The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our Consolidated Financial Statements and related notes included in Item 8, "Financial Statements and Supplementary Data" in this annual report. This discussion contains forward-looking statements, which involve risks and uncertainties. Our actual results could differ materially from those anticipated in the forward-looking statements as a result of certain factors, including but not limited to those discussed in Item 1A, "Risk Factors" and elsewhere in this annual report. Please see the discussion of forward-looking statements at the beginning of this annual report under "Special Note Regarding Forward-Looking Statements.
Silicon Imageis a leading provider of video, audio and data connectivity solutions for the mobile, consumer electronics (CE), and personal computer (PC) markets. Our offerings include semiconductor, intellectual property (IP) and related service offerings which enable consumers to reliably connect their devices in home, office and mobile environments. Our products are deployed by the world's leading electronics manufacturers in devices such as smartphones, tablets, digital televisions (DTVs), Blu-ray Disc™ players, audio-video receivers, digital cameras, set-top-boxes, as well as desktop and notebook PCs. Our customers are product manufacturers in each of our target markets -mobile, CE, and PC. Our revenue is generated principally by sales of our semiconductor products, with other revenues derived from IP core/design licensing and royalty and adopter fees from our standards licensing activities.
Key Performance Indicators
Below is a summary of some of the quantitative performance indicators (as defined below) that are evaluated by management to assess our financial performance. Year Ended December 31, 2013 2012 2011 (Dollars in thousands)
Product Gross Profit as a Percentage of Total
Product Revenue 50.3 % 46.0 %
Licensing Gross Profit as a Percentage of Total
Licensing Revenue 98.2 % 98.7 %
Gross Profit as a Percentage of Total Revenue 58.8 % 56.2 %
Research and Development Expenses as a
Percentage of Total Revenue 27.9 % 30.7 %
Net Cash Provided by Operating Activities
Days Sales Outstanding In Receivables 46 55
Inventory Turns 9.7 9.8
Capital Spending as a Percentage of Total
Revenue 2.1 % 3.5 %
Gross Profit as a Percentage of Total Revenue
Gross profit as a percentage of total revenue ("gross profit percentage") is calculated as gross profit for the period divided by total revenue for the period. For a description of the reasons for changes in gross profit refer to the "Results of Operations" section below. Management considers gross profit percentage to be an important indicator of the Company demonstrating its ability to bring value to the market.
Research and Development as a Percentage of Total Revenue
Research and development as a percentage of total revenue ("R&D percentage") is calculated as research and development expense for the period divided by total revenue for the period. Management considers R&D percentage to be an important indicator in managing our business as investing in new technologies is a key to future growth. For a description of the reasons for changes in R&D spending refer to the "Results of Operations" section below.
Net Cash Provided by Operating Activities
Net cash provided by operating activities shown on our Consolidated Statements of Cash Flows primarily represents the excess of cash collected from billings to our customers and other receipts over cash paid to our vendors for expenses and inventory purchases to run our business. We believe that cash flows from operations are an important performance indicator because cash generation over the long term is essential to maintaining a healthy business and providing funds to help fuel growth. For a description of the reasons for changes in Net Cash Provided by Operating Activities refer to the "Liquidity and Capital Resources" section below. 33
Days Sales Outstanding in Receivables
We calculate days sales outstanding ("DSO") in receivables as net receivables at the end of the year divided by total revenue during the year and then multiplied by the number of days in the year, using 365 days for years. DSO in receivables indicates how well we are managing our collection of receivables, with lower DSO in receivables resulting in higher working capital availability. The more money we have tied up in receivables, the less money we have available for research and development, acquisitions, expansion, marketing and other activities to grow our business. DSO in receivables decreased from 2012 to 2013 primarily due to a lower concentration of sales in the last month of the fiscal year. DSO in receivables increased from 2011 to 2012 primarily due to timing of shipments and related invoicing relative to the year end.
We calculate inventory turns as cost of sales during the year divided by net inventories at the end of the year. This indicates how well we are managing our inventory levels, with higher inventory turns resulting in more working capital availability and a higher return on our investments in inventory. The more money we have tied up in inventory, the less money we have available for research and development, acquisitions, expansion, marketing and other activities to grow our business. The change from 2012 to 2013 is not significant. Inventory turns increased from 2011 to 2012 primarily due to the impact of increased sales volumes in relation to inventory levels.
