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MINDSPEED TECHNOLOGIES, INC - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS(Edgar Glimpses Via Acquire Media NewsEdge) This information should be read in conjunction with our unaudited consolidated condensed financial statements and the notes thereto included in this Quarterly Report on Form 10-Q and our audited consolidated financial statements and notes thereto and Management's Discussion and Analysis of Financial Condition and Results of Operations contained in our Annual Report on Form 10-K for our fiscal year ended September 28, 2012. Overview Mindspeed Technologies, Inc. designs, develops and sells semiconductor solutions for communications applications in wireline and wireless network infrastructure equipment, which includes broadband access networks (fixed and mobile), enterprise and metropolitan and wide area networks (WAN) (fixed and mobile). In previous fiscal years, we had organized our solutions for these interrelated and rapidly converging networks into three product lines: communications convergence processing, high-performance analog and WAN communications. As previously reported, communications convergence processing included small cell wireless equipment. Beginning in fiscal 2013, to better align with our investment focus and provide greater transparency into the execution of our growth business, we started reporting small cell wireless infrastructure revenues as a standalone category. We also combined the communications convergence processing, excluding small cell wireless infrastructure revenues, and WAN businesses into communications processors. High-performance analog remained unchanged. Therefore, our three product lines are wireless infrastructure, communications processors and high-performance analog. Our wireless infrastructure products include ultra-low-power, multi-core digital signal processor (DSP) system-on-chip (SoC) products for the mobile (3G/4G) carrier infrastructure, including residential and enterprise platforms. Our communications processors products include ultra-low-power, multi-core digital signal processor (DSP) system-on-chip (SoC) products for the fixed and mobile carrier infrastructure platforms and WAN communication products that help optimize today's circuit-switched networks that furnish much of the Internet's underlying long-distance infrastructure. Our high-performance analog products include high-density crosspoint switches, optical drivers, equalization and signal-conditioning solutions that solve difficult switching, timing and synchronization challenges in next-generation optical networking, enterprise storage and broadcast video transmission applications. Our products are sold to original equipment manufacturers (OEMs) for use in a variety of network infrastructure equipment, including: • Wireless Infrastructure - 3G/4G long-term evolution (LTE) wireless small cell base stations in the carrier infrastructure, including residential and enterprise; • Communications Processors - triple-play access gateways for Voice-over-Internet Protocol (VoIP) and data processing platforms; broadband customer premises equipment (CPE) gateways and other equipment that carriers use to deliver voice, data and video services to residential subscribers; Internet Protocol (IP) private branch exchange (PBX) equipment and security appliances used in the enterprise and circuit-switched networking equipment that implements asynchronous transfer mode (ATM) and T1/E1 and T3/E3 communications protocols; and • High-Performance Analog - next-generation fiber access network equipment (including passive optical networking, or PON, systems); switching and signal conditioning products supporting fiber-to-the-premise, optical transport networks (OTN), storage and server systems and broadcast video, inclusive of routers and other systems that are driving the migration to 3G high-definition (HD) transmission. Our customers include Alcatel-Lucent SA, Cisco Systems, Inc., Huawei Technologies Co. Ltd., Hitachi Ltd., LM Ericsson Telephone Company, Mitsubishi Electric Corporation, Nokia Siemens Networks and Zhongxing Telecom Equipment Corp., among others. Trends and Factors Affecting Our Business Our products are components of network infrastructure equipment. As a result, we rely on network infrastructure OEMs to select our products from among alternative offerings to be designed into their equipment. These "design wins" 28 -------------------------------------------------------------------------------- Table of Contents are an integral part of the long sales cycle for our products. Our customers may need six months or longer to test and evaluate our products and an additional six months or more to begin volume production of equipment that incorporates our products. We believe our close relationships with leading network infrastructure OEMs facilitate early adoption of our products during development of their products, enhance our ability to obtain design wins and encourage adoption of our technology by the industry. We believe our diverse portfolio of semiconductor solutions has us well positioned to capitalize on some of the most significant trends in telecommunications spending, including: next generation network convergence; VoIP/fiber access deployment in developing and developed markets; 3G/4G wireless infrastructure build-out; the adoption of higher speed interconnectivity solutions; and the migration of broadcast video to HD. Based on a recent review of target markets addressed by our wireless infrastructure reporting unit, we believe that the pace and timing of deployments within that market will be pushed out beyond our previously forecasted plans. As a result of these changes in our assessment of the reporting unit's near-term prospects, we recognized related goodwill and asset impairment charges totaling $33.4 million in the second quarter of fiscal 2013. We market and sell our semiconductor products directly to network infrastructure OEMs. We also sell our products indirectly through electronic component distributors and third-party electronic manufacturing service providers, who manufacture products incorporating our semiconductor networking solutions for OEMs. Sales to distributors accounted for approximately 70% of our net revenue in our second fiscal quarter and 66% of our net revenue for the first six months of fiscal 2013. We generated approximately 81% of our net revenue in our fiscal second quarter and 77% of our net revenue for the first six months of fiscal 2013 from outside of the Americas. We believe a portion of the products we sell to OEMs and third-party manufacturing service providers in the Asia-Pacific region is ultimately shipped to end markets in the Americas and Europe. We generated approximately 33% of our net revenue in our second fiscal quarter and 31% of our net revenue for the first six months of fiscal 2013 from customers in China. We have significant research, development, engineering and product design capabilities. Our success depends to a substantial degree upon our ability to develop and introduce in a timely fashion new products and enhancements to our existing products that meet changing customer requirements and emerging industry standards. We have made, and plan to make, substantial investments in research and development and to participate in the formulation of industry standards. We spent approximately $16.1 million in our second fiscal quarter and approximately $31.7 million in the first six months of fiscal 2013 on research and development. We seek to maximize our return on our research and development spending by focusing our research and development investment in what we believe are key growth markets, including wireless infrastructure solutions for small cell base station processing, communications processors for high-bandwidth multiservice access applications, and high-performance analog applications such as optical networking and broadcast-video transmission. We have completed a series of cost reduction actions, which have improved our operating cost structure, and we will continue to perform additional actions, when necessary. We are dependent upon third parties for the development, manufacturing, assembly and testing of our products. Our ability to bring new products to market, to fulfill orders and