The increase was primarily the result of the ramping of new products with existing customers. Revenues from networking products decreased by $8.7 million, or 4.2%, for the six months ended June 30, 2013 as compared to the six months ended July 1, 2012. The decrease was primarily the result of lower unit sales of semiconductors used in our older networking products, offset in part by increases from the ramping of new products with existing customers.

Other revenues increased by $1.8 million, or 6.9%, and by $13.0 million, or 24.5%, respectively, for the three and six months ended June 30, 2013 as compared to the three and six months ended July 1, 2012. The increases primarily resulted from higher intellectual property licensing revenues in 2013.

Gross Profit Margin



                                               Three Months Ended                            Six Months Ended
                                      June 30, 2013           July 1, 2012          June 30, 2013          July 1, 2012
                                                                    (Dollars in millions)
Gross profit margin                  $          299.3         $       331.9        $          588.8        $       618.8
Percentage of revenues                           50.8 %                50.3 %                  50.8 %               48.3 %

Various factors affect and may continue to affect our product gross margin. These factors include, but are not limited to, changes in our production mix and volume of product sales, the timing of production ramps and margin structures for new products, the positions of our products in their respective life cycles, the effects of competition, the price of commodities used in our products, provisions for excess and obsolete inventories, changes in the costs charged by foundry, assembly and test subcontractors, and amortization of acquired intangible assets.

Gross profit margin as a percentage of revenues increased by 0.5% and 2.5%, respectively, for the three and six months ended June 30, 2013 as compared to the three and six months ended July 1, 2012. The increase for each period was primarily attributable to sales of higher margin products, offset in part by decreased revenues with a similar level of fixed costs.


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Research and Development



                                               Three Months Ended                            Six Months Ended
                                      June 30, 2013           July 1, 2012          June 30, 2013          July 1, 2012
                                                                    (Dollars in millions)
Research and development             $          176.4         $       175.6        $          347.8        $       345.4
Percentage of revenues                           29.9 %                26.6 %                  30.0 %               26.9 %

R&D expense increased by $0.8 million, or 0.5%, and by $2.4 million, or 0.7%, respectively, for the three and six months ended June 30, 2013 as compared to the three and six months ended July 1, 2012. The increase for each period was primarily attributable to higher compensation-related expense and increased spending to support our new product development projects.

Selling, General and Administrative



                                                 Three Months Ended                           Six Months Ended
                                        June 30, 2013           July 1, 2012         June 30, 2013         July 1, 2012
                                                                     (Dollars in millions)
Selling, general and administrative    $           87.4        $         88.9       $          176.9       $       179.0
Percentage of revenues                             14.8 %                13.5 %                 15.3 %              14.0 %

SG&A expense decreased by $1.5 million, or 1.7%, for the three months ended June 30, 2013 as compared to the three months ended July 1, 2012. The decrease was primarily attributable to lower legal fees as a result of recent litigation settlements.

SG&A expense decreased by $2.1 million, or 1.2%, for the six months ended June 30, 2013 as compared to the six months ended July 1, 2012. The decrease was primarily attributable to lower stock-based compensation expense as a result of a $4.5 million charge in 2012 related to the accelerated vesting of stock options and restricted stock units for certain SandForce employees. The decrease was offset in part by an increase in sales and marketing expenses to support future revenue growth.

Restructuring of Operations and Other Items, net

The following table summarizes items included in restructuring of operations and
other items, net:



                                                Three Months Ended                                  Six Months Ended
                                      June 30, 2013              July 1, 2012             June 30, 2013             July 1, 2012
                                                                            (In millions)
Leases                               $            2.0 (a)       $          1.2 (a)      $             3.8 (a)      $          2.8 (a)
Employee severance and benefits                   2.2                      1.0                        6.6                     1.5

Total restructuring expense                       4.2                      2.2                       10.4                     4.3
Other items, net                                  3.6 (b)                  4.3 (c)                   17.9 (d)                17.7 (e)

Total restructuring of
operations and other items, net      $            7.8           $          6.5          $            28.3          $         22.0

(a) Includes lease obligation costs and related changes in estimates, changes in time value and other ongoing expenditures.

(b) Primarily includes a $2.7 million increase in environmental remediation liabilities based on current period information and $1.1 million for a litigation settlement.

(c) Primarily consists of $2.4 million of property and equipment write-downs and $1.9 million of costs related to the transition service agreement associated with the sale of the external storage systems business.

(d) Primarily includes $13.7 million for litigation settlements.

(e) Primarily consists of $8.4 million of acquisition-related costs and $6.5 million of costs related to the transition service agreement associated with the sale of the external storage systems business.

Interest Income and Other, net

The following table summarizes components of interest income and other, net:



                                               Three Months Ended                           Six Months Ended
                                       June 30, 2013         July 1, 2012         June 30, 2013           July 1, 2012
                                                                        (In millions)
Interest income                       $           1.1        $         1.6       $            1.4        $          3.2
Other income, net                                 1.1                  8.0                    8.7                  21.1

Total                                 $           2.2        $         9.6       $           10.1        $         24.3

The decreases in interest income of $0.5 million and $1.8 million, respectively, for the three and six months ended June 30, 2013 as compared to the three and six months ended July 1, 2012 primarily resulted from lower returns on investments in 2013 as compared to 2012.


