-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, SY9KMF9K6XoNgQ8uSJQak6CI8SFhNMlI3xVOG5d3/oA3ZBUgBGIaRgpUeUuurXL1 7h6uS3Xq8ZgKXsM14qZD1A== 0000950005-99-000960.txt : 19991111 0000950005-99-000960.hdr.sgml : 19991111 ACCESSION NUMBER: 0000950005-99-000960 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990926 FILED AS OF DATE: 19991110 FILER: COMPANY DATA: COMPANY CONFORMED NAME: INTEGRATED DEVICE TECHNOLOGY INC CENTRAL INDEX KEY: 0000703361 STANDARD INDUSTRIAL CLASSIFICATION: SEMICONDUCTORS & RELATED DEVICES [3674] IRS NUMBER: 942669985 STATE OF INCORPORATION: DE FISCAL YEAR END: 0328 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-12695 FILM NUMBER: 99745423 BUSINESS ADDRESS: STREET 1: 2975 STENDER WAY CITY: SANTA CLARA STATE: CA ZIP: 95054 BUSINESS PHONE: 4087276116 MAIL ADDRESS: STREET 1: 2975 STENDER WAY CITY: SANTA CLARA STATE: CA ZIP: 95054 10-Q 1 FORM 10-Q FORM 10-Q (Mark one) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 26, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ______ to ______. Commission File No. 0-12695 INTEGRATED DEVICE TECHNOLOGY, INC. (Exact name of registrant as specified in its charter) DELAWARE 94-2669985 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 2975 STENDER WAY, SANTA CLARA, CALIFORNIA 95054 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (408) 727-6116 NONE Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes (X) No ( ) The number of outstanding shares of the registrant's Common Stock, $.001 par value, as of October 22, 1999, was approximately 91,057,000. PART I FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS INTEGRATED DEVICE TECHNOLOGY, INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED; IN THOUSANDS, EXCEPT PER SHARE DATA) Three months ended Six months ended ---------------------- ---------------------- Sep. 26, Sep. 27, Sep. 26, Sep. 27, 1999 1998 1999 1998 ---------------------- ---------------------- Revenues $ 173,544 $ 146,731 $ 327,525 $ 299,752 Cost of revenues 89,246 101,159 174,858 207,777 Restructuring charges, asset impairment and other -- 178,328 -- 207,244 ---------------------- ---------------------- Gross profit 84,298 (132,756) 152,667 (115,269) ---------------------- ---------------------- Operating expenses: Research and development 28,443 39,156 55,482 81,301 Selling, general and administrative 28,049 29,439 59,262 59,736 Merger expenses -- -- 4,840 -- ---------------------- ---------------------- Total operating expenses 56,492 68,595 119,584 141,037 ---------------------- ---------------------- Operating income (loss) 27,806 (201,351) 33,083 (256,306) Interest expense (3,487) (3,885) (7,143) (7,389) Interest income and other, net 18,278 1,580 25,581 3,010 ---------------------- ---------------------- Income (loss) before income taxes 42,597 (203,656) 51,521 (260,685) Provision for income taxes 2,130 35,706 2,576 29,622 ---------------------- ---------------------- Net income (loss) $ 40,467 $(239,362) $ 48,945 $(290,307) ====================== ====================== Basic net income (loss) per share $ 0.45 $ (2.74) $ 0.55 $ (3.33) Diluted net income (loss) per share $ 0.41 $ (2.74) $ 0.51 $ (3.33) Weighted average shares: Basic 89,536 87,504 88,928 87,124 Diluted 97,693 87,504 95,111 87,124 The accompanying notes are an integral part of these condensed consolidated financial statements. Page 2 INTEGRATED DEVICE TECHNOLOGY, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED; IN THOUSANDS) Sep. 26, Mar. 28, 1999 1999 ------------------------ ASSETS Current assets: Cash and cash equivalents $ 240,553 $ 144,598 Short-term investments 79,790 56,516 Accounts receivable, net 72,855 58,899 Inventories, net 63,236 60,787 Prepayments and other current assets 17,296 42,015 ------------------------ Total current assets 473,730 362,815 Property, plant and equipment, net 253,686 299,235 Other assets 58,527 59,155 ------------------------ TOTAL ASSETS $ 785,943 $ 721,205 ======================== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 35,978 $ 37,076 Accrued compensation and related expenses 26,508 16,736 Deferred income on shipments to distributors 49,336 41,759 Other accrued liabilities 55,740 63,100 --------- --------- Total current liabilities 167,562 158,671 Convertible subordinated notes, net 180,221 184,354 Other liabilities 97,147 78,854 ------------------------ Total liabilities 444,930 421,879 Stockholders' equity: Preferred stock -- -- Common stock and additional paid-in capital 386,109 372,988 Treasury stock -- (1,638) Accumulated deficit (42,018) (68,315) Accumulated other comprehensive loss (3,078) (3,709) ------------------------ Total stockholders' equity 341,013 299,326 ------------------------ TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 785,943 $ 721,205 ======================== The accompanying notes