to achieve long-term revenue growth is dependent upon our ability to obtain sufficient external manufacturing capacity, including wafer fabrication capacity. Periods of upturn in the semiconductor industry may be characterized by rapid increases in demand and a shortage of capacity for wafer fabrication and assembly and test services. In such periods, we may experience longer lead times or indeterminate delivery schedules, which may adversely affect our ability to fulfill orders for our products. During periods of capacity shortages for manufacturing, assembly and testing services, our primary foundries and other suppliers may devote their limited capacity to fulfill the requirements of their other customers that are larger than we are, or who have superior contractual rights to enforce manufacture of their products, including to the exclusion of producing our products. The foundries and other suppliers on whom we rely may experience financial difficulties or suffer disruptions in their operations due to causes beyond our control, including deteriorations in general economic conditions, labor strikes, work stoppages, electrical power outages, fire, earthquake, flooding or other natural disasters. We may also incur increased manufacturing costs, including costs of finding acceptable alternative foundries or assembly and test service providers. In order to achieve sustained profitability and positive cash flows from operations, we may need to further reduce operating expenses and/or increase our revenue. Our ability to achieve revenue growth will depend on increased demand for network infrastructure equipment that incorporates our products, which in turn depends primarily on the level of capital spending by communications service providers, the level of which may decrease due to general economic conditions and uncertainty, over which we have no control. We believe the market for network infrastructure equipment in general, and for communications semiconductors in particular, offers attractive long-term growth prospects due to increasing demand for network capacity, the continued upgrading and expansion of existing networks and the build-out of telecommunication networks in developing countries. However, the semiconductor industry is highly cyclical and is characterized by constant and rapid technological change, 29-------------------------------------------------------------------------------- Table of Contents rapid product obsolescence and price erosion, evolving technical standards, short product life cycles and wide fluctuations in product supply and demand. In addition, there has been an increasing trend toward industry consolidation, particularly among major network equipment and telecommunications companies. Consolidation in the industry has generally led to pricing pressure and loss of market share. These factors have caused substantial fluctuations in our revenue and our results of operations in the past, and we may experience cyclical fluctuations in our business in the future. On April 30, 2013, we issued a press release announcing that we have engaged Morgan Stanley & Co. LLC to assist us in evaluating various strategic alternatives available to our company. The strategic review will require the expenditure of significant time and resources by our company and management team. The strategic review could also distract our executives, employees, and board of directors from other matters relating to the operation of our businesses and affect our ability to attract and retain new executives or key employees. In addition, our announcement of the strategic review may have created and may continue to create uncertainty among current and potential partners, suppliers and customers. In particular, these partners, suppliers and customers could question our commitment to continuing particular product lines or markets or operating as an independent business. As a result of these factors, the announcement could potentially undermine our business and have a material adverse effect on our results of operations or financial condition. In addition, the announcement and subsequent developments could cause increased volatility in our stock price. Critical Accounting Policies and Estimates The accounting policies that have the greatest impact on our financial condition and results of operations and that require the most judgment are those relating to inventories, stock-based compensation, revenue recognition, deferred income taxes and uncertain tax positions, business combinations, goodwill and other long-lived assets, and impairment of goodwill and other long-lived assets. These policies are described in further detail in our Annual Report on Form 10-K for the fiscal year ended September 28, 2012. There have been no significant changes in our critical accounting policies and estimates during the first six months ending March 29, 2013 as compared to what was previously disclosed in our Annual Report on Form 10-K for the fiscal year ended September 28, 2012. Recent Accounting Pronouncements In February 2013, the FASB issued accounting guidance which requires an entity to provide information about the amounts reclassified out of accumulated other comprehensive income by component and to present significant amounts reclassified out of accumulated other comprehensive income by respective line items of net income if the amount reclassified is required to be reclassified to net income in its entirety. For amounts that are not required to be reclassified in their entirety to net income, an entity is required to cross-reference to other disclosures that provide additional details about those amounts. The provisions of this guidance will be effective for us in our first quarter of fiscal 2014 and should be applied prospectively. We do not expect the adoption of this guidance to have a material impact on our consolidated condensed financial statements. In October 2012, the FASB issued accounting guidance covering a wide range of topics in the Accounting Standards Codification. These amendments include technical corrections and improvements to the Accounting Standards Codification and conforming amendments related to fair value measurements. The amendments in this update were effective for fiscal periods beginning after December 15, 2012. The adoption of this guidance did not have a material impact on our consolidated condensed financial statements. 30-------------------------------------------------------------------------------- Table of Contents Results of Operations Net Revenue by Product Line The following table summarizes fiscal quarter net revenue by our product lines: Three Months Ended March 29, % of Net % of Net Change 2013 Revenue March 30,2012 Revenue $ % (in thousands, except percentages) High-performance analog $ 15,683 45 % $ 15,657 44 % $ 26 0.2 % Communications processors 17,135 48 % 16,988 48 % 147 0.9 % Wireless infrastructure 2,567 7 % 2,213 7 % 354 16.0 % Total net product revenue 35,385 100 % 34,858 99 % 527 1.5 % Intellectual property - 0 % 501 1 % (501 ) Net revenue $ 35,385 100 % $ 35,359 100 % $ 26 0.1 % Net revenue from wireless infrastructure products increased in the second quarter of fiscal 2013 when compared to the second quarter of fiscal 2012 due to increased shipments of our SoC products for small cell base stations, including products shipped to the 4G/LTE market. Net revenue from our communications processors products were approximately flat in the second quarter of fiscal 2013 when compared to the second quarter of fiscal 2012, despite an increase in Ethernet products for wide area networks. The following table summarizes fiscal year-to-date net revenue by our product lines: Six Months Ended March 29, % of Net March 30, % of Net Change 2013 Revenue 2012 Revenue $ % (in thousands, except percentages) High-performance analog $ 34,873 44 % $ 30,001 43 % $ 4,872 16.2 % Communications processors 31,765 40 % 36,214 52 % (4,449 ) -12.3 % Wireless infrastructure 7,141 9 % 2,485 4 % 4,656 187.4 % Total net product revenue 73,779 93 % 68,700 99 % 5,079 7.4 % Intellectual property 6,000 7 % 591 1 % 5,409 Net revenue $ 79,779 100 % $ 69,291 100 % $ 10,488 15.1 % Net revenue from high-performance analog products increased in the first six months of fiscal 2013 when compared to the first six months of fiscal 2012 due to increased