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GSIT > SEC Filings for GSIT > Form 10-Q on 11-Feb-2014All Recent SEC Filings

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Form 10-Q for GSI TECHNOLOGY INC


11-Feb-2014

Quarterly Report


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

This Quarterly Report on Form 10-Q, and in particular the following Management's Discussion and Analysis of Financial Condition and Results of Operations, includes "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended ("the Exchange Act"). These forward-looking statements involve risks and uncertainties. Forward-looking statements are identified by words such as "anticipates," "believes," "expects," "intends," "may," "will," and other similar expressions. In addition, any statements which refer to expectations, projections, or other characterizations of future events, or circumstances, are forward-looking statements. Actual results could differ materially from those projected in the forward-looking statements as a result of a number of factors, including those set forth in this report under "Risk Factors," those described elsewhere in this report, and those described in our other reports filed with the Securities and Exchange Commission ("SEC"). We caution you not to place undue reliance on these forward-looking statements, which speak only as of the date of this report, and we undertake no obligation to update these forward-looking statements after the filing of this report. You are urged to review carefully and consider our various disclosures in this report and in our other reports publicly disclosed or filed with the SEC that attempt to advise you of the risks and factors that may affect our business.

Overview

We are a fabless semiconductor company that designs, develops and markets static random access memories, or SRAMs, that operate at speeds of less than 10 nanoseconds, which we refer to as Very Fast SRAMs, and low latency dynamic random access memories, or LLDRAMs. Our products are sold primarily to manufacturers of networking and telecommunications equipment. We are subject to the highly cyclical nature of the semiconductor industry, which has experienced significant fluctuations, often in connection with fluctuations in demand for the products in which semiconductor devices are used. Our revenues have been substantially impacted by significant fluctuations in sales to Cisco Systems, our largest customer, and we expect that future direct and indirect sales to Cisco Systems will continue to fluctuate significantly on a quarterly basis. The worldwide financial crisis and the resulting economic impact on the end markets we serve have adversely impacted our financial results since the second half of fiscal 2009, and we expect that the unsettled global economic environment will continue to affect our operating results in future periods. However, with no debt, substantial liquidity and a history of positive cash flows from operations, we believe we are in a better financial position than many other companies of our size.

Revenues. Our revenues are derived primarily from sales of our Very Fast SRAM products. Sales to networking and telecommunications original equipment manufacturers, or OEMs, accounted for 75% to 80% of our net revenues during our last three fiscal years. We also sell our products to OEMs that manufacture products for defense applications such as radar and guidance systems, for professional audio applications such as sound mixing systems, for test and measurement applications such as high-speed testers, for automotive applications such as smart cruise control and voice recognition systems, and for medical applications such as ultrasound and CAT scan equipment.

As is typical in the semiconductor industry, the selling prices of our products generally decline over the life of the product. Our ability to increase net revenues, therefore, is dependent upon our ability to increase unit sales volumes of existing products and to introduce and sell new products with higher average selling prices in quantities sufficient to compensate for the


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anticipated declines in selling prices of our more mature products. Although we expect the average selling prices of individual products to decline over time, we believe that, over the next several quarters, our overall average selling prices will increase due to a continuing shift in product mix to a higher percentage of higher price, higher density products. Our ability to increase unit sales volumes is dependent primarily upon increases in customer demand but, particularly in periods of increasing demand, can also be affected by our ability to increase production through the availability of increased wafer fabrication capacity from Taiwan Semiconductor Manufacturing Company, or TSMC, and Powerchip, our wafer suppliers, and our ability to increase the number of good integrated circuit die produced from each wafer through die size reductions and yield enhancement activities.

We may experience fluctuations in quarterly net revenues for a number of reasons. Historically, orders on hand at the beginning of each quarter are insufficient to meet our revenue objectives for that quarter and are generally cancelable up to 30 days prior to scheduled delivery. Accordingly, we depend on obtaining and shipping orders in the same quarter to achieve our revenue objectives. In addition, the timing of product releases, purchase orders and product availability could result in significant product shipments at the end of a quarter. Failure to ship these products by the end of the quarter may adversely affect our operating results. Furthermore, our customers may delay scheduled delivery dates and/or cancel orders within specified timeframes without significant penalty.