are an integral part of these condensed consolidated financial statements. Page 3 INTEGRATED DEVICE TECHNOLOGY, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED; IN THOUSANDS) Six Months Ended ---------------------- Sep. 26, Sep. 27, 1999 1998 ---------------------- OPERATING ACTIVITIES: Net income (loss) $ 48,945 $(290,307) Adjustments: Depreciation and amortization 44,583 68,029 (Gain) loss on sale of property, plant and equipment (12,425) 792 Deferred tax assets -- 29,169 Restructuring, asset impairment and other -- 179,428 Changes in assets and liabilities: Accounts receivable (14,759) 18,710 Inventories (5,588) 5,428 Prepayments and other assets 5,856 14,494 Accounts payable (374) (21,572) Accrued compensation and related expenses 10,012 (2,216) Deferred income on shipments to distributors 7,576 (12,824) Deferred revenue 32,033 -- Other accrued liabilities (946) 36,999 ---------------------- NET CASH PROVIDED BY OPERATING ACTIVITIES 114,913 26,130 ---------------------- INVESTING ACTIVITIES: QSI net cash used during the period from October 1, 1998 to March 31, 1999 (1,146) -- Purchases of property, plant and equipment (38,804) (81,364) Proceeds from sales of property, plant and equipment 43,714 1,354 Purchases of short-term investments (43,037) (38,503) Proceeds from sales of short-term investments 17,321 42,088 ---------------------- NET CASH USED FOR INVESTING ACTIVITIES (21,952) (76,425) ---------------------- FINANCING ACTIVITIES: Issuance of common stock, net 14,553 4,804 Proceeds from secured equipment financing -- 33,164 Payments on capital leases and other debt (11,559) (8,576) ---------------------- NET CASH PROVIDED BY FINANCING ACTIVITIES 2,994 29,392 ---------------------- Net increase (decrease) in cash and cash equivalents 95,955 (20,903) CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 144,598 155,517 ---------------------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 240,553 $ 134,614 ====================== Supplemental schedule of non-cash investing and financing activities: Capital lease obligations -- $ 5,022 The accompanying notes are an integral part of these condensed consolidated financial statements. Page 4 INTEGRATED DEVICE TECHNOLOGY, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) Note 1 - Basis of Presentation In the opinion of Integrated Device Technology, Inc. ("IDT" or the "Company"), the accompanying unaudited condensed consolidated financial statements contain all adjustments (consisting only of normal recurring adjustments) necessary to present fairly the financial information included therein. These financial statements should be read in conjunction with the audited consolidated financial statements and accompanying notes included in the Company's Annual Report on Form 10-K for the year ended March 28, 1999. The results of operations for the six-month period ended September 26, 1999 are not necessarily indicative of the results to be expected for the full year. Certain reclassifications have been made to prior-period balances, none of which affected the Company's financial position or results of operations, to present the financial statements on a consistent basis. Note 2 - QSI Merger In May 1999, IDT completed the acquisition of Quality Semiconductor, Inc. (QSI). QSI had been engaged in the design, development and marketing of high-performance logic and networking semiconductor products. To consummate the merger, IDT issued approximately 5,214,000 shares of its common stock in exchange for all of the outstanding common stock of QSI and granted options to purchase approximately 1,509,000 shares of IDT common stock in exchange for all of the outstanding options to purchase QSI stock. The merger was accounted for as a pooling of interests, and the condensed consolidated financial statements give effect to the merger for all periods presented. Because the fiscal year ends of IDT and QSI differ, the statements of operations and balance sheet data for QSI have been recast as shown below: IDT QSI Fiscal year ended March 28, 1999 Fiscal year ended September 30, 1998 Fiscal year ended March 29, 1998 Fiscal year ended September 30, 1997 Fiscal year ended March 30, 1997 Fiscal year ended September 30, 1996 QSI's net loss of $22.6 million for the period October 1, 1998 through March 31, 1999 has been recorded as a decrease to stockholders' equity for the quarter ended June 27, 1999. For fiscal 1999, the results of operations of IDT for the three- and six-month periods ended September 27, 1998 have been combined with the results of operations of QSI for the three- and six-month periods ended March 31, 1998, respectively. The results of operations previously reported by the separate companies and the combined amounts presented in the accompanying condensed consolidated financial statements are presented