demand for crosspoint switches and optical physical media devices. Net revenue from wireless infrastructure products also increased in the first six months of fiscal 2013 when compared to the first six months of fiscal 2012 due to increased shipments of our SoC products for small cell base stations, as well as increased sales of 3G/HSPA products driven by the acquisition of picoChip in February of 2012. These increases were partially offset by a decrease in sales in communications processors products. Net revenue from our communications processors products decreased in the first six months of fiscal 2013 when compared to the first six months of fiscal 2012, despite the increase in demand for Ethernet products for wide area networks. The decline is due to a slowdown in the infrastructure voice market, as well as a decrease in shipments of CPE products, which are used in broadband CPE gateways and other equipment that service providers are deploying in order to deliver voice, data and video services to residential subscribers. In the second quarter of fiscal 2013, we did not sell any intellectual property compared to $501,000 sold in the second quarter of fiscal 2012. We sold $6.0 million in intellectual property during the first six months of fiscal 2013 compared to $591,000 in intellectual property sales in the first six months of fiscal 2012. We have developed and maintain a broad intellectual property portfolio, and we may periodically enter into strategic arrangements to leverage our portfolio by licensing or selling our intellectual property. The demand environment in the markets in which we participate is dynamic and certain customers increase or accelerate product orders to earn financial incentives near quarter end, while other customers request product shipments in the quarter that exceed our available supply. The net impact of these activities was a decrease to net revenue of $59,000 for the second quarter of fiscal 2013 and the six months ended March 29, 2013 and an increase to net revenue of $579,000 for the second quarter of fiscal 2012 and the six months ended March 30, 2012. 31 -------------------------------------------------------------------------------- Table of Contents Impairment of Long-Lived Assets During the second quarter of fiscal 2013, in conjunction with the evaluation of goodwill and indefinite-lived intangibles, as discussed below, we believed there were impairment triggering events and circumstances which warranted an evaluation of certain definite-lived intangible assets. These circumstances included lower revenue when compared with projected results, which led to weaker performance than we expected for the second quarter of fiscal 2013. Specifically, the carrying amounts of certain intellectual property licenses and photomasks within our wireless infrastructure reporting unit were determined not to be recoverable and to exceed their fair value. Accordingly, we impaired the entire carrying value of these intellectual property licenses and photomasks and recorded an impairment charge of $2.0 million on intellectual property licenses and $439,000 on photomasks in cost of goods sold on our unaudited consolidated condensed statements of operations. We reviewed our other long-lived assets within our wireless infrastructure reporting unit and did not identify any other impairment. Gross Margin Gross margin represents net revenue less cost of goods sold. As a fabless semiconductor company, we use third parties, including Taiwan Semiconductor Manufacturing Co., Ltd. (TSMC), Amkor Technology, Inc., Unisem, Inc. and Advanced Semiconductor Engineering, Inc. (ASE), for wafer fabrication and assembly and test services. Cost of goods sold primarily consisted of: purchased finished wafers; assembly and test services; royalty and other intellectual property costs; labor and overhead costs associated with product procurement; asset impairments; amortization of the cost of mask sets purchased; and sustaining engineering expenses pertaining to products sold. The following table presents fiscal quarter gross margin: Three Months Ended % of Change March 29, % of Net March 30, Net 2013 Revenue 2012 Revenue $ % (in thousands, except percentages) Gross margin $ 18,770 53 % $ 20,520 58 % $ (1,750 ) -8.5 % The decrease in our gross margin as a percent of net revenue for the second quarter of fiscal 2013 compared to the second quarter of fiscal 2012 was driven primarily by $2.4 million of asset impairments recorded in cost of goods sold, which related to the impairment of intellectual property licenses and photomasks during the second quarter of fiscal 2013, as described above. The decrease in gross margin was also due to a decrease in intellectual property revenue, which had little associated cost and the amortization of acquired intangible assets related to the picoChip acquisition. These decreases were partially offset by an increase in our gross margin due to a change in product mix, including a larger amount of revenue from our WAN products for the second quarter of fiscal 2013 compared to the second quarter of fiscal 2012. The following table presents fiscal year-to-date gross margin: Six Months Ended March 29, % of Net March 30, % of Net Change 2013 Revenue 2012 Revenue $ % (in thousands, except percentages) Gross margin $ 48,070 60 % $ 40,233 58 % $ 7,837 19.5 % Gross margin increased for the first six months of fiscal 2013 compared to the first six months of fiscal 2012 due to a $5.9 million increase in intellectual property revenue. The increase in our gross margin as a percent of net revenue for the first six months of fiscal 2013 compared to the first six months of fiscal 2012 was driven primarily by a change in product mix, as described above, as well as an increase in intellectual property revenue, which had no associated cost. These increases in gross margin as a percent of net revenue were partially offset by the amortization of acquired intangible assets related to the picoChip acquisition and $2.4 million of asset impairments recorded in cost of goods sold, which related to the impairment of intellectual property licenses and photomasks during the second quarter of fiscal 2013, as described above. 32-------------------------------------------------------------------------------- Table of Contents Research and Development Research and development (R&D) expenses consisted primarily of: direct personnel costs, including stock-based compensation; photomasks; electronic design automation tools; and pre-production evaluation and test costs. The following table presents details of fiscal quarter R&D expenses: Three Months Ended March 29, % of Net March 30, % of Net Change 2013 Revenue 2012 Revenue $ % (in thousands, except percentages) Personnel-related costs $ 10,129 $ 10,461 $ (332 ) -3.2 % Stock-based compensation 1,026 1,177 (151 ) -12.8 % Design & development costs 2,328 3,110 (782 ) -25.1 % Facilities 1,859 1,699 160 9.4 % Depreciation 824 738 86 11.7 % Other (60 ) 555 (615 ) -110.8 % Research and development $ 16,106 46 % $ 17,740 50 % $ (1,634 ) -9.2 % R&D expenses decreased by approximately $1.6 million for the second quarter of fiscal 2013 compared to the second quarter of fiscal 2012 due primarily to design and development cost reductions as part of the restructuring plan we undertook in fiscal 2012 and a decrease in other R&D expense primarily due to $237,000 of certain non-recurring engineering reimbursements during fiscal 2013from our customers related to the development of certain products or product features. Personnel-related costs also decreased for the second quarter of fiscal 2013 compared to the second quarter of fiscal 2012. This decrease was primarily due to the restructuring activities that began in late fiscal 2012. The following table presents details of fiscal year-to-date R&D expenses: Six Months Ended March 29, % of Net March 30, % of Net Change 2013 Revenue 2012 Revenue $ % (in thousands, except percentages) Personnel-related costs $ 19,602 $ 19,426 $ 176 0.9 % Stock-based compensation 1,939 1,829 110 6.0 % Design & development costs 4,445 6,064 (1,619 ) -26.7 % Facilities 3,956 3,061 895 29.2 % Depreciation 1,589 1,330 259 19.5 % Other 172 1,038 (866 ) -83.4 % Research and development $ 31,703 40 % $ 32,748 47 % $ (1,045 ) -3.2 % R&D expenses decreased by approximately $1.0 million for the first six months of fiscal 2013 compared to the first six months of fiscal 2012 due to design and development cost reductions as part of the restructuring plan we undertook in fiscal 2012. Other R&D expense decreased primarily due to $489,000 of certain non-recurring engineering reimbursements during fiscal 2013from our customers related to the development of certain products or product features. These decreases were partially offset due to increased facilities and depreciation expense related to the additional facilities and property, plant and equipment obtained through the acquisition of picoChip. Selling, General and Administrative Our selling, general and administrative (SG&A) expenses include personnel costs, independent sales representative commissions and product marketing, applications engineering and other marketing costs. Our SG&A expenses also include costs of corporate functions, including accounting, finance, legal, human resources, information systems and communications. 