Capital Spending as a Percentage of Total Revenue
Capital spending as a percentage of total revenue ("capital spending percentage") is calculated as capital expenditures for the period divided by total revenue for the period. Capital spending percentage indicates the extent to which we are expanding or improving our operations, including investments in technology and equipment. Management monitors capital spending levels as this assists management in measuring our cash flows, net of capital expenditures. The fiscal 2013 decrease was primarily due to fewer purchases of research & development assets and computers. The fiscal 2012 increase was primarily due to purchases of research and development assets, computers and software to support operations. 34
Annual Results of Operations Consolidated Summary The following table sets forth, for the years indicated, the percentage of total revenue represented by the line items reflected in our consolidated statement of operations: Year Ended December 31, 2013 2012 2011 Revenue: Product 82.2 % 80.6 % 78.8 % Licensing 17.8 % 19.4 % 21.2 % Total revenue 100.0 % 100.0 % 100.0 %
Cost of revenue and operating expenses:
Cost of product revenue 40.9 % 43.5 % 40.7 % Cost of licensing revenue 0.3 % 0.3 % 0.4 % Research and development 27.9 % 30.7 % 30.1 % Selling, general and administrative 23.4 % 22.8 %
Restructuring expense 0.6 % 0.0 %
Amortization of acquisition-related
intangible assets 0.3 % 0.2 %
Impairment of intangible asset 0.1 % 0.0 %
Total cost of revenue and operating expenses 93.5 % 97.5 %
Income (loss) from operations 6.5 % 2.5 %
Proceeds from legal settlement 0.5 %
Other than temporary impairment of a
privately-held company investment -0.5 % -3.0 %
Interest income and other, net 0.4 % 0.7 %
Income (loss) before provision for income
taxes and equity in net loss of an
unconsolidated affiliate 6.9 % 0.2 %
Income tax expense 2.5 % 3.9 %
Equity in net loss of an unconsolidated
affiliate 0.2 % 0.7 % 0.5 % Net income (loss) 4.2 % -4.4 % -5.3 % NET REVENUE
Revenue by our primary markets was as follows:
2013 Change 2012 Change 2011 (Dollars in thousands) Mobile
$ 149,14823.3 % $ 120,93683.8 % $ 65,789Consumer Electronics 65,101 0.8 % 64,566 -26.6 % 87,922 Personal Computers 13,059 -27.4 % 17,985 -12.4 % 20,523 Total product revenue $ 227,30811.7 % $ 203,48716.8 % $ 174,234
Percentage of total revenue 82.2 % 80.6 % 78.8 % Licensing revenue
$ 49,0980.5 % $ 48,877
Percentage of total revenue 17.8 % 19.4 %
21.2 % Total revenue
$ 276,4069.5 % $ 252,36414.2 % $ 221,00935
The increase in our mobile products from 2012 to 2013 was primarily due to the continued success of our MHL product line with the continued adoption and incorporation of our MHL-enabled solutions in high and mid-range devices by most of the world's leading smartphone OEMs. Contributing to this increase in these periods was the continued incorporation of our MHL-enabled products in new generations of Samsung's flagship smartphones and tablets. In addition to Samsung, numerous other devices manufacturers also incorporate our MHL-enabled solutions in their products. CE revenue increased from 2012 to 2013 primarily as a result of more customers purchasing our wireless ICs and MHL related ICs incorporated into displays. Our PC revenue continued to decline as we are no longer making any investments in these legacy products. However, our MHL and HDMI technologies are applied in various PC devices, and we also expect our 60GHz WirelessHD to be a key technology in the PC market which might increase the PC revenues in the coming years. The increase in our mobile products from 2011 to 2012 was primarily due to the success of our MHL product line. These products were introduced in the latter part of fiscal year 2010. Since the introduction of our MHL product line in the latter part of fiscal 2010, we have seen increased shipments of MHL products quarter over quarter. For fiscal year 2012, our mobile revenue grew 83.8 % and represented 59.4% of total product revenue up from 37.8% a year ago. The decrease in our CE revenue from 2011 to 2012 was primarily the result of a broad-based market shift to lower-end DTV products that incorporate our HDMI related semiconductor products less frequently.
Our licensing activity is complementary to our product sales and helps us to monetize our intellectual property and accelerate market adoption curves associated with our technology and standards. The increase in licensing revenue from 2012 to 2013 was primarily due to patent monetization and higher HDMI and MHL adopter revenues of
$5.2 million, partially offset by lower revenues from audit settlement of $4.8 million. Our licensing revenue may fluctuate year over year as a result of the timing of completion of IP license arrangements and settlement of royalty audits.
The increase in licensing revenue from 2011 to 2012 was primarily the result of increased MHL adopter base due to the continued success of our MHL product adoption in various markets and an increase in royalty revenues.
COST OF REVENUE AND GROSS MARGIN
2013 Change 2012 Change 2011 (Dollars in thousands) Cost of product revenue (1)
$ 112,9402.8 % $ 109,81522.0 % $ 90,035Product gross profit 114,368 22.1 % 93,672 11.3 % 84,199 Product gross profit margin 50.3 % 46.0 % 48.3 % (1) Includes stock-based compensation expense $ 603 $ 523 $ 670Cost of licensing revenue $ 88140.7 % $ 626-21.2 % $ 794Licensing gross profit 48,217 -0.1 % 48,251 4.9 % 45,981 Licensing gross profit margin 98.2 % 98.7 % 98.3 % Total cost of revenue $ 113,8213.1 % $ 110,44121.6 % $ 90,829Total gross profit 162,585 14.6 % 141,923 9.0 % 130,180 Total gross profit margin 58.8 % 56.2 % 58.9 % 36
Cost of Revenue
Cost of product revenue comprises the cost of our semiconductor devices, which consists of the cost of purchasing finished silicon wafers manufactured by independent foundries, costs associated with our purchase of assembly, test and quality assurance services and packaging materials for semiconductor products, as well as royalties and license fees paid to vendors. Also included in cost of product revenue is the amortization of purchased technology and manufacturing overhead, including costs of personnel and equipment associated with manufacturing support, provisions for excess and obsolete inventories, and stock-based compensation expense for personnel engaged in manufacturing support. Cost of licensing revenue consists primarily of costs to license our technology which involves modification, customization or engineering services, as well as other overhead costs relating to the aforementioned costs including stock-based compensation expense. Total cost of revenue increased from 2012 to 2013 primarily due to the growth in revenue volume and slightly higher fixed overhead costs, partially offset by
$1.8 millionrecovery received from a vendor related to previously written-down inventory. Total cost of revenue increased from 2011 to 2012 primarily due to the growth in revenue volume and a one-time $6.2 millionwrite down of unusable parts as a result of defective material used by one of our vendors. Product Gross Profit Margin Our product gross margin increased from 2012 to 2013 primarily due to recovery from a vendor of $1.8 millionfor previously written-down inventory, better absorption of fixed and semi-variable overheads as a result of increased revenue and lower depreciation expense of $0.5 milliondue to fully depreciated testers. The product mix shifted to higher margin products for 2013 compared to 2012. Our product gross profit margin decreased from 2011 to 2012 primarily due to the decrease in average selling price (ASP) per unit from $1.23in 2011 to $1.03in 2012, which was primarily driven by the increase in mobile revenue - which carries a lower ASP - as a share of total revenue and a one-time $6.2 millionwrite down of unusable parts as a result of defective material used by one of our vendors, partially offset by decreases in wafer, assembly, packaging and testing costs, improved freight and warehouse efficiencies, better absorption of fixed and semi-variable overheads as a result of increased revenue and lower depreciation expense due to fully depreciated testers.