We sell our products through our direct sales force, international and domestic sales representatives and distributors. Revenues from product sales, except for sales to distributors, are generally recognized upon shipment, net of sales returns and allowances. Sales to consignment warehouses, who purchase products from us for use by contract manufacturers, are recorded upon delivery to the contract manufacturer. Sales to distributors are recorded as deferred revenues for financial reporting purposes and recognized as revenues when the products are resold by the distributors to the OEM. Sales to distributors are made under agreements allowing for returns or credits under certain circumstances. We therefore defer recognition of revenue on sales to distributors until products are resold by the distributor.

Cisco Systems, historically our largest OEM customer, purchases our products primarily through its consignment warehouses, SMART Modular Technologies, Jabil Circuit and Flextronics Technology, and also purchases some products through its contract manufacturers and directly from us. Historically, purchases by Cisco Systems have fluctuated from period to period. Based on information provided to us by Cisco Systems' consignment warehouses and contract manufacturers, purchases by Cisco Systems represented approximately 19%, 29%, 41% and 37% of our net revenues in the nine months ended December 31, 2013 and in fiscal 2013, 2012 and 2011, respectively. Our revenues have been substantially impacted by the fluctuations in sales to Cisco Systems, and we expect that future direct and indirect sales to Cisco Systems will continue to fluctuate significantly on a quarterly basis and that such fluctuations may significantly affect our operating results in future periods. To our knowledge, none of our other OEM customers accounted for more than 10% of our net revenues in fiscal 2013, 2012 or 2011.

Cost of Revenues. Our cost of revenues consists primarily of wafer fabrication costs, wafer sort, assembly, test and burn-in expenses, the amortized cost of production mask sets, stock-based compensation and the cost of materials and overhead from operations. All of our wafer manufacturing and assembly operations, and a significant portion of our wafer sort testing operations, are outsourced. Accordingly, most of our cost of revenues consists of payments to TSMC, Powerchip and independent assembly and test houses. Because we do not have long-term, fixed-price supply contracts, our wafer fabrication and other outsourced manufacturing costs are subject to the cyclical fluctuations in demand for semiconductors. Cost of revenues also includes expenses related to supply chain management, quality assurance, and final product testing and documentation control activities conducted at our headquarters in Sunnyvale, California and our branch operations in Taiwan.

Gross Profit. Our gross profit margins vary among our products and are generally greater on our higher density products and, within a particular density, greater on our higher speed and industrial temperature products. We expect that our overall gross margins will fluctuate from period to period as a result of shifts in product mix, changes in average selling prices and our ability to control our cost of revenues, including costs associated with outsourced wafer fabrication and product assembly and testing.

Research and Development Expenses. Research and development expenses consist primarily of salaries and related expenses for design engineers and other technical personnel, the cost of developing prototypes, stock-based compensation and fees paid to consultants. We charge all research and development expenses to operations as incurred. We charge mask costs used in production to cost of revenues over a 12-month period. However, we charge costs related to pre-production mask sets, which are not used in production, to research and development expenses at the time they are incurred. These charges often arise as we transition to new process technologies and, accordingly, can cause research and development expenses to fluctuate on a quarterly basis. We believe that continued investment in research and development is critical to our long-term success, and we expect to continue to devote significant resources to product development activities. Accordingly, we expect that our research and development expenses will increase in future periods, although such expenses as a percentage of net revenues may fluctuate.


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Selling, General and Administrative Expenses. Selling, general and administrative expenses consist primarily of commissions paid to independent sales representatives, salaries, stock-based compensation and related expenses for personnel engaged in sales, marketing, administrative, finance and human resources activities, professional fees, costs associated with the promotion of our products and other corporate expenses. We expect that our sales and marketing expenses will increase in absolute dollars in future if we are able to grow and expand our sales force but that, to the extent our revenues increase in future periods, these expenses will generally decline as a percentage of net revenues. We also expect that, in support of any future growth that we are able to achieve, general and administrative expenses will generally increase in absolute dollars. General and administrative expenses increased significantly in fiscal 2012, primarily as a result of substantial legal expenses related to our pending patent infringement and antitrust litigation with Cypress Semiconductor Corporation. These expenses have varied significantly from quarter to quarter, depending on the relative level of activity in the Cypress litigation. They were substantially reduced during the six months ended September 30, 2012 while the issuance of the initial determination in the ITC proceeding was pending, although they increased again in the following quarters as the parties filed and responded to petitions for review of the initial determination, which was issued on October 25, 2012, activities related to our pending antitrust litigation with Cypress entered the discovery phase and activity resumed in the federal court patent litigation that had been stayed pending the conclusion of the ITC proceeding. Whatever the outcome of our pending litigation with Cypress, we expect to continue to incur additional legal expenses as we pursue our two lawsuits against Cypress and other pending litigation. These expenses are likely to continue to fluctuate significantly from quarter to quarter and to be substantial during some quarters over the next one to two years.