below. Page 5 Three months ended September 27, 1998 (In thousands) IDT QSI Total --------- --------- --------- Total revenue $ 130,635 $ 16,096 $ 146,731 Net loss $(237,085) $ (2,277) $(239,362) Six months ended September 27, 1998 (In thousands) IDT QSI Total --------- --------- --------- Total revenue $ 265,122 $ 34,630 $ 299,752 Net loss $(287,041) $ (3,266) $(290,307) Through September 26, 1999, IDT incurred $5.8 million in merger-related costs, including $1.0 million in fiscal 1999 and $4.8 million in fiscal 2000. Of this amount, $4.6 million related to payments for severance, retention and change-of-control agreements. The remainder consisted primarily of accounting and legal fees and printing costs. Note 3 - Restructuring Charges, Asset Impairment and Other During the first six months of fiscal 1999, the Company recorded $207.2 million of charges in cost of revenues relating primarily to asset impairment, restructuring associated with closure of a manufacturing facility and costs associated with certain technology licensing matters. In the fourth quarter of fiscal 1999, the Company reversed $3 million of the costs associated with technology licensing matters upon favorable settlement of certain of those matters. Included in these charges were $28.9 million in asset impairment and other charges which were recorded in the first quarter of fiscal 1999. These charges consisted primarily of $15.1 million for excess SRAM manufacturing equipment and $10 million in costs associated with technology licensing matters. The excess SRAM manufacturing equipment charge represented the writedown to estimated fair market value based primarily on appraisals and estimates obtained from third parties. The charge resulted from prevailing economic conditions in the SRAM market, which had experienced declines in both demand and price. Separately in the first quarter of fiscal 1999, the Company also recorded $5.5 million in research and development expenses and $0.2 million in selling, general and administrative expenses for costs associated with discontinuance of certain development efforts, including a graphics chip and a specialized logic chip. These charges were composed primarily of severance costs and technology license payments associated with the discontinued efforts. During the second quarter of fiscal 1999, the Company incurred restructuring charges which aggregated $46.4 million and related primarily to a provision for exit and closure costs associated with the San Jose, Calif. wafer fabrication facility, which the Company closed in the third quarter of fiscal 1999. The Company completed the sale of the San Jose facility in the first quarter of fiscal 2000 and continues to pursue the sale of surplus used equipment. Page 6 The following table sets forth the Company's restructuring activities through September 26, 1999: Balance Balance Mar. 28, Sep. 26, 1999 Utilized Adjustments 1999 ------- -------- ----------- ------- Write-down of fixed assets $ -- $ -- $ -- $ -- Severance and other employee related charges 300 (212) (88) -- Closure costs for manufacturing facility 5,232 (3,096) -- 2,136 ------- -------- ------- ------- $ 5,532 $(3,308) $ (88) $ 2,136 ======= ======== ======= ======= As of September 26, 1999, the net book value of equipment held for sale aggregated $0.9 million and has been included in other current assets. Given the continuing oversupply conditions in the used semiconductor equipment market, the Company cannot determine the amount of time required to completely liquidate the remaining surplus equipment. Also in the second quarter of fiscal 1999, the Company recorded a $131.9 million asset impairment and other charge which related primarily to an asset impairment reserve recorded against the manufacturing assets of IDT's eight-inch wafer fabrication facility in Hillsboro, Oregon. The Company determined that due to excess industry capacity and low prices for semiconductor products manufactured in the Hillsboro facility, future undiscounted cash flows related to its wafer fabrication assets were insufficient to recover the carrying value of the assets. As a result, the Company wrote down these assets to estimated fair market value based primarily on appraisals and estimates from independent parties. Of the $131.9 million, $5.0 million is to settle certain patent claims against the Company. Additionally, the Company recorded a charge of $3.3 million relating primarily to retention costs for manufacturing and research and development staff employed at the San Jose fabrication facility which were recorded as cost of revenues and research and development expenses in the Condensed Consolidated Statements of Operations. Page 7 Note 4 - Earnings Per Share Basic and diluted net income (loss) per share are computed using weighted-average common