33-------------------------------------------------------------------------------- Table of Contents The following table presents details of fiscal quarter SG&A expenses: Three Months Ended March 29, % of Net March 30, % of Net Change 2013 Revenue 2012 Revenue $ % (in thousands, except percentages) Personnel-related costs $ 4,740 $ 6,624 $ (1,884 ) -28.4 % Stock-based compensation 2,155 2,087 68 3.3 % Professional fees & outside services 1,438 889 549 61.8 % Facilities 523 779 (256 ) -32.9 % Depreciation 126 125 1 0.8 % Other 1,201 2,584 (1,383 ) -53.5 % Selling, general and administrative $ 10,183 29 % $ 13,088 37 % $ (2,905 ) -22.2 % SG&A expenses decreased for the second quarter of fiscal 2013 compared to the second quarter of fiscal 2012 primarily due to decreased personnel-related costs associated with the restructuring plan announced in fiscal 2012. Other SG&A expenses decreased due primarily to a decrease of $1.3 million in picoChip integration costs incurred in the second quarter of fiscal 2013 compared to the second quarter of fiscal 2012. These decreases were partially offset by an increase in professional fees and outside services. The following table presents details of fiscal year-to-date SG&A expenses: Six Months Ended March 29, % of Net March 30, % of Net Change 2013 Revenue 2012 Revenue $ % (in thousands, except percentages) Personnel-related costs $ 9,791 $ 11,680 $ (1,889 ) -16.2 % Stock-based compensation 3,868 3,628 240 6.6 % Professional fees & outside services 2,488 1,816 672 37.0 % Facilities 1,031 1,560 (529 ) -33.9 % Depreciation 292 311 (19 ) -6.1 % Other 2,311 3,415 (1,104 ) -32.3 % Selling, general and administrative $ 19,781 25 % $ 22,410 32 % $ (2,629 ) -11.7 % SG&A expenses decreased for the first six months of fiscal 2013 compared to the first six months of fiscal 2012 primarily due to decreased personnel-related costs associated with the restructuring plan announced in fiscal 2012. Other SG&A expenses decreased due primarily to a decrease of $1.5 million in picoChip integration costs incurred in the second quarter of fiscal 2013 compared to the second quarter of fiscal 2012. These decreases were partially offset by an increase in professional fees and outside services. Impairment of Goodwill and Indefinite-Lived Intangibles During the second quarter of fiscal 2013, we performed an interim evaluation of goodwill, definite-lived intangibles and indefinite-lived intangibles for our wireless infrastructure reporting unit as we believed there were impairment triggering circumstances which warranted an evaluation. These circumstances consisted of actual and projected decreases in net revenue due to slower than expected deployments of 3G small cell base stations, as compared to prior projections at the time of our acquisition of picoChip. Prior to performing step one of the goodwill impairment test, we determined the carrying amount of the in-process research and development (IPR&D) within our wireless infrastructure reporting unit exceeded its fair value. The fair value was determined using the multiple period excess earnings method. See Note 3 to our consolidated condensed financial statements for a description of the significant unobservable inputs used. As a result, we recorded a $500,000 impairment charge on our IPR&D as of March 29, 2013. 34-------------------------------------------------------------------------------- Table of Contents Given the triggering circumstances, we performed step one of the impairment test for goodwill and determined that the fair value of the wireless infrastructure reporting unit, which was based on a combination of the income approach and market approach, was lower than the carrying value. Under the income approach, the fair value of the reporting unit was calculated based on the present value of estimated future net cash flows. Cash flows beyond the discrete forecast were estimated using a terminal value calculation, which incorporated historical and forecasted financial trends for the wireless infrastructure reporting unit and considered perpetual earnings growth rates for publicly traded peer companies. Future cash flows were discounted to present value by incorporating appropriate present value techniques. Under the market approach, fair value was estimated based on market multiples of revenue and earnings or similar measures for comparable companies, when available. Specifically, the income approach valuation included the following assumptions: March 29, 2013 Discount rate 21.0 % Perpetual growth rate 4.0 % Tax rate 29.3 % Risk free rate 2.7 % Peer company beta 1.32 Country risk adjustment for foreign operations 0.7 % The failure of step one of the goodwill impairment test triggered a step two impairment analysis. The second step of the goodwill impairment test involved comparing the implied fair value of the reporting unit's goodwill with the carrying value of that goodwill. The amount by which the carrying value of the goodwill exceeded its implied fair value was recognized as an impairment loss. As a result, we recorded a charge for the impairment of goodwill in the amount of $30.5 million during the second quarter of fiscal 2013 related to our wireless infrastructure reporting unit. We will continue to evaluate our goodwill on an annual basis during our fourth fiscal quarter and whenever events or changes in such circumstances as significant adverse changes in business climate or operating results, changes in management strategy or further significant declines in the trading price of our common stock indicate that there may be a potential impairment. Acquisition-Related Costs Acquisition-related costs for the first three and six months ended March 29, 2013 and March 30, 2012 consisted primarily of professional fees incurred as a result of our acquisition of picoChip, which was completed in February 2012. Restructuring Charges We have, and may in the future, commit to restructuring plans to help manage our costs or to help implement strategic initiatives, among other reasons. Fourth Quarter of Fiscal 2012 Restructuring Plan - In the fourth quarter of fiscal 2012, we committed to the implementation of a restructuring plan, which consisted primarily of a headcount reduction in our research and development functions and selling, general and administrative functions. The restructuring plan is expected to be substantially completed during the fourth quarter of fiscal 2013. We made the decision to implement the restructuring plan in furtherance of our efforts to reduce operating expenses and cash consumption. Approximately $3.0 million in charges related to this plan were incurred since the plan's inception through the second quarter of fiscal 2013. Of the amounts incurred, $2.8 million related to severance costs for affected employees and approximately $206,000 related to contractual obligations on vacated office space. We expect to incur additional charges of $1.0 million to $2.0 million for a total plan charge of approximately $4.0 million to $5.0 million. The total cash expenditure for this plan is expected to be $3.5 million to $4.5 million. The remaining plan charge and cash expenditure will each relate primarily to severance costs for affected employees. 