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Results of Operations



The following table sets forth statement of operations data as a percentage of
net revenues for the periods indicated:



                                      Three Months Ended Dec. 31,       Nine Months Ended Dec. 31,
                                        2013               2012           2013              2012
Net revenues                               100.0 %            100.0 %        100.0 %           100.0 %
Cost of revenues                            61.0               58.1           55.8              57.6
Gross profit                                39.0               41.9           44.2              42.4
Operating expenses:
Research and development                    20.2               16.3           19.1              17.0
Selling, general and
administrative                              32.6               22.2           30.0              19.4
Total operating expenses                    52.8               38.5           49.1              36.4
Income (loss) from operations              (13.8 )              3.4           (4.9 )             6.0
Interest and other income
(expense), net                               0.4                0.6            0.6               0.7
Income (loss) before income
taxes                                      (13.4 )              4.0           (4.3 )             6.7
Provision (benefit) for income
taxes                                       (8.0 )             (0.8 )         (2.5 )             0.9
Net income (loss)                           (5.4 )%             4.8 %         (1.8 )%            5.8 %

Net Revenues. Net revenues decreased by 21.3% from $17.5 million in the three months ended December 31, 2012 to $13.8 million in the three months ended December 31, 2013 and by 9.1% from $50.3 million in the nine months ended December 31, 2012 to $45.7 million in the nine months ended December 31, 2013. The reduction in both periods reflects the continuing weakness in the global networking and telecommunications markets. Direct and indirect sales to Cisco Systems, our largest customer, decreased by $4.0 million from $6.5 million in the three months ended December 31, 2012 to $2.5 million in the three months ended December 31, 2013 and by $6.6 million from $15.4 million in the nine months ended December 31, 2012 to $8.8 million in the nine months ended December 31, 2013. Direct sales to Alcatel-Lucent increased by $1.1 million from $1.2 million in the three months ended December 31, 2012 to $2.3 million in the three months ended December 31, 2013 and by $3.5 million from $5.1 million in the nine months ended December 31, 2012 to $8.6 million in the nine months ended December 31, 2013. We believe that our net revenues in each of these periods were also negatively impacted by uncertainty regarding the outcome of our pending patent litigation with Cypress Semiconductor. We believe that the Commission's favorable final determination in the ITC proceeding has reduced this market uncertainty, although it is likely to continue to have some effect on our revenues over the next several quarters while our customers re-evaluate their SRAM sourcing strategies. Shipments of our SigmaQuad product line accounted for 41.2% of total shipments in the nine months ended December 31, 2013 compared to 35.2% of total shipments in the nine months ended December 31, 2012.

Cost of Revenues. Cost of revenues decreased by 17.5% from $10.2 million in the three months ended December 31, 2012 to $8.4 million in the three months ended December 31, 2013 and by 12.1% from $29.0 million in the nine months ended December 31, 2012 to $25.5 million in the nine months ended December 31, 2013. The decreases in both periods were primarily due to the corresponding decreases in net revenues, favorable product mix and reductions in variable manufacturing costs in both fiscal 2014 periods, offset by increases of $863,000 and $1.1 million in non-cash write-downs of excess or obsolete inventory in the three and nine month periods ended December 31, 2013, respectively. The increased write-downs recorded in the quarter ended December 31, 2013 adversely impacted gross margins by 6.2 percentage points in the quarter and 2.4 percentage points in the nine months ended December 31, 2013. These write-downs were taken to reflect the fact that management's prior expectations of increasing demand for our products following the favorable ITC ruling on June 7, 2013 and the exit of a competitor from the SRAM market in the December 2012 quarter did not materialize. Cost of revenues included stock-based compensation expense of $86,000 and $68,000, respectively, for the three months ended December 31, 2013 and 2012 and $282,000 and $245,000, respectively, for the nine months ended December 31, 2013 and 2012.