shares outstanding in accordance with Statements of Financial Accounting Standards (SFAS) No. 128, "Earnings Per Share." Diluted net income per share also includes the effect of stock options and convertible debt. The following table sets forth the computation of basic and diluted net income (loss) per share: Three months ended Six months ended ---------------------- --------------------- (in thousands except per Sep. 26, Sep. 27, Sep. 26, Sep. 27, share amounts) 1999 1998 1999 1998 ---------------------- --------------------- Basic: Net income (loss)(numerator) $ 40,467 $ (239,362) $ 48,945 $(290,307) ====================== ===================== Weighted average shares outstanding (denominator) 89,536 87,504 88,928 87,124 ====================== ===================== Net income (loss) per share $ 0.45 $ (2.74) $ 0.55 $ (3.33) ====================== ===================== Diluted: Net income (loss)(numerator) $ 40,467 $ (239,362) $ 48,945 $(290,307) ====================== ===================== Weighted average shares outstanding 89,536 87,504 88,928 87,124 Net effect of dilutive stock options 8,157 -- 6,183 -- ---------------------- --------------------- Total shares (denominator) 97,693 87,504 95,111 87,124 ====================== ===================== Net income (loss) per share $ 0.41 $ (2.74) $ 0.51 $ (3.33) ====================== ===================== Total stock options outstanding, including antidilutive options, were 20.7 million and 20.2 million at September 26, 1999 and September 27, 1998, respectively. The Company's convertible debt was not dilutive in any of the periods presented. Page 8 Note 5 - Comprehensive Income (Loss) The components of comprehensive income (loss) were as follows: Three months ended Six months ended (in thousands) --------------------- ---------------------- Sep. 26 Sep. 27 Sep. 26 Sep. 27 1999 1998 1999 1998 --------------------- ---------------------- Net income (loss) $ 40,467 $(239,362) $ 48,945 $(290,307) Currency translation adjustments 495 128 1,173 (410) Unrealized gain (loss) on available-for-sale investments 251 812 (542) 894 --------------------- ---------------------- Comprehensive income (loss) $ 41,213 $(238,422) $ 49,576 $(289,823) ===================== ====================== The components of accumulated other comprehensive loss (not tax affected) were as follows: Sep. 26, Mar. 28, (in thousands) 1999 1999 ---------------------- Cumulative translation adjustments $(2,484) $(3,657) Unrealized loss on available-for-sale investments (594) (52) ---------------------- $(3,078) $(3,709) ====================== Note 6 - New Accounting Pronouncements In July 1999, the Financial Accounting Standards Board (FASB) issued SFAS No. 137, "Deferral of the Effective Date of SFAS No. 133" which defers the effective date of SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities". The Company plans to adopt SFAS No. 133 as of the beginning of fiscal 2002. SFAS No. 133 requires that all derivatives be recognized in the balance sheet as assets or liabilities and measured at fair value. SFAS No. 133 also requires current recognition in earnings of changes in these fair values, depending on the intended use and designation of the derivative. The Company is currently evaluating the impact of SFAS No. 133 but does not expect any material effects on its financial position or results of operations. Note 7 - Inventories, Net Inventories, net, consisted of the following: Sep. 26, Mar. 28, (in thousands) 1999 1999 ---------------------- Raw materials $ 3,520 $ 5,986 Work-in-process 42,755 36,995 Finished goods 16,961 17,806 ---------------------- $ 63,236 $ 60,787 ====================== Page 9 Note 8 - Industry Segments The Company has three reportable segments: Communications and High-Performance Logic, SRAMs, and x86 Microprocessors. The Communications and High-Performance Logic segment includes communications memories, networking devices, embedded RISC microprocessors and high-performance logic and clock management devices. The SRAMs segment consists mainly of high-speed SRAMs. The tables below provide information about these segments for the three- and six-month periods ended September 26, 1999 and September 27, 1998: Revenues by Segment (in thousands) Three months ended Six months ended Sep. 26, Sep. 27, Sep. 26, Sep. 27, 1999 1998 1999 1998 ---------------------- ------------------ Communications and High-Performance Logic $119,949 $107,807 $233,123 $227,839 SRAMs 42,469 30,282 79,914 60,029 x86 Microprocessors 2,659 8,642 6,021 11,884 All Other 8,467 -- 8,467 -- --------------------- -------------------- Total consolidated revenues $173,544 $146,731 $327,525 $299,752 ===================== ==================== Profit (loss) by Segment (in thousands) Three months ended Six months ended Sep. 26, Sep. 27, Sep. 26, Sep. 27, 1999 