Licensing Gross Profit Margin
Licensing gross profit margin was comparable in 2013, 2012 and 2011. We expect the licensing gross profit margin to be in the same range in the coming years.
Research and development (R&D)
Research and development expense consists primarily of salaries and related costs of employees engaged in research, design and development activities, including stock-based compensation expense. Development and design costs consist primarily of costs related to engineering design tools, mask and prototyping costs, testing and subcontracting costs. In addition, we incur costs related to facilities and equipment expense, among other items.
The following table presents details of research and development expense:
2013 vs 2012 2012 vs 2011 2013 2012 2011 $ Change % Change $ Change % Change (Dollars in thousands) Salaries and benefits
$ 41,119 $ 39,416 $ 38,759 $ 1,7034.3 % $ 6571.7 % Development and design costs 11,838 11,468 5,761 370 3.2 % 5,707 99.1 % Software licensing 5,267 4,787 4,366 480 10.0 % 421 9.6 % Stock-based compensation 3,576 3,585 3,774 (9 ) -0.3 % (189 ) -5.0 % Other 15,194 18,116 13,873 (2,922 ) -16.1 % 4,243 30.6 % Research and development $ 76,994 $ 77,372 $ 66,533 $ (378 )-0.5 % $ 10,83916.3 % R&D expense decreased from 2012 to 2013 primarily due to a one-time fee of $3.1 millionin January 2012resulting from our decision to hire 75 former engineering-related consultants from a subcontractor in India. This was partially offset by an increase in compensation related expenses as a result of additional incentive accruals in 2013 compared to 2012 of $1.7 millionand as a result of annual merit increases. Our R&D headcount as of December 31, 2013and 2012 was 350 employees. 37
-------------------------------------------------------------------------------- The increase in 2012 salaries and benefits was primarily attributable to an increase in headcount from our acquisition of SiBEAM in
May 2011and annual merit. Development and design costs increased in 2012 compared to 2011 due to higher tape out expenses of $3.5 millionas a result of our investment into lower geometry mask sets and increased licensing fees of $0.9 million. R&D headcount as of December 31, 2012was 350 employees as compared to 257 employees as of December 31, 2011primarily due to the expansion of our R&D capabilities in India.
Other line does not include any single item over
Selling, general and administrative (SG&A)
Selling, general and administrative expense consists primarily of personnel-related expenses, including stock-based compensation expense, marketing and promotional expenses, legal and other professional fees, facilities expenses and communications expenses.
The following table presents details of selling, general and administrative expense: 2013 vs 2012 2012 vs 2011 2013 2012 2011 $ Change % Change $ Change % Change (Dollars in thousands) Salaries and benefits
$ 36,981 $ 34,202 $ 32,913 $ 2,7798.1 % $ 1,2893.9 % Stock-based compensation 6,336 5,096 5,076 1,240 24.3 % 20 0.4 % Legal and accounting fees 5,514 4,684 4,260 830 17.7 % 424 10.0 % Selling and marketing expenses 3,505 2,876 1,461 629 21.9 % 1,415 96.9 % Other 12,400 10,588 11,567 1,812 17.1 % (979 ) -8.5 % Selling, general and administrative $ 64,736 $ 57,446 $ 55,277 $ 7,29012.7 % $ 2,1693.9 % The increase in 2013 salaries and benefits was primarily attributable to a $1.1 millionincrease in employee incentive payments in 2013 compared to 2012 as a result of increased headcount and annual merit increases. The increase in 2013 stock-based compensation was also due to annual awards granted to employees and officers. Legal and accounting fees increased in 2013 due to legal fees associated with patents and trademarks. Increase in selling and marketing expenses is due to increased events related expenses amounting to $0.6 million. Our SG&A headcount as of December 31, 2013was 216 employees as compared to 198 employees as of December 31, 2012. The increase in 2012 salaries and benefits and stock-based compensation was primarily attributable to an increase in headcount as a result of our acquisition of SiBEAM. Legal and accounting fees increased in 2012 due to legal fees associated with securities class action lawsuits. Increase in selling and marketing expenses is primarily due to increased events related expenses of $1.4 million. Our SG&A headcount as of December 31, 2012was 198 employees as compared to 187 employees as of December 31, 2011.
Other line does not include any single item over
Restructuring 2013 Change 2012 Change 2011 (Dollars in thousands) Restructuring expense
$ 2,0671779.1 % $ 110-95.2 % $ 2,269Percentage of total revenue 0.7 % 0.0 %
As part of our effort to improve our operational efficiency, in
December 2013, we implemented a restructuring plan to eliminate redundancies in our worldwide headcount. In connection with this plan, we recorded $1.6 millionin net restructuring costs related to employee severance and benefits. This restructuring plan will be completed in fiscal year 2014. In the third quarter of 2013, we also recorded $0.5 millionin net restructuring costs related to employee severance and benefits associated with reduction in workforce. We expect these restructuring activities will allow for potential savings through reduced employee expenses and lower operating costs in the coming years.