Gross Profit. Gross profit decreased by 26.9% from $7.3 million in the three months ended December 31, 2012 to $5.4 million in the three months ended December 31, 2013 and decreased by 5.1% from $21.3 million in the nine months ended December 31, 2012 to $20.2 million in the nine months ended December 31, 2013. Gross margin decreased from 41.9% in the three months ended December 31, 2012 to 39.0% in the three months ended December 31, 2013 and increased from 42.4% in the nine months ended December 31, 2012 to 44.2% in the nine months ended December 31, 2013. The changes in gross profit and gross margin were primarily related to changes in the mix of products and customers, the reduction in variable manufacturing expenses and the write-down of excess inventory discussed above.

Research and Development Expenses. Research and development expenses were essentially unchanged at $2.9 million in the three months ended December 31, 2012 and $2.8 million in the three months ended December 31, 2013. An increase of $20,000 in payroll related expenses was more than offset by decreases in stock-based compensation, legal fees and facility related expenses. Research and development expenses included stock-based compensation expense of $235,000 and $287,000, respectively, for the three months ended December 31, 2013 and 2012. Research and development expenses


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increased 1.9% from $8.6 million in the nine months ended December 31, 2012 to $8.7 million in the nine months ended December 31, 2013. This increase was primarily due to increases of $310,000 in payroll related expenses and $97,000 in maintenance and repair expenses partially offset by decreases in facility related expenses and stock-based compensation. Research and development expenses included stock-based compensation expense of $726,000 and $861,000, respectively, for the nine months ended December 31, 2013 and 2012.

Selling, General and Administrative Expenses. Selling, general and administrative expenses increased 15.4% from $3.9 million in the three months ended December 31, 2012 to $4.5 million in the three months ended December 31, 2013. This increase was primarily due to an increase of $889,000 in legal fees related to the pending patent infringement and antitrust litigation involving Cypress Semiconductor Corporation and other pending litigation, partially offset by a decrease in independent sales representative commissions. Selling, general and administrative expenses included stock-based compensation expense of $195,000 and $210,000, respectively, for the three months ended December 31, 2013 and 2012. Selling, general and administrative expenses increased 40.1% from $9.8 million in the nine months ended December 31, 2012 to $13.7 million in the nine months ended December 31, 2013. This increase was primarily related to an increase of $4.1 million in legal fees related to the pending patent infringement and antitrust litigation involving Cypress Semiconductor and other pending litigation. Selling, general and administrative expenses included stock-based compensation expense of $636,000 and $582,000, respectively, for the nine months ended December 31, 2013 and 2012.

Interest and Other Income (Expense), Net. Interest and other income (expense), net decreased 43.1%, from $109,000 in the three months ended December 31, 2012 to $62,000 in the three months ended December 31, 2013. Interest income decreased by $25,000 due to lower interest rates received on our cash and short-term and long-term investments. In addition, we experienced an exchange loss of $30,000 for the three months ended December 31, 2013 compared to an exchange loss of $8,000 for the three months ended December 31, 2012. Interest and other income (expense), net decreased 31.6% from $376,000 in the nine months ended December 31, 2012 to $258,000 in the nine months ended December 31, 2013. Interest income decreased by $57,000 due to lower interest rates received on our cash and short-term and long-term investments. In addition, we experienced an exchange loss of $34,000 for the nine months ended December 31, 2013 compared to an exchange gain of $28,000 for the nine months ended December 31, 2012. The exchange gains and losses in each period were related to our Taiwan branch operations.

Provision for Income Taxes. The benefit for income taxes increased from $140,000 in the three months ended December 31, 2012 to $1.1 million in the three months ended December 31, 2013, and a provision of $461,000 in the nine months ended December 31, 2012 increased to a benefit of $1.2 million in the nine months ended December 31, 2013. These changes were due primarily to the changes in pre-tax income for the respective periods. During the three months ended June 30, 2012, we settled a tax audit for less than the amount previously provided for resulting in a tax benefit of $168,000. During the quarter ended December 31, 2013, we established a valuation allowance of $371,000 for California research and development tax credit carryovers that are not expected to be utilized in future years.