1998 1999 1998 ---------------------- ------------------ Communications and High-Performance Logic $ 25,144 $ 21,471 $ 50,823 $ 47,475 SRAMs (5,082) (33,450) (16,551) (60,734) x86 Microprocessors (723) (2,398) (9,656) (20,734) All Other 8,467 -- 8,467 -- Restructuring charges, asset impairment and other -- (178,328) -- (207,244) Other nonrecurring costs -- (8,646) -- (15,069) Interest income and other 18,278 1,580 25,581 3,010 Interest expense (3,487) (3,885) (7,143) (7,389) --------------------- -------------------- Income (loss) before income taxes $ 42,597 $(203,656) $ 51,521 $(260,685) ===================== ==================== Revenues and costs on the "All Other" line of the table above relate primarily to revenues from broad licensing agreements, which the Company does not allocate to other segments. The Company expects to cease sales of x86 Microprocessor products during calendar 2000. Page 10 Note 9 - Licensing Agreements and Sales of Assets In September 1999, the Company completed the sale of x86 intellectual property and its Centaur x86 microprocessor design subsidiary, located in Austin, Texas, to VIA Technologies Inc. ("VIA"), a Taiwanese company, and its partners for an aggregate amount of $31 million. The design subsidiary consisted mainly of x86 related employees and property, plant and equipment. IDT and VIA also entered into a patent cross license agreement relating to certain non-x86 IDT patents under which IDT received $20 million. The Company recorded a pretax gain of $19.6 million, net of transaction costs, upon closure of the sale transaction. The Company has also deferred $20.0 million in future revenue related to the cross license agreement, which will be recognized ratably over the average life of the patents, which approximates seven years. During the quarter ended September 26, 1999, the Company also entered into an intellectual property cross license agreement with Intel Corporation for $20.5 million, $8.5 million of which was recognized currently as revenue. The remaining cross license fee will be recognized ratably over the average remaining life of the patents, which approximates seven years. Note 10 - Related Party Transactions During fiscal 1998, a director of the Company acted as an uncompensated agent on behalf of a subsidiary of the Company in acquiring parcels of land for future corporate development. As of March 28, 1999, the Company owed the director $11.5 million, representing the purchase price of the land. In September 1999, that subsidiary of the Company sold the land at its acquisition price to Acquisition Technology, Inc., of which the director is president. Page 11 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS All references are to the Company's fiscal quarters ended September 26, 1999 ("Q2 2000"), June 27, 1999 ("Q1 2000"), and September 27, 1998 ("Q2 1999"), unless otherwise indicated. Quarterly financial results may not be indicative of the financial results of future periods. All non-historical information contained in this discussion and analysis constitutes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements are not guarantees of future performance and involve a number of risks and uncertainties, including but not limited to: operating results; new product introductions and sales; competitive conditions; capital expenditures and capital resources; manufacturing capacity utilization, and the Company's efforts to consolidate and streamline production; customer demand and inventory levels; protection of intellectual property in the semiconductor industry; and the risk factors set forth in the section "Factors Affecting Future Results." Future results may differ materially from such forward-looking statements as a result of such risks. The Company undertakes no obligation to publicly release the results of any revisions to these forward-looking statements which may be made to reflect events or circumstances after the date hereof. HISTORICAL INFORMATION RELATING TO FISCAL 1999 RESTRUCTURING AND ASSET IMPAIRMENT AND OTHER CHARGES AND ACTIONS TAKEN During the first six months of fiscal 1999, IDT recorded $207.2 million in charges related to asset impairment and restructuring, which were specifically identified in the Condensed Consolidated Statements of Operations, and an additional $9.0 million of charges which were recorded as operating expenses. These charges related principally to closure of one of three wafer fabrication facilities located in the United States, recording an asset impairment charge to reduce the carrying value of one of the remaining facilities, discontinuing research initiatives and costs associated with intellectual property matters. These charges are discussed below under the captions "Gross Profit," "Research and Development" and "Selling, General and Administrative." From