35-------------------------------------------------------------------------------- Table of Contents Activity and liability balances related to our fourth quarter of fiscal 2012 restructuring plan from September 28, 2012 through March 29, 2013 were as follows: Workforce Facilities Reductions and Other Total (in thousands) Restructuring balance, September 28, 2012 $ 382 $ - $ 382 Charges to costs and expenses 1,362 210 1,572 Cash payments (993 ) - (993 ) Non-cash adjustments (97 ) (4 ) (101 ) Restructuring balance, December 28, 2012 $ 654 $ 206 $ 860 Charges to costs and expenses 676 - 676 Cash payments (792 ) (22 ) (814 ) Non-cash adjustments 92 - 92 Restructuring balance, March 29, 2013 $ 630 $ 184 $ 814 The remaining accrued restructuring balance principally represents employee severance costs and contractual obligations on vacated office space. We expect to pay these remaining employee severance obligations through the fourth quarter of fiscal 2013 and the remaining contractual obligations on vacated office space through the second quarter of fiscal 2015, the end of the related lease term. Fourth Quarter of Fiscal 2011 Restructuring Plan - In the fourth quarter of fiscal 2011, we implemented a restructuring plan, which consisted primarily of a targeted headcount reduction in the selling, general and administrative functions and (WAN) product line, which is now part of the communications processors product line. We incurred $1.1 million of charges related to severance costs for the affected employees during the fourth quarter of fiscal 2011. The restructuring plan was substantially completed during the fourth quarter of fiscal 2011. An additional $138,000 of charges was incurred related to severance costs for the affected employees during the third quarter of fiscal 2012. Activity and liability balances related to our fourth quarter of fiscal 2011 restructuring plan from September 28, 2012 through March 29, 2013 were as follows: Workforce Reductions (in thousands) Restructuring balance, September 28, 2012 $ 45 Cash payments (13 ) Restructuring balance, December 28, 2012 and March 29, 2013 $ 32 The remaining accrued restructuring balance principally represents employee severance costs. We expect to pay these remaining obligations through the third quarter of fiscal 2013. 36 -------------------------------------------------------------------------------- Table of Contents Interest Expense The following tables present details of fiscal quarter and fiscal year-to-date interest expense: Three Months Ended March 29, % of Net March 30, % of Net Change 2013 Revenue 2012 Revenue $ % (in thousands, except percentages) Interest expense $ 1,291 4 % $ 571 2 % $ 720 126.1 % Six Months Ended March 29, % of Net March 30, % of Net Change 2013 Revenue 2012 Revenue $ % (in thousands, exceptpercentages) Interest expense $ 2,680 3 % $ 959 1 % $ 1,721 179.5 % For the three and six months ended March 29, 2013, interest expense consisted of interest on our 6.75% convertible senior notes, our loan and security agreement and our 6.50% convertible senior notes. For the three and six months ended March 30, 2012, interest expense primarily consisted of interest on our 6.50% convertible senior notes. Other Income, Net Other income, net, principally consisted of the change in fair value of contingent consideration, income from reimbursable foreign R&D incentives, foreign exchange gains and losses and other non-operating gains and losses. The following table presents fiscal second quarter other income, net: Three Months Ended March 29, % of March 30, % of Change 2013 Net Revenue 2012 Net Revenue $ % (in thousands, except percentages) Other Income, Net $ 730 2 % $ 309 1 % $ 421 136.2 % The increase in other income, net, in the second quarter of fiscal 2013 compared to the second quarter of fiscal 2012 primarily reflected a $367,000 gain from the settlement of foreign currency transactions, a $134,000 increase in reimbursable foreign R&D credit and an $81,000 increase in the fair value of a contingent obligation on our 6.75% convertible senior notes. The increase was partially offset due to a decrease of $68,000 in net foreign exchange gains from the remeasurement of account balances not denominated in our functional currency. The following table presents fiscal year-to-date other income, net: Six Months Ended March 29, % of March 30, % of Change 2013 Net Revenue 2012 Net Revenue $ % (in thousands, except percentages) Other Income, Net $ 746 1 % $ 611 1 % $ 135 22.1 % The increase in other income, net, in the first six months of fiscal 2013 compared to the first six months of fiscal 2012 reflected a $367,000 gain from the settlement of foreign currency transactions and a $136,000 increase in reimbursable foreign R&D credit. The increase was partially offset due to an increase of $301,000 in net foreign exchange losses from the remeasurement of account balances not denominated in our functional currency. Income Taxes Our provision for income taxes for the first three and six months of fiscal 2013 and 2012 principally consisted of income taxes incurred by our foreign subsidiaries. As a result of our history of operating losses and the uncertainty of future operating results, we determined that it is more likely than not that the U.S. federal and state income tax benefits (principally net operating losses we can carry forward to future years) will not be realized. Based on available objective 37 -------------------------------------------------------------------------------- Table of Contents evidence, we believe it is more likely than not that our deferred tax assets will not be realized. Accordingly, we continue to provide a full valuation allowance against our U.S. federal and state net deferred tax assets at March 29, 2013. Should sufficient positive objectively verifiable evidence of the realization of our net deferred tax assets exist at a future date, we would reverse any remaining valuation allowance to the extent supported by estimates of future taxable income at that time. Liquidity and Capital Resources Our principal source of liquidity is our existing cash and cash equivalent balance. In order to achieve profitability and positive cash flows from operations, we may need to further reduce operating expenses, reduce capital expenditures, increase our gross margin and/or increase revenue. We have recently completed a series of cost reduction actions, which have improved our operating expense structure, and we will continue to perform additional actions, if necessary. In addition, we may commit to additional restructurings to help implement strategic initiatives. These restructurings and other cost saving measures alone may not allow us to achieve profitability. Our ability to maintain, or increase, gross margin will depend on our ability to obtain product cost reductions and better terms with our suppliers. Our ability to maintain, or increase, current revenue levels to achieve and sustain profitability will depend on demand for network infrastructure equipment that incorporates our products, which in turn depends primarily on the level of capital spending by communications service providers and enterprises, the level of which may decrease due to general economic conditions, and uncertainty, over which we have no control. We may be unable to increase current revenue and gross margin levels or sustain past and future expense reductions in subsequent periods. We may not be able to achieve sustained profitability. As of March 29, 2013, we were obligated to make a $1.9 million net earnout payment due to the achievement of a product development milestone, to the shareholders of picoChip. We were also obligated to make a payment of approximately $3.5 million to the picoChip escrow account related to a research and development tax credit. On April 26, 2013, we and the picoChip selling shareholders' representative entered into a settlement agreement whereby the parties agreed to settle all outstanding obligations under the acquisition agreement, including escrow claims, earnout payments and the net asset adjustment on the purchase price paid by us in connection with the acquisition. In connection with the settlement, we were relieved of our $1.9 million net earnout payment obligation, $3.5 million of payables owed to the escrow account related to a refundable R&D tax credit and received $1.0 million net in cash. This settlement will result in the recording of other income of $6.4 million during the third quarter of fiscal 2013. This settlement agreement releases us, the selling shareholders and the selling shareholders' representative from all contingent consideration, claims and potential claims between the parties and the escrow account has been terminated. We believe that our existing cash balances, cash expected to be generated from operations and our revolving credit facility will be sufficient to fund our operations, anticipated capital expenditures, working capital and other financing requirements, including principal and interest payments on debt obligations, for at least the next 12 months. We have principal payments of $375,000 due each quarter during calendar 2013 on our term loan with Silicon Valley Bank and $15.0 million of principal payments due in August 2013 on our 6.50% convertible notes. We have no other principal payments on debt obligations for the next 12 fiscal months. We may acquire our debt securities through privately negotiated transactions, tender offers, exchange offers (for new debt or other securities), redemptions or otherwise, upon such terms and at such prices as we may determine appropriate. We will need to continue a focused program of capital expenditures to meet our research and development and corporate requirements. We may also consider acquisition opportunities to extend our technology portfolio and design expertise and to expand our product offerings. In order to fund capital expenditures, increase our working capital, re-pay debt or complete any acquisitions, we may seek to obtain additional debt or equity financing. We may also need to seek additional debt or equity financing if we experience downturns or cyclical fluctuations in our business that are more severe or longer than anticipated, or if we fail to achieve anticipated revenue and expense levels. However, we cannot assure you that such financing will be available to us on favorable terms, or at all, particularly in light of recent economic conditions in the capital markets. 38-------------------------------------------------------------------------------- Table of Contents The following table presents details of our working capital and cash and cash equivalents: March 29, September 28, Increase/ 2013 2012 (Decrease) (in thousands) Working capital $ 26,865 $ 28,775 $ (1,910 ) Cash and cash equivalents $ 46,572 $ 49,098 $ (2,526 ) Cash and cash equivalents decreased primarily as a result of cash used in our investing and financing activities. The decrease was partially offset by cash provided by operating activities. The following table presents the major components of the consolidated statements of cash flows: Six Months Ended March 29, March 30, 2013 2012 (in thousands) Net cash provided by/(used in): Net loss $ (38,977 ) $ (19,834 ) Non-cash operating expenses, net 47,762 13,167 Changes in operating assets and liabilities: Receivables (4,769 ) (7,632 ) Inventories (966 ) 3,779 Other assets, net 4,889 1,001 Accounts payable (449 ) 4,425 Deferred income on sales to distributors (692 ) (471 ) Restructuring charges (1,829 ) (1,349 ) Accrued compensation and benefits (899 ) (3,656 ) Accrued expenses and other current liabilities (1,612 ) (1,024 ) Other liabilities, net 198 (76 ) Net cash provided by/(used in) operating activities 2,656 (11,670 ) Net cash used in investing activities (5,130 ) (29,771 ) Net cash (used in)/provided by financing activities (43 ) 28,618 Effect of foreign exchange rate changes on cash (9 ) (50 ) Decrease in cash and cash equivalents $ (2,526 ) $ (12,873 ) Operating activities generated cash for the first six months of fiscal 2013 due to cash provided by net non-cash operating adjustments, partially offset by changes in operating assets and liabilities. Significant non-cash adjustments included goodwill and asset impairments, stock-based compensation expense, restructuring charges, depreciation and amortization. Net income was also adjusted for a decrease in prepaid and other current assets due to the receipt of an international tax receivable. Cash outflows related to an increase in our accounts receivable balance due to the timing of sales and the timing of cash collections. Cash outflows also related to a decrease in accrued restructuring charges due to payments made mainly on the restructuring plan implemented in the fourth quarter of fiscal 2012 and a decrease in accrued expenses and other current liabilities due to interest payments and payments made on accrued vendor balances. Operating activities used cash for the first six months of fiscal 2012 due to our net loss and net cash used in changes in operating assets and liabilities, partially offset by cash provided by net non-cash operating activities. Significant non-cash operating expenses included stock-based compensation expense and depreciation and amortization. The changes in operating assets and liabilities that had a significant impact on cash used in operating activities included an increase in accounts receivable due to the timing of sales and collections and a decrease in accrued compensation and benefits mainly due to the payment of bonuses under our fiscal 2011 cash bonus plan in the first quarter of fiscal 2012. These cash outflows were partially offset by an increase in accounts payable due to the timing of payments and a decrease in inventories due to our focused efforts in decreasing our inventory on hand and increasing our inventory turns. 39 -------------------------------------------------------------------------------- Table of Contents Investing Activities Investing activities used cash for the first six months of fiscal 2013 due to payments under license agreements of $2.7 million and the purchase of property, plant and equipment of $2.4 million. Investing activities used cash for the first six months of fiscal 2012 due to payments under license agreements of $7.3 million, the purchase of property, plant and equipment of $2.3 million and the acquisition of picoChip of $20.1 million. Financing Activities Financing activities used cash for the first six months of fiscal 2013 due to $858,000 in payments made related to shares of our common stock withheld from, or delivered by, employees in order to satisfy applicable tax withholding obligations in connection with the vesting of restricted stock and $110,000 in payments made on capital lease obligations. This cash outflow was partially offset by $915,000 in proceeds from equity compensation programs. Financing activities provided cash for the first six months of fiscal 2012 due to $28.5 million in borrowings under our line of credit and term loan and $1.4 million in proceeds from equity compensation programs. These cash inflows were partially offset by $575,000 in payments made related to shares of our common stock withheld from, or delivered by, employees in order to satisfy applicable tax withholding obligations in connection with the vesting of restricted stock and $281,000 in payments made on capital lease obligations. Revolving Credit Facilities and Long-Term Debt 6.75% Convertible Senior Notes On June 19, 2012, we sold $32.0 million in aggregate principal amount of our 6.75% convertible senior notes due 2017 for net proceeds of $30.6 million. Interest on the 6.75% convertible notes is payable semi-annually on June 15 and December 15 in arrears in cash at a rate of 6.75% per year on the principal amount, accruing from June 19, 2012. The 6.75% convertible notes will mature on June 15, 2017, unless earlier repurchased, redeemed or converted. The 6.75% convertible notes are fully and unconditionally guaranteed on a senior, unsecured basis by certain of our subsidiaries. The effective interest rate was 7.73% for the second quarter of fiscal 2013 and 7.78% for the first six months of fiscal 2013. The interest expense for the $32.0 million convertible debt for the second quarter of fiscal 2013 was $618,000 and $1.2 million for the first six months of fiscal 2013. The 6.75% convertible notes are convertible at an initial conversion rate of 256.4103 shares of our common stock per $1,000 principal amount of 6.75% convertible notes, subject to adjustment in certain circumstances. This is equivalent to an initial conversion price of $3.90 per share of common stock. Holders may convert the 6.75% convertible notes at any time prior to the close of business on the