Net Income (Loss). Net income decreased from $844,000 in the three months ended December 31, 2012 to a net loss of $734,000 in the three months ended December 31, 2013 and from $2.9 million in the nine months ended December 31, 2012 to a net loss of $789,000 in the nine months ended December 31, 2013. These decreases were primarily due to the decreases in net revenues, gross profit and the changes in operating expenses discussed above.

Liquidity and Capital Resources

As of December 31, 2013, our principal sources of liquidity were cash, cash equivalents and short-term investments of $74.8 million compared to $67.3 million as of March 31, 2013.

Net cash provided by operating activities was $6.7 million for the nine months ended December 31, 2013 compared to $9.2 million for the nine months ended December 31, 2012. The primary sources of cash in the current nine month period were a reduction in inventory of $2.9 million, and adjustments for stock-based compensation expense, depreciation expense and a provision for excess and obsolete inventory, partially offset by decreases in accounts payable and deferred revenue. We have allowed inventory levels to decrease in response to the slowdown in our business during fiscal 2013 and the first nine months of the current fiscal year.

Net cash used by investing activities was $6.3 million in the nine months ended December 31, 2013 compared to $5.3 million in the nine months ended December 31, 2012. Investment activities in the nine months ended December 31, 2013 consisted primarily of the purchase of agency bonds, state and municipal obligations, corporate notes and certificates of deposit of $29.9 million, partially offset by the sales and maturities of investments of $23.9 million. Investment activities in the nine months ended December 31, 2012 consisted primarily of the purchase of state and municipal obligations, corporate notes and certificates of deposit of $27.7 million, partially offset by the sales and maturities of investments of $22.7 million.

Net cash provided by financing activities in the nine months ended December 31, 2013 primarily consisted of the net proceeds from the sale of common stock pursuant to our employee stock plans, partially offset by the repurchase of $2.5


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million of our common stock at an average purchase price of $6.61. Net cash used by financing activities in the nine months ended December 31, 2012 primarily consisted of the repurchase of $3.6 million of our common stock at an average purchase price of $4.47, partially offset by the net proceeds from the sale of common stock pursuant to our employee stock plans.

We believe that our existing balances of cash, cash equivalents and short-term investments, and cash flow expected to be generated from our future operations will be sufficient to meet our cash needs for working capital and capital expenditures for at least the next 12 months, although we could be required, or could elect, to seek additional funding prior to that time. Our future capital requirements will depend on many factors, including revenue growth, if any, that we experience, the extent to which we utilize subcontractors, the levels of inventory and accounts receivable that we maintain, the timing and extent of spending to support our product development efforts and the expansion of our sales and marketing efforts and the extent of legal expenses that we incur in connection with pending litigation. Additional capital may also be required for the consummation of any acquisition of businesses, products or technologies that we may undertake. We cannot assure you that additional equity or debt financing, if required, will be available on terms that are acceptable or at all.


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Contractual Obligations



The following table describes our contractual obligations as of December 31,
2013:



                                                             Payments due by period
                                                                                      More than
                                  Up to 1 year      1 - 3 years      3 - 5 years       5 years          Total

Facilities and equipment
leases                           $      213,000    $     114,000    $           -    $          -    $   327,000
Wafer, test and mask purchase
obligations                           4,262,000          632,000                -               -      4,894,000
                                 $    4,475,000    $     746,000    $           -    $          -    $ 5,221,000

As of December 31, 2013, the current portion of our unrecognized tax benefits was $0, and the long-term portion was $2,163,000. The unrecognized tax benefits balance of $2,329,000 as of December 31, 2013 would affect our effective tax rate if recognized. As of December 31, 2013, $544,000 of unrecognized tax benefits have been recorded as a reduction of net deferred tax assets.

Critical Accounting Policies and Estimates

Our critical accounting policies and estimates are disclosed in our Annual Report on Form 10-K for the fiscal year ended March 31, 2013.

Off-Balance Sheet Arrangements

At December 31, 2013, we did not have any off-balance sheet arrangements or relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, established for the purpose of facilitating off-balance sheet arrangements or . . .

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