fiscal 1994 through fiscal 1996, IDT's sales volume more than doubled, growing from $330 million to $679 million. The growth was principally based upon strong demand for SRAM products, especially cache memory products for use in personal computers. At the peak of demand for IDT's SRAM products, sales of SRAM and related products accounted for approximately 45% of IDT's revenues. As business conditions in the semiconductor industry improved through the mid-1990s, the Company took steps to significantly expand its manufacturing capacity. Most notably, the Company constructed the Hillsboro, Oregon fabrication facility and the assembly and test facility located in Manila, the Philippines. During the period fiscal 1995 through fiscal 1998, IDT expended more than $700 million for acquisitions of property, plant and equipment. In addition to providing incremental manufacturing capacity, the Hillsboro facility provides the Company with advanced wafer fabrication technology and capability. However, the costs of such advanced wafer manufacturing technology and capability are significant. To recover such costs, semiconductor manufacturers must be able to amortize device design, equipment and facility acquisition costs over a significant volume of products with a selling price that reasonably reflects the advanced level of technology employed in their design and manufacture. Page 12 As IDT's additions to manufacturing capacity became available for use in fiscal 1997, business conditions in the memory sector of the semiconductor industry changed dramatically. Selling prices of industry-standard SRAM components fell as much as 80% over an approximate 12-month period. The price decreases were the result of a significant increase in market supply of industry standard SRAM parts from principally foreign competitors, such as Samsung, Winbond, UMC and other Taiwanese and Korean companies, which allocated increased capacity to SRAM products. Also, U.S.-based companies with Taiwan- and Korean-sourced SRAM wafers from foundries such as TSMC provided additional product supply. These competitors reduced prices at a time when market demand slowed as customers reduced the levels of inventories carried. As a result of the difficult operating conditions that have existed in the semiconductor industry for the past few years, and which intensified in the middle of calendar 1998, including excess product supply and low prices, IDT consolidated and streamlined manufacturing operations, including closing its wafer fabrication facility located in San Jose, California. This operational decision primarily reflected industry oversupply conditions. The Company is moving away from dependence on industry-standard products, is expanding the range of its products manufactured at Hillsboro, and, as noted above, has increased the level of manufacturing facility utilization. However, as of early fiscal 1999, the products historically manufactured in the Hillsboro facility and planned for the near term were principally SRAM and x86 microprocessor products (x86 products represented a small percentage of IDT's total revenues, and IDT has since sold some of its x86 related assets). In fiscal 1999, the pricing of industry standard SRAM and x86 products manufactured by the Company remained low. As a result of low market prices, the cash flows generated by sales of products manufactured at Hillsboro were disproportionate to the cost of the facility and significantly less than the cash flows generated by IDT's other comparable manufacturing activities. In fiscal 1999, the Company performed an asset impairment review for the Hillsboro facility based upon IDT's operating conditions, and concluded that, despite the closure of its San Jose facility, IDT was still in a position of overcapacity. The impairment review revealed that then projected production volumes and related cash flows from the Hillsboro facility would not be sufficient to recover the carrying value of that manufacturing facility. Therefore, in accordance with current accounting literature, IDT concluded that the carrying value of the Hillsboro manufacturing assets was impaired and wrote down the carrying values of these assets to fair market value, as estimated by third parties with significant experience in marketing and selling used semiconductor equipment. As discussed below, the semiconductor industry is cyclical in nature, and while demand and price levels for the products manufactured at the Hillsboro facility may improve from fiscal 1999 levels, in fiscal 1999, the timing and degree of any such recovery was uncertain. Throughout a difficult operating period, IDT remained focused on producing value-added products for its communications customers. These products include communications memories, embedded RISC