second scheduled trading day immediately preceding June 15, 2017. If we undergo certain fundamental changes prior to maturity of the notes, including a change of control, sale of all or substantially all of our assets, our liquidation or dissolution, the failure of our common stock to be listed or quoted on any of The New York Stock Exchange, The NASDAQ Global Select Market or The NASDAQ Global Market, and certain other events as more fully described in the indenture relating to the 6.75% convertible notes, a holder thereof will have the option to require us to repurchase for cash all or any portion of such notes at a repurchase price equal to 100% of the principal amount of the notes being repurchased, plus accrued and unpaid interest (including additional interest, if any) to, but excluding, the repurchase date. On or after June 15, 2013, in the event that the last reported price of our common stock exceeds the conversion price then in effect for 20 or more trading days during any 30 consecutive trading day period ending within five trading days prior to the date we receive a notice of conversion, we will, in addition to delivering shares upon conversion of the 6.75% convertible notes (and cash in lieu of fractional shares), make a "make-whole premium" payment in cash, shares of our common stock or a combination thereof, subject to certain limitations, at our option, equal to the sum of the remaining scheduled payments of interest that would have been made on the 6.75% convertible notes to be converted had such notes remained outstanding through the earlier of the date that is three years after the date we receive the notice of conversion and June 15, 2017. If we elect to pay some or all of the "make-whole premium" in shares of our common stock, then the number of shares of common stock a holder will receive will be that number of shares that have a value equal to the amount of the "make-whole premium" payment to be paid to such holder in shares, divided by the product of 0.97 and the average of the last reported sale prices of the common stock for the five trading days immediately preceding, and including, the third trading day immediately prior to the conversion date; provided that in no event will such price be less than $3.00. 40-------------------------------------------------------------------------------- Table of Contents We can redeem all or any part of the 6.75% convertible notes for cash on or after June 15, 2015 if the last reported sale price of our common stock exceeds 150% of the conversion price then in effect for at least 20 trading days during any 30 consecutive trading day period ending within five trading days prior to the notice of redemption and certain other conditions are met (referred to as the provisional redemption). The redemption price will equal the principal amount of the convertible notes to be redeemed, plus accrued and unpaid interest to, but excluding, the redemption date, plus a "make-whole premium" payment in cash, shares of our common stock or a combination thereof, subject to certain limitations, at our option, equal to the sum of the remaining scheduled payments of interest that would have been made on the 6.75% convertible notes to be redeemed had such notes remained outstanding from the redemption date to June 15, 2017. If we elect to pay some or all of the "make-whole premium" in shares of our common stock, then the number of shares of common stock a holder will receive will be that number of shares that have a value equal to the amount of the "make-whole premium" payment to be paid to such holder in shares, divided by the product of 0.97 and the average of the last reported sale prices of our common stock for the five trading days immediately preceding, and including, the third trading day immediately prior to the redemption date; provided that in no event will such price be less than $3.00. If there is an event of default under the notes, the principal of and premium, if any, on all the notes and the interest accrued thereon may be declared immediately due and payable, subject to certain conditions set forth in the indenture. An event of default under the indenture will occur if we: (i) are delinquent in making certain payments due under the notes; (ii) fail to deliver shares of common stock or cash upon conversion of the notes; (iii) fail to deliver certain required notices under the notes; (iv) incur certain events of default with respect to other indebtedness or obligations; (v) are subject to certain bankruptcy proceedings or orders; or (vi) fail to pay or the acceleration of other indebtedness. If we fail to file certain periodic reports with the SEC, we will be required to make additional interest payments. As of March 29, 2013, no events of default have occurred. For financial accounting purposes, the requirements for us to make additional interest payments in the event of early redemption by us and to make additional interest payments in the event that we do not timely file certain periodic reports with the SEC are embedded derivatives. As of March 29, 2013, the fair value of these embedded derivatives has been estimated and is not significant. Our contingent obligation to make an interest make-whole premium payment in the event of an early conversion by the holders of the notes is also an embedded derivative. As of March 29, 2013, the fair value of this contingent obligation has been estimated at $174,000 and is recorded in other liabilities. We incurred $492,000 of debt issuance costs, which is being amortized to interest expense over the term of the convertible notes through June 15, 2017 using the effective interest method. At March 29, 2013, debt issuance costs of $414,000, net of accumulated amortization, was included in other assets. Loan and Security Agreement On February 6, 2012, we entered into a loan and security agreement between us and Silicon Valley Bank, as amended by that certain first amendment to the loan and security agreement entered into on June 12, 2012 and by that certain second amendment to the loan and security agreement entered into on March 8, 2013. The loan and security agreement includes: (i) a term loan facility of $15.0 million; and (ii) a revolving credit facility of up to $20.0 million. As of March 29, 2013, the outstanding balance on the term loan was $15.0 million and the outstanding balance on the revolving credit facility was $13.5 million. The obligations under the loan and security agreement are guaranteed by our material subsidiaries and secured by a security interest in substantially all of our assets and guarantors' assets, excluding intellectual property. The principal on the term loan will be payable in quarterly installments beginning on March 31, 2013 and ending on the maturity date of the term loan, February 6, 2017. Quarterly principal payments of $375,000 are due for each quarter during calendar year 2013, $750,000 for each quarter during calendar year 2014, $1.1 million for each quarter during calendar year 2015 and $1.5 million for each quarter during calendar year 2016. Interest on the term loan will be paid quarterly beginning in calendar year 2012. The revolving credit facility also has a maturity date of February 6, 2017. Interest on the revolving credit facility is paid quarterly. 