The restructuring expense for the year ended
38 -------------------------------------------------------------------------------- The restructuring expense for the year ended
December 31, 2011consisted primarily of $0.9 millionrelated to severance benefits and exit costs we incurred as a result of SiBEAM acquisition, $0.4 millionrelated to our storage business restructuring, $0.3 millionrelating to operating lease termination costs and $0.7 millionrelated to severance benefits for the headcount reduction in the fourth quarter of 2011.
Amortization of acquisition-related intangible assets
2013 Change 2012 Change 2011 (Dollars in thousands)
Amortization of acquisition-related intangible assets
$ 1,91687.1 % $ 1,024-35.4 % $ 1,585Percentage of total revenue 0.7 % 0.4 % 0.7 %
The increase in the amortization of intangible assets for the year ended
The decrease in amortization expense from 2011 to 2012 was primarily due to out of period adjustments resulting in the reversal of amortization expense of
$1.2 millionin 2012.
Impairment of intangible assets
In the third quarter of fiscal 2013, we determined that one of our developed technologies was impaired because the technology is no longer being used. We recorded an impairment charge of the unamortized balance of
$0.2 million. In the fourth quarter of 2011, we assessed our advances to a third party for intellectual properties for impairment. We concluded that the intangible assets related to these advances amounting to $8.5 millionwere impaired and recorded an impairment charge for the full amount in 2011.
Proceeds from legal settlement
May 16, 2011, we completed our acquisition of SiBEAM, Inc.pursuant to an Agreement and Plan of Merger dated April 13, 2011. The total merger consideration was $25.0 millionin cash and stock, $3.0 millionof which was held in escrow against potential claims for indemnifiable damages. In May 2013, we received $1.3 millionfrom the escrow agent in full satisfaction of any and all claims by Silicon Image Inc.
Other than temporary impairment of a privately held company investment
In 2013, we recorded a non-cash impairment charge of
In 2012, we recorded a non-cash impairment charge of
Interest income and others, net
2013 Change 2012 Change 2011 (Dollars in thousands) Interest income
$ 925-44.1 % $ 1,654-13.9 % $ 1,920Reversal of a subsidiary's accumulated currency translation adjustment - 0.0 % - 100.0 % (132 ) Other income (expense), net 278 3871.4 % 7 -94.6 % 130 Total $ 1,203-27.6 % $ 1,661-13.4 % $ 1,918Percentage of total revenue 0.4 % 0.7 % 0.9 % 39
Interest income decreased from 2012 to 2013 primarily due to lower interest income earned as a result of a decline in market interest rates.
Interest income decreased from 2011 to 2012 primarily due to the decrease in our short-term investments as a result of the cash used in the repurchase of treasury stock and a decline in market interest rates.
Equity in net loss of an unconsolidated affiliate
2013 Change 2012 Change 2011 (Dollars in thousands) Equity in net loss of an unconsolidated affiliate
$ 489-72.9 % $ 1,80381.4 % $ 994Percentage of total revenue 0.2 % 0.7 % 0.4 % As of December 31, 2013, we have a 21% equity ownership interest in a privately-held company that designs software for connectivity services (software company). We accounted this investment using equity method accounting in 2013. In 2012, we concluded that our investment in the wireless company was impaired and that such impairment was other than temporary. Hence, 2013 only includes the share of net loss of the software company which is lower that the share of net loss of the wireless company. In 2011, we purchased a 17.5% equity ownership interest in a privately-held company that developed and designed wireless audio semiconductor chips (wireless company). We recorded proportionate share of this wireless company's net loss according to equity method accounting. Equity in net loss from an unconsolidated affiliate increased from 2011 to 2012 primarily due to higher net loss of this company in 2012 as compared to 2011. Provision for income taxes 2013 Change 2012 Change 2011 (Dollars in thousands)
Provision for income taxes
Percentage of total revenue 2.5 % 4.0 % 3.9 % For the year ended
December 31, 2013, we recorded an income tax provision of $7.0 million, as compared to income tax provision of $10.0 millionand $ 8.6 millionin 2012 and 2011, respectively. Our effective income tax rate was 36.7% in 2013. In 2013, the primary reconciling items between our effective tax rate and the U.S. statutory tax rate of 35% included approximately $5.0 millionof income tax expense primarily due to foreign withholding taxes and foreign income inclusions. In addition, we provided approximately $4.6 millionfor an increase to the valuation allowance to offset deferred tax assets which are not more likely than not to be realized and approximately $1.0 millionfor stock based compensation. It is reasonably possible that sometime in the next 12 months positive evidence will be sufficient to release a material amount of our valuation allowance; however, there is no assurance that this will occur. The required accounting for potential release would have significant deferred tax consequences and would increase earnings in the quarter in which the allowance is released. The primary benefit provided was for approximately $8.0 millionrelated to the use of foreign tax credits and R&D credits. For the year ended December 31, 2012, our effective income tax rate was 1,691% in 2012. In 2012, the primary reconciling items between our effective tax rate and the U.S. statutory tax rate of 35% included approximately $6.7 millionof income tax expense primarily due to foreign withholding taxes and foreign income inclusions. In addition, we provided approximately $10.3 millionfor an increase to the valuation allowance to offset deferred tax assets which are not more likely than not to be realized and approximately $1.0 millionfor stock based compensation. The primary benefit provided was for approximately $6.6 millionrelated to the use of foreign tax credits. Our effective income tax rate was (415.4%) in 2011. In 2011, the primary reconciling items between our effective tax rate and the U.S. statutory tax rate of 35% included approximately $8.9 millionof income tax expense primarily due to foreign withholding taxes and foreign income inclusions. In addition, we provided approximately $ 8.2 millionfor an increase to the valuation allowance to offset deferred tax assets which are not more likely than not to be realized and approximately $1.0 millionfor stock based compensation. The primary benefit provided was for approximately $6.8 millionrelated to the use of foreign tax credits and R&D tax credits. 40
Liquidity and Capital Resources
Cash and Cash Equivalents, Short-term Investments and Working Capital. The table below summarizes our cash and cash equivalents, investments and working capital and the related movements (in thousands).