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Other income, net, for the six months ended June 30, 2013 primarily included $6.1 million of insurance proceeds we received for covered losses from the 2011 Thailand flooding. We do not expect any further insurance recoveries related to the Thailand flooding. Other income, net, for the six months ended July 1, 2012 primarily included $6.1 million of income for services provided under the transition service agreements associated with the sale of the external storage systems business, a $5.8 million gain as a result of re-measuring our pre-acquisition equity interest in SandForce to estimated fair value and $4.7 million of insurance proceeds we received for covered losses from the 2011 Thailand flooding.

Income Taxes

We recorded income tax provisions of $5.2 million and $2.9 million for the three and six months ended June 30, 2013, respectively, and an income tax provision of $11.8 million and an income tax benefit of $37.3 million for the three and six months ended July 1, 2012, respectively.

The income tax provision for the six months ended June 30, 2013 included a reversal of $8.7 million of liabilities for uncertain tax positions, which included previously unrecognized tax benefits of $3.9 million and interest and penalties of $4.8 million, as a result of the expiration of statutes of limitations in multiple jurisdictions.

The income tax benefit for the six months ended July 1, 2012 included a tax benefit of approximately $43.2 million due to the release of valuation allowance resulting from the net deferred tax liabilities recorded as part of the SandForce purchase price allocation. The income tax benefit for the six months ended July 1, 2012 also included a reversal of $10.2 million of liabilities for uncertain tax positions, which included previously unrecognized tax benefits of $5.2 million and interest and penalties of $5.0 million, as a result of the expiration of statutes of limitations in multiple jurisdictions.

We compute our tax provision using an estimated annual tax rate. We exclude certain loss jurisdictions from the computation of the estimated annual rate when no benefit can be realized on those losses. Historically, we have sustained losses from our U.S. operations and, as a result, have maintained a full valuation allowance against U.S. net deferred tax assets. We recently achieved profitability in the U.S., however, we do not believe there is sufficient positive evidence to reach a conclusion that it is more likely than not that we will generate sufficient future taxable income in the U.S. to realize the benefits of our deferred tax assets. Depending on future results and projected trends, it is reasonably possible that we may determine in the foreseeable future that it is more likely than not that a significant portion of our U.S. deferred tax assets will be realized, resulting in a release of a significant portion of the valuation allowance.

FINANCIAL CONDITION, CAPITAL RESOURCES AND LIQUIDITY

Cash, cash equivalents, short-term investments and cash generated from our operations are our primary sources of liquidity. Short-term investments consist primarily of U.S. government and agency securities. We believe that our existing liquid resources and cash generated from operations will be adequate to meet our operating and capital requirements and other obligations, and fund cash dividends and common stock repurchases for more than the next 12 months. We may, however, find it desirable to obtain additional debt or equity financing. Such financing may not be available to us at all or on acceptable terms if we determine that it would be desirable to obtain additional financing.

Cash, cash equivalents and short-term investments decreased to $673.5 million as of June 30, 2013 from $676.0 million as of December 31, 2012. The decrease was mainly due to cash outflows for investing and financing activities, substantially offset by cash inflows generated from operating activities as described below.

Working Capital

Working capital increased by $3.9 million to $713.8 million as of June 30, 2013 from $709.9 million as of December 31, 2012. The increase was attributable to the following:

Other accrued liabilities decreased by $28.8 million primarily due to decreases in income taxes payable and other accruals;

Accrued salaries, wages and benefits decreased by $25.6 million primarily due to timing of payments for performance-based compensation and benefits; and

Accounts payable decreased by $18.7 million primarily due to the timing of invoice receipts and payments.

These increases in working capital were offset in part by the following:

Inventories decreased by $32.8 million, which primarily reflects our continued proactive management of inventory levels;

Accounts receivable decreased by $22.1 million primarily as a result of decreased revenues in the second quarter of 2013 as compared to the fourth quarter of 2012;

Prepaid expenses and other current assets decreased by $11.8 million primarily as a result of timing of certain prepayments; and


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Cash, cash equivalents and short-term investments decreased by $2.5 million primarily due to common stock repurchases of $122.3 million and $43.3 million used for purchases of property and equipment, net of proceeds from sales, substantially offset by net cash provided by operating activities of $140.7 million and proceeds from issuances of common stock of $31.9 million.

Working capital decreased by $264.9 million to $696.9 million as of July 1, 2012 from $961.8 million as of December 31, 2011. The decrease was primarily attributable to the following:

Cash, cash equivalents and short-term investments decreased by $334.4 million primarily due to $319.2 million used in connection with the acquisition of SandForce in January 2012, net of cash acquired, $176.2 million used to repurchase our common stock, and $77.4 million used for purchases of property and equipment, net of proceeds from sales, offset in part by net cash provided by operating activities of $167.5 million and proceeds from issuances of common stock of $82.1 million; and

Accounts payable increased by $30.9 million primarily due to an increase in inventory purchases to support new product introductions and the normal timing of invoice receipts and payments.

These decreases in working capital were offset in part by the following:

Accounts receivable increased by $50.3 million primarily as a result of increased revenues in the second quarter of 2012 as compared to the fourth quarter of 2011;

Other accrued liabilities decreased by $25.0 million primarily due to the utilization of restructuring reserves, payments of taxes and decreases in other accruals related to our operations, offset in part by an increase in deferred revenues; and

Inventories increased by $24.0 million as a result of increased inventory purchases to support new product introductions and higher revenues in 2012 as compared to 2011.

Cash Provided by Operating Activities

During the six months ended June 30, 2013, we generated $140.7 million of cash from operating activities as a result of the following:

Net income adjusted for non-cash items and other non-operating adjustments, which are quantified in our statements of cash flows included in Item 1;

. . .

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