microprocessors, high-speed, static random access memories (SRAMs) and high-performance logic products. IDT has successfully offered many of these and similar products to its customers for more than 10 years. IDT intends to continue its efforts to align its business practices to focus on serving its markets in an efficient manner and providing value to stockholders. Page 13 RESULTS OF OPERATIONS REVENUES Pooling of interests accounting has been used to account for the merger of Quality Semiconductor, Inc. (QSI) with IDT. Under pooling of interests accounting, IDT's past results are restated to include the results of QSI (see Note 2 of Notes to Condensed Consolidated Financial Statements). Revenues for Q2 2000 were $173.5 million, an increase of $19.6 million compared to the $154.0 million recorded in Q1 2000, and an increase of $26.8 million over revenues of $146.7 reported for Q2 1999. Revenues for the first six months of fiscal 2000 were $327.5 million, a $27.8 million increase over the comparable period in fiscal 1999. Included in Q2 2000 revenue is approximately $8.5 million which represents currently recognized revenue associated with an intellectual property cross license with Intel Corporation ("Intel"). In Q2 2000, IDT entered into a cross license with Intel and received as consideration $20.5 million. The remaining revenue associated with the cross license with Intel is being recognized over the estimated useful life of the relevant intellectual property. Revenue associated with the ongoing operations of the Company was $165.1 million. Excluding the effect of intellectual property licensing revenues, the increase in quarterly and six- month revenues to $165.1 million and $319.0 million, respectively, is primarily the result of increased sales of semiconductor products to IDT's Communications and High Performance Logic and SRAM customers, partially offset by a decline in sales of x86 Microprocessor products. Sales of IDT's Communications and High Performance Logic and SRAM products increased in the quarter and six-month periods ended Q2 2000, primarily because of increased volumes of products sold. Sales of x86 microprocessor products for the quarter and six months ended Q2 2000 declined to $2.7 million and $6.0 million, respectively, and were $8.6 million and $11.9 million in the comparable periods of fiscal 1999. In calendar 2000, IDT intends to cease selling x86 products, except where required to do so by contract. IDT does not expect x86 sales volumes, if any, under existing contracts to be significant. The Company believes revenues and costs associated with existing and new products in the Communications and High-Performance Logic and SRAM segments will increase in future quarters as the Company continues to execute product introduction strategies, assuming that overall levels of industry demand continue to improve. Excluding any potential risks and costs to combine QSI manufacturing operations with IDT's manufacturing operations, the merger of QSI into the Company is essentially complete and expected to continue to benefit operating results. Information on risks associated with the expansion of IDT's product families is included in "Factors Affecting Future Results." The semiconductor industry is highly cyclical and subject to significant downturns. Such downturns are characterized by diminished product demand, production over-capacity and accelerated average selling price erosion. The price the Company receives for its industry-standard SRAM and other products is therefore dependent upon industry-wide demand and capacity, and such prices have been historically subject to rapid change. Low SRAM prices have adversely affected, and may continue to adversely affect, the Company's operating results. - --------- (TM) WinChip and RISController are trademarks of Integrated Device Technology, Inc. All other brand names and products names are trademarks, registered trademarks or trade names of their respective holders. Page 14 GROSS PROFIT Gross profit for Q2 2000 was $84.3 million, compared to gross profit of $68.4 million in Q1 2000 and a loss of $132.8 million in Q2 1999. Gross profit for the first six months of fiscal 2000 increased by $267.9 million compared to the same period in the previous fiscal year. Excluding restructuring charges, asset impairment and other costs, IDT's gross profit as a percentage of revenues improved in both the quarter and six-month period ended Q2 2000. Gross profit as a percentage of revenues also improved in Q2 2000 over the comparable percentage for Q1 2000. As a percentage of revenues, gross profit was 46.3% on an operating basis in Q2 2000, 44.4% in Q1 2000 and 45.4% for the six-month period ended Q2 2000. In fiscal 1999, the comparable percentages were 31.1% for Q2 1999 and 30.7% for the six-month period ended Q2 1999. IDT's