2013 Change 2012 Change 2011 (Dollars in thousands) Cash and cash equivalents
$ 82,220 $ 53,151 $ 29,069 $ (8,056 ) $ 37,125Short term investments 56,003 (22,395 ) 78,398 (45,903 ) 124,301 Total cash, cash equivalents and short term investments $ 138,223 $ 30,756 $ 107,467 $ (53,959 ) $ 161,426Percentage of total assets 54.8 % 47.4 % 60.7 % Total current assets $ 192,603 $ 26,986 $ 165,617 $ (43,048 ) $ 208,665Total current liabilities (45,892 ) (3,077 ) (42,815 ) 3,927 (46,742 ) Working capital $ 146,711 $ 23,909 $ 122,802 $ (39,121 ) $ 161,923As of December 31, 2013, $12.7 millionof the cash and cash equivalents and short term investments was held by foreign subsidiaries. Local government regulations may restrict our ability to move cash balances from our foreign subsidiaries to meet cash needs under certain circumstances; however, any current restrictions are not material. We do not currently expect such regulations and restrictions to impact our ability to pay vendors and conduct operations. If these funds are needed for our operations in the U.S., we may be required to accrue and pay U.S. taxes to repatriate these funds. However, our intent is to indefinitely reinvest these funds outside of the U.S. and our current plans do not demonstrate a need to repatriate them to fund our U.S. operations. We did not have any long-term investments. Additionally, we do not have any outstanding bank loans or credit facilities in place. Our future capital requirements and the adequacy of available funds will depend on many factors, including those set forth under "Risk Factors" in this Annual Report. We believe that our existing cash and cash equivalents, together with any cash generated from operations, will be sufficient to meet our working capital requirements and anticipated purchases of property and equipment for at least the next 12 months. However, this estimate is based on a number of assumptions that may prove to be wrong and we could exhaust our available cash and cash equivalents earlier than presently anticipated.
The following table summarizes our cash flows for the periods presented.
2013 2012 2011 Consolidated Statements of Cash Flows Data (Dollars in
Purchases of property and equipment
$ (5,761 ) $ (8,885 ) $ (7,821 )Depreciation and amortization 9,044 7,438 8,001 Cash provided by operating activities 39,192 4,676 7,458 Cash provided by (used in) investing activities 13,432 24,076 (4,762 ) Cash provided by (used in) financing activities 832 (36,788 ) 4,501 Operating Activities We generated $39.2 millionof cash from operating activities during the year ended December 31, 2013, primarily resulting from our net income of $11.5 million, offset by non-cash expense of $22.2 millionprimarily related to stock based compensation, depreciation and amortization. In addition, significant changes in our operating assets and liabilities compared to 2012 resulted from the following:
- decrease in accounts receivable of
over billings as well as lower concentration of sales in the last month of
the fiscal year; and
- increase in accounts payable of
due to our inventory purchases as well as timing of invoices and payments to
-------------------------------------------------------------------------------- We generated
$4.7 millionof cash from operating activities during the year ended December 31, 2012, primarily resulting from our net loss of $11.2 million, offset by non-cash expense of $28.5 millionrelated to stock based compensation, depreciation, amortization, impairment of investment in unconsolidated affiliate and equity in net loss of an unconsolidated affiliate. In addition, significant changes in our operating assets and liabilities compared to 2011 resulted from the following:
- increase in deferred margin on sales to distributors of
due to the increasing activities with our distributors driven by the
acceleration of demand for our products;
- increase in accounts receivable of
billings as well as timing of payments from our customers; and
- decrease in accrued and other liabilities of
decreased bonus accruals and product rebates.
$7.5 millionof cash from operating activities during the year ended December 31, 2011, primarily resulting from our net loss of $11.6 million, offset by non-cash expense of $30.2 millionrelated to stock based compensation, depreciation, amortization, impairment of intangible assets and equity in net loss of an unconsolidated affiliate. In addition, significant changes in our operating assets and liabilities resulted from the following:
- increase in accrued and other liabilities of
payroll related expenses, increase in accrued royalties, increase in accrued
product rebate and other current liabilities assumed from business acquisitions; - increase in accounts receivable of
$4.4 milliondue to an increase in billings as well as timing of payments from our customers;
- increase in prepaid expenses and other current assets of
advances toward hiring fees for 75 engineers in
2012 and the prepayment for additional software licenses;
- decrease in accounts payable of
payments to vendors;
- decrease in deferred margin on sales to distributors of
lower ending inventory at our distributors as of
to the ending inventory as at
- decrease in deferred license revenue of
license revenue recognized during the year ended
$13.4 millionof cash from investing activities during the year ended December 31, 2013, primarily resulting from net proceeds from the sales and maturities of short-term investments of $21.6 millionand proceeds from an escrow settlement of $1.3 million, partially offset by $5.8 millionused for capital expenditures, $1.8 millionused for strategic business investments and $2.0 millionused for purchases of intellectual properties. During the year ended December 31, 2013, we sold $62.7 millionand purchased $41.1 millionof short-term investments. We generated $24.1 millionof cash from investing activities during the year ended December 31, 2012, primarily resulting from net proceeds from the sales and maturities of short-term investments of $44.2 million, partially offset by $8.9 millionused for capital expenditures, $10.0 millionused for various strategic business investments and $1.2 millionused for purchases of intellectual properties. During the year ended December 31, 2012, we sold $104.8 millionand purchased $60.6 millionof short-term investments. We used $4.8 millionof cash in investing activities during the year ended December 31, 2011primarily due to $15.9 millionused in connection with our business acquisitions, $7.5 millionused to make an investment in an unconsolidated affiliate, $7.2 millionused for advances for intellectual properties, net of repayments of secured notes and $7.8 millionnet investment in property and equipment, partially offset by $33.7 millionnet proceeds from the sales and maturities of short-term investments. During the year ended December 31, 2011, we sold $147.0 millionand purchased $113.3 millionof short-term investments.