41-------------------------------------------------------------------------------- Table of Contents The total amount available under the revolving credit facility is $20.0 million. We are eligible to borrow amounts against the revolving credit facility up to the amount allowable by the borrowing base. The borrowing base is calculated on a monthly basis and is based on the amount of our eligible accounts receivable. At March 29, 2013, we had an outstanding revolving credit facility balance of $13.5 million and the amount of the eligible borrowing base was $15.9 million. To the extent that the eligible borrowing base is reduced, we are required to pay down the outstanding revolving credit facility balance to the amount of the eligible borrowing base. During the next 12 months, we expect the borrowing base will be sufficient to maintain borrowings on the revolving credit facility at a minimum of $8.0 million. Consequently, we have classified $8.0 million of the revolving credit facility as a long-term liability. We have the option to choose, with a few exceptions, whether the term loan facility and revolving credit facility bear interest based on a base rate, which is the prime rate published in The Wall Street Journal, or a LIBOR rate, which has a floor of 0.75%. A base rate facility will bear interest ranging from the base rate plus 1.25% to base rate plus 1.75%. A LIBOR rate facility will bear interest ranging from LIBOR rate plus 3.25% to LIBOR rate plus 3.75%. Both the base rate margin and LIBOR margin vary based upon our liquidity ratio. As of March 29, 2013, the interest rate on both the term loan facility and the revolving credit facility was 4.00%. Total interest expense incurred on the term loan facility and revolving credit facility was $255,000 for the second quarter of fiscal 2013 and $531,000 for the first six months of fiscal 2013. The revolving credit facility is subject to an unused line of credit fee. This fee is payable quarterly in an amount equal to 0.25%-0.50% of the average daily unused portion of the credit facility. The unused line fee will vary based upon our liquidity ratio. The loan and security agreement, as amended, requires us to meet certain financial covenants. Beginning in the third quarter of fiscal 2013, we must maintain a minimum cash and cash equivalents balance of $35.0 million with Silicon Valley Bank and a minimum liquidity ratio of 1.40. For each subsequent fiscal quarter, the minimum cash and cash equivalents balance is reduced to $20.0 million. If we fail to maintain the minimum cash and cash equivalents level and liquidity ratio during the third quarter of fiscal 2013, we will be required to maintain a minimum cash and cash equivalents balance of $30.0 million, a minimum liquidity ratio of 1.25 and a minimum adjusted EBITDA of $1.5 million. For each fiscal quarter subsequent to the third quarter of fiscal 2013, if we fail to maintain the minimum $20.0 million cash and cash equivalents balance and the minimum 1.40 liquidity ratio, we will be required to maintain a minimum cash and cash equivalents balance of $15.0 million, a minimum liquidity ratio of 1.25 and a minimum fixed charge coverage ratio of 1.10. We incurred approximately $537,000 of debt issuance costs related to the loan and security agreement, which is being amortized to interest expense over the term of the facility through February 6, 2017 using the effective interest method. At March 29, 2013, debt issuance costs of approximately $301,000, net of accumulated amortization, were included in other assets. 6.50% Convertible Senior Notes due 2013 On July 30, 2008, we entered into separate exchange agreements with certain holders of our previously outstanding 3.75% convertible senior notes, pursuant to which holders of an aggregate of $15.0 million of the notes agreed to exchange their notes for $15.0 million in aggregate principal amount of a new series of 6.50% convertible senior notes due 2013. The exchange offer closed on August 1, 2008. We paid at the closing an aggregate of approximately $100,000 in accrued and unpaid interest on the 3.75% convertible senior notes that were exchanged for the 6.50% convertible senior notes, as well as approximately $900,000 in transaction fees. We issued our 6.50% convertible senior notes due in August 2013 pursuant to an indenture, dated as of August 1, 2008, between us and Wells Fargo Bank, N.A., as trustee. The 6.50% convertible senior notes are unsecured senior indebtedness and bear interest at a rate of 6.50% per annum. Interest is payable on February 1 and August 1 of each year. The notes mature on August 1, 2013. At maturity, we will be required to repay the outstanding principal amount of the notes. At March 29, 2013, $15.0 million in aggregate principal amount of our 6.50% convertible senior notes were outstanding. 42-------------------------------------------------------------------------------- Table of Contents The 6.50% convertible senior notes are convertible at the option of the holders, at any time on or prior to maturity, into shares of our common stock at a conversion rate equal to approximately $4.74 per share of common stock, which is subject to adjustment in certain circumstances. Upon conversion of the notes, we generally have the right to deliver to the holders thereof, at our option: (i) cash; (ii) shares of our common stock; or (iii) a combination thereof. The initial conversion price of the notes will be adjusted to reflect stock dividends, stock splits, issuances of rights to purchase shares of our common stock, and upon other events. If we undergo certain fundamental changes prior to maturity of the notes, the holders thereof will have the right, at their option, to require us to repurchase for cash some or all of their 6.50% convertible senior notes at a repurchase price equal to 100% of the principal amount of the notes being repurchased, plus accrued and unpaid interest (including additional interest, if any) to, but not including, the repurchase date, or convert the notes into shares of our common stock and, under certain circumstances, receive additional shares of our common stock in the amount provided in the indenture. For financial accounting purposes, our contingent obligation to issue additional shares or make additional cash payment upon conversion following a fundamental change is an embedded derivative. At March 29, 2013, the liability under the fundamental change adjustment has been recorded at its estimated fair value and is not significant. If there is an event of default under the 6.50% convertible senior notes, the principal of and premium, if any, on all the notes and the interest accrued thereon may be declared immediately due and payable, subject to certain conditions set forth in the indenture. An event of default under the indenture will occur if we: (i) are delinquent in making certain payments due under the notes; (ii) fail to deliver shares of common stock or cash upon conversion of the notes; (iii) fail to deliver certain required notices under the notes; (iv) fail, following notice, to cure a breach of a covenant under the notes or the indenture; (v) incur certain events of default with respect to other indebtedness; or (vi) are subject to certain bankruptcy proceedings or orders. If we fail to deliver certain SEC reports to the trustee in a timely manner as required by the indenture: (x) the interest rate applicable to the notes during the delinquency will be increased by 0.25% or 0.50%, as applicable (depending on the duration of the delinquency); and (y) if the required reports are not delivered to the trustee within 180 days after their due date under the indenture, a holder of the notes will generally have the right, subject to certain limitations, to require us to repurchase all or any portion of the notes then held by such holder. As of March 29, 2013, no events of default have occurred. Contractual Obligations There have been no material changes to the amounts in our contractual obligations as of March 29, 2013, as previously disclosed in our Annual Report on Form 10-K for the fiscal year ended September 28, 2012. Off-Balance Sheet Arrangements We have made guarantees and indemnities, under which we may be required to make payments to a guaranteed or indemnified party, in relation to certain transactions. In connection with a June 2003 distribution to stockholders of our former parent company of all outstanding shares of common stock of Mindspeed, we generally assumed responsibility for all contingent liabilities and then-current and future litigation against our former parent company or its subsidiaries related to our business. In connection with certain facility leases, we have indemnified our lessors for certain claims arising from the facility or the lease. We indemnify our directors, officers, employees and agents to the maximum extent permitted under the laws of the State of Delaware. The duration of the guarantees and indemnities varies, and in many cases is indefinite. The majority of our guarantees and indemnities do not provide for any limitation of the maximum potential future payments we could be obligated to make. We have not recorded any liability for these guarantees and indemnities in the accompanying unaudited consolidated condensed balance sheets. 43-------------------------------------------------------------------------------- Table of Contents |