We are not a capital-intensive business. Our purchases of property and equipment in 2013, 2012 and 2011 2010 related mainly to testing equipment, leasehold improvements and information technology infrastructure.
$0.8 millionof cash from financing activities during the year ended December 31, 2013primarily due to proceeds from stock option exercises and purchases under our employee stock purchase program of approximately $5.5 millionand to the excess tax benefits from employee stock-based transactions of approximately $0.3 million, partially offset by $2.0 millionused to repurchase restricted stock units for minimum statutory income tax withholding and $3.0 millionused to repurchase our common stock in the open market. 42 -------------------------------------------------------------------------------- We used $36.8 millionof cash in financing activities during the year ended December 31, 2012primarily due to $39.7 millionused to repurchase our common stock, $2.2 millionused to repurchase restricted stock units for minimum statutory income tax withholding and $1.1 millioncash paid to settle contingent consideration liabilities, partially offset by the proceeds from stock option exercises and purchases under our employee stock purchase program of approximately $5.6 million. We generated $4.5 millionof cash from financing activities during the year ended December 31, 2011primarily due to the proceeds from stock option exercises and purchases under our employee stock purchase program of approximately $6.2 millionand to the excess tax benefits from employee stock-based transactions of approximately $2.1 million, partially offset by $3.3 millionused to repurchase restricted stock units for minimum statutory income tax withholding and $0.5 millionused to pay a line of credit assumed from business acquisition.
Our contractual obligations as of
December 31, 2013were as follows (in thousands): Payments Due In Less Than More Than Total 1 Year 1-3 Years 3-5 Years 5 Years Contractual Obligations: Operating lease obligations $ 10,755 $ 3,247 $ 4,608
The amounts above exclude liabilities under FASB ASC 740-10, "Income Taxes - Recognition section" amounting to approximately
$21.2 millionas of December 31, 2013as we are unable to reasonably estimate the ultimate amount or timing of settlement. See Note 11, "Income Taxes," in our notes to consolidated financial statements included in Item 15(a) of this report for further discussion.
Critical Accounting Policies and Estimates
Preparation of financial statements in conformity with U.S. Generally Accepted Accounting Principles (GAAP) requires management to make estimates and assumptions that affect amounts reported in our consolidated financial statements and accompanying notes. We base our estimates on historical experience and all known facts and circumstances that we believe are relevant. Actual results may differ materially from our estimates. We believe the accounting policies discussed below to be most critical to an understanding of our financial condition and results of operations because they require us to make estimates, assumptions and judgments about matters that are inherently uncertain.
We recognize revenue when the earnings process is complete, as evidenced by an agreement with the customer, delivery or performance has occurred, pricing is fixed or determinable and collectability is reasonably assured.
We recognize product revenue when all of the following criteria are met: (i) persuasive evidence of an arrangement exists, (ii) delivery has occurred, (iii) our price to the customer is fixed or determinable and (iv) collection of the resulting accounts receivable is reasonably assured. These criteria are usually met at the time of product shipment. However, we do not recognize revenue when any future performance obligations remain. Customer purchase orders and/or contracts are generally used to determine the existence of an arrangement. Shipping documents are used to verify product delivery. We assess whether a price is fixed or determinable based upon the payment terms associated with the transaction and whether the sales price is subject to refund or adjustment. We assess the collectability of our accounts receivable based primarily upon the creditworthiness of the customer as determined by credit checks and analysis, as well as the customer's payment history. We sell our products either directly to the OEMs or through distributors during the following types of transactions. "Sell-In"or "Direct" - These represent instances where we either ship products directly to the OEMs or to distributors with limited rights to price concessions or return. Revenue is generally recognized in these cases, at the time of shipment. Revenue from products sold to distributors with agreements allowing for stock rotations, but not price protection, is also generally recognized upon shipment. Reserves for stock rotations are estimated based primarily on historical experience and provided for at the time of shipment, and are not significant. 43 -------------------------------------------------------------------------------- "Sell-Through" - These represents instances where we ship products to the distributors where they have rights to price concessions and rights of return. Revenue is recognized only when the distributor reports that it has sold the product to its end customer as the sales price is not fixed or determinable at the time of shipment to the distributor. Our recognition of such distributor sell-through is based on point of sales reports received from the distributor which establish a customer, quantity and final price. Price concessions are recorded when incurred, which is generally at the time the distributor sells the product to its customer. Once we receive the point of sales reports from the distributor, our sales price for the products sold to end customers is fixed, as any product returns, stock rotation and price concession rights for that product lapse. From time to time, at our distributors' request, we enter into "conversion agreements" to convert certain products, which are designated for a specific end customer, from "sell-through" to "sell-in" products. The effect of these conversions is to eliminate any price protection or return rights on such products. Revenue for such conversions is recorded at the time such conversion agreements are signed, as it is at that point that the distributor ceases to have any price protection or return rights for such products. At the time of shipment to distributors for which revenue is recognized on a sell-through basis, we record a trade receivable for the selling price (since there is a legally enforceable right to payment), we relieve inventory for the carrying value of goods shipped (since legal title has passed to the distributor) and, until revenue is recognized, we record the gross margin in "deferred margin on sale to distributors," a component of current liabilities in our consolidated balance sheet. However, the amount of gross margin we recognize in future periods will be less than the originally recorded deferred margin on sales to distributor as a result of negotiated price concessions. We sell each item in our product price book to all of our "sell-through" distributors worldwide at a relatively uniform list price. However, distributors resell our products to end customers at a very broad range of individually negotiated price points based on customer, product, quantity, geography, competitive pricing and other factors. The majority of our distributors' resales are priced at a discount from the list price. Often, under these circumstances, we remit back to the distributor a portion of their original purchase price after the resale transaction is completed. Thus, a portion of the "deferred margin on the sale to distributor" balance represents a portion of distributors' original purchase price that will be remitted back to the distributor in the future. The wide range and variability of negotiated price concessions granted to the distributors does not allow us to accurately estimate the portion of the balance in the deferred margin on the sale to distributors that will be remitted back to the distributors. In addition to the above, we also reduce the deferred margin by anticipated or determinable future price protections based on revised price lists, if any. Sales Returns, Pricing Adjustments and Allowance for Doubtful Accounts. We record reductions of revenue for estimated product returns and pricing adjustments, such as rebates, in the same period that the related revenue is recorded. The amount of these reductions is based on historical sales returns, analysis of credit memo data, specific criteria included in rebate agreements, and other factors known at the time. We reverse the accrual for unclaimed rebate amounts as specific rebate programs contractually end and when we believe unclaimed rebates are no longer subject to payment and will not be paid. Thus the reversal of unclaimed rebates may have a positive impact on our net revenue and net income in subsequent periods. Additional reductions of revenue would result if actual product returns or pricing adjustments exceed our estimates. We also maintain an allowance for doubtful accounts for estimated losses resulting from the inability of customers to make required payments. If the financial condition of any customer were to deteriorate, resulting in an impairment of its ability to make payments, additional allowances could be required.
We enter into IP licensing agreements that generally provide licensees the right to incorporate our IP components in their products with terms and conditions that vary by licensee. Revenue earned under such agreements is classified as licensing revenue. Our IP licensing agreements generally include multiple elements, which may include one or more off-the-shelf and/or customized IP licenses bundled with support services covering a fixed period of time, usually one year. For multiple-element arrangements, if the different elements in the arrangement qualify as separate units of accounting we allocate the total arrangement consideration to each element based on relative selling price. In such circumstances, we use a hierarchy to determine the selling price to be used for allocating revenue to deliverables: (i) vendor-specific objective evidence of fair value (VSOE), (ii) third-party evidence of selling price (TPE), and (iii) best estimate of the selling price (ESP). VSOE generally exists only when we sell the deliverable separately and is the price actually charged by us for that deliverable. ESPs reflect our best estimates of what the selling prices of elements would be if they were sold regularly on a stand-alone basis. For the elements of IP licensing agreements we concluded that VSOE exists only for our support services based on periodic stand-alone renewals. For all other elements in IP licensing agreements, we concluded that no VSOE or TPE exists because these elements are almost never sold on a stand-alone basis by us or our competitors. Our process for determining ESP for deliverables without VSOE or TPE considers multiple factors that may vary depending upon the unique facts and circumstances related to each deliverable. The key factors considered by us in developing the ESPs include prices charged by us for similar offerings, if any, our historical pricing practices, the nature and complexity of different technologies being licensed. 44
-------------------------------------------------------------------------------- Amounts allocated to the delivered off-the-shelf IP licenses are recognized at the time of sale provided the other conditions for revenue recognition have been met. Amounts allocated to the support services are deferred and recognized on a straight-line basis over the support period, usually one year. Certain licensing agreements provide for royalty payments based on agreed upon royalty rates. Such rates can be fixed or variable depending on the terms of the agreement. The amount of revenue we recognize is determined based on a time period or on the agreed-upon royalty rate, extended by the number of units shipped by the customer. To determine the number of units shipped, we rely upon actual royalty reports from our customers when available and rely upon estimates in lieu of actual royalty reports when we have a sufficient history of receiving royalties to enable us to make a reliable estimate of the amount of royalties owed to us. These estimates for royalties necessarily involve the application of management judgment. As a result of our use of estimates, period-to-period numbers are "trued-up" in the following period to reflect actual units shipped per the royalty reports ultimately received from the customer. In cases where royalty reports and other information are not available to allow us to estimate royalty revenue, we recognize revenue only when royalty reports are received. We also perform compliance audits for our licenses and any additional royalties as a result of the compliance audits are recorded as revenue in the period when the compliance audits are settled and the customers agree to pay the amounts due. From time to time, we enter into contracts related to licenses of our technology that involve significant modification, customization or engineering services. Revenues derived from such license contracts are accounted for using the percentage-of-completion method or completed contract method. The completed contract method is used for contracts where there is a risk over final acceptance by the customer or for contracts that are short term in nature.
We account for stock-based compensation in accordance with the authoritative guidance on stock compensation. We measure stock-based compensation expenses for employees at the grant date fair value of the award, and recognize expenses, net of forfeitures, on a straight-line basis over the requisite service period, which is generally the vesting period. We account for stock options issued to non-employees in accordance with the guidance for equity-based payments to non-employees. We believe that the fair value of stock options is more reliably measured than the fair value of the services received. As such, the fair value of the unvested portion of the options granted to non-employees is re-measured each period. The resulting increase in value, if any, is recognized as expense during the period the related services are rendered. We estimate the fair value of stock-based option award using the Black-Scholes option-pricing model. The determination of the fair value of a stock-based award on the date of grant using the Black-Scholes option-pricing model is affected by our stock price on the date of grant as well as assumptions regarding a number of complex and subjective variables. These variables include our expected stock price volatility over the expected term of the award, actual and projected employee stock option exercise behaviors, the risk-free interest rate for the expected term of the award and expected dividends. The value of the portion of the award that is ultimately expected to vest is recognized as expense in our consolidated statements of operations. We estimate the expense for restricted stock grants based on grant date fair value and estimate the fair value of market-based performance restricted stock units granted using a Monte Carlo simulation model. Stock-based compensation expenses are classified in the consolidated statement of operations based on the department to which the related employee reports.
Inventories and Inventory Valuation
We record inventories at the lower of actual cost (computed on a first-in, first-out basis), or market value. Market value is based upon an estimated average selling price reduced by the estimated costs of disposal. The determination of market value involves numerous judgments including estimating average selling prices based up recent sales, industry trends, existing customer orders, and seasonal factors. Should actual market conditions differ from our estimates, our future results of operations could be materially affected. The valuation of inventory also requires us to estimate excess and obsolete inventory. The determination of obsolete or excess inventory is estimated based on a comparison of the quantity and cost of inventory on hand to our forecast of customer demand. Customer demand is dependent on many factors and requires us to use significant judgment in our forecasting process. We also make assumptions regarding the rate at which new products will be accepted in the marketplace and at which customers will transition from older products to newer products. Generally, inventories in excess of six months forecasted demand are written down to zero (unless specific facts and circumstances warrant no write-down or a write-down to a different value) and the related provision is recorded as a cost of sales. If actual market conditions are less favorable than those projected by management, additional inventory write-downs may be required, which would have a negative impact on our gross margin. If we ultimately sell inventory that we have previously written down, our gross margins in future periods will be positively impacted. 45 --------------------------------------------------------------------------------
Valuation of Long-Lived Assets, Intangible Assets and Goodwill
We test long-lived assets, including intangible assets with finite lives for impairment whenever events or circumstances suggest that such assets may not be recoverable or that their useful lives are no longer appropriate. An impairment loss is recognized when the carrying amount of these long-lived assets exceeds their fair value. An impairment is only deemed to have occurred if the sum of the forecasted undiscounted future cash flows related to the assets is less than the carrying value of the asset we are testing for impairment. If the forecasted cash flows are less than the carrying value, then we must write down the carrying value to its estimated fair value. These forecasted undiscounted cash flows include estimates and assumptions related to revenue growth rates and operating margins, risk-adjusted discount rates based on our weighted average cost of capital, future economic and market conditions and determination of appropriate market comparables. If future forecasts are revised, they may indicate or require future impairment charges. We base our fair value estimates on assumptions we believe to be reasonable but that are unpredictable and inherently uncertain. Actual future results may differ from those estimates. Goodwill is tested for impairment on an annual basis (on
September 30th), and whenever events or changes in circumstances indicate that the carrying amount of goodwill may not be recoverable. Recoverability of goodwill is measured at the reporting unit level by comparing the reporting unit's carrying amount, including goodwill, to the fair value of the reporting unit. Management has determined that we have one reporting unit. If the recorded value of the assets, including goodwill, and liabilities ("net book value") of the reporting unit exceeds its fair value, an impairment loss may be required to be recognized. Further, to the extent the carrying value of the goodwill is greater than its fair value, all, or a significant portion of goodwill may be considered impaired.
Investments in Privately Held Companies
Investments in privately-held companies are reviewed on a quarterly basis to determine if their values have been impaired and adjustments are recorded as necessary. We assess the potential impairment of these investments by considering available evidence such as the investee's historical and projected operating results, progress towards meeting business milestones, ability to meet expense forecasts, and the prospects for industry or market in which the investee operates. Upon disposition of these investments, the specific identification method is used to determine the cost basis in computing realized gains or losses. Declines in value that are judged to be other-than-temporary are reported in interest income and other, net in the accompanying consolidated statements of operations. Deferred Tax Assets
Income tax expense is an estimate of current income taxes payable or refundable in the current fiscal year based on reported income before income taxes. Deferred income taxes reflect the effect of temporary differences and carry-forwards that are recognized for financial reporting and income tax purposes.
Deferred tax assets and liabilities are recognized based on the differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, utilizing the tax rates that are expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. We record valuation allowances to reduce any deferred tax assets to the amount that we estimate will more likely than not be realized based on available evidence and management's judgment. In addition, the calculation of liabilities for uncertain tax positions involves significant judgment in estimating the impact of uncertainties in the application of complex tax laws. Resolution of these uncertainties in a manner inconsistent with our expectations could have a material impact on our results of operations and financial position.
We have engaged in restructuring actions, which require management to utilize significant estimates related to the timing and amount of severance and other employee separation costs for workforce reduction programs, lease cancellation and other exit costs. We accrue for severance and other employee separation costs under these actions when it is probable that benefits will be paid and the amount is reasonably estimable. The rates used in determining severance accruals are based on existing plans, historical experiences, and negotiated settlements.
Recent Accounting Pronouncements
Refer to note 1 of the notes to the consolidated financial statements for recent accounting pronouncements.