gross margin has improved in fiscal 2000 over comparable periods in fiscal 1999 because of higher revenues, increased unit sales, and the consolidation of fabrication production volumes in fiscal 1999, including the closure of one fabrication facility. Consolidation of production volumes has allowed IDT to improve utilization of its remaining fabrication facilities, resulting in a lower overall cost per unit produced. IDT's gross margin has also improved in fiscal 2000 over fiscal 1999 because a reduction in depreciation expense resulting from lower carrying values of impaired manufacturing assets. In Q1 1999, the Company recorded a charge of $28.9 million which was specifically identified in the Company's Condensed Consolidated Statements of Operations as a reduction in gross profit. The $28.9 million charge related primarily to excess SRAM manufacturing equipment ($18.9 million) and certain technology licensing matters ($10.0 million). In Q4 1999, the Company reversed $3 million of the technology licensing costs upon favorable settlement of certain of these matters. The net carrying value of equipment before writedown was $17.4 million, and after writedown was $2.3 million. The portion of the charge which pertains to excess SRAM related equipment was associated with equipment which was no longer used in the Company's normal operations because of changes in demand in the semiconductor marketplace or changes in the Company's product strategy. The equipment related portion of the charge was computed as the difference between the net book value of the equipment and estimates of fair market value, as estimated by third parties with significant experience in marketing and selling used semiconductor equipment. As a result of the charge related to excess manufacturing equipment, the reduction in annual depreciation expense was approximately $4 million. Additionally, the Company recorded a charge of $5.7 million relating primarily to discontinuing certain technology development initiatives, which have been classified as research and development expenses in the Company's Condensed Statements of Operations. At the end of Q2 2000, the net book value of assets held for sale totaled $0.9 million and has been included in other current assets. Due to current oversupply conditions for used semiconductor equipment, the Company cannot estimate a date for disposal of all used semiconductor equipment. In Q2 2000, the Company also recorded a $131.9 million asset impairment and other charge which related primarily to an asset impairment reserve recorded against the manufacturing assets of IDT's eight-inch wafer fabrication facility in Hillsboro. The Company determined that due to excess industry capacity and low prices for semiconductor products manufactured in the Hillsboro facility, future undiscounted cash flows related to its wafer fabrication assets were insufficient to recover the carrying value of the assets. As a result, the Company wrote down these assets to estimated fair market value based primarily on appraisals and estimates from independent parties. Of the $131.9 million, $5.0 million is to settle certain patent claims against the Company. Page 15 The Company realized annual cost savings of approximately $45 million as a result of manufacturing restructuring actions taken in Q2 1999 (see Note 3 of Notes to Condensed Consolidated Financial Statements). The cost savings associated with the manufacturing restructuring were partially realized in Q4 1999 and fully realized beginning in Q1 2000. As a result of asset impairment charges in fiscal 1999, which reduced the carrying value of manufacturing equipment, IDT's annual depreciation expense was reduced by approximately $25 million. Historically, SRAM and x86 microprocessor products have been produced at the Hillsboro facility and the Company is unable to predict whether demand for industry-standard SRAM products, or IDT's share of the available markets, will improve. Should IDT's production volumes, especially at its fabrication facilities, decline and should the Company be unable to otherwise increase revenue or decrease costs per unit sold, the Company's gross profit would be adversely impacted. Further, if prices on new or existing industry-standard SRAM products do not improve or the Company is not able to manufacture and sell other products at comparable or better margins, and if a greater percentage of the Hillsboro facility's operating costs are allocated to cost of goods sold based on activities performed, then gross margin may not improve, or may decrease. RESEARCH AND DEVELOPMENT For Q2 2000, research and development ("R&D") expenses increased by $1.4 million from Q1 2000 and decreased by $10.7 million compared to Q2 1999. R&D expenses decreased by $25.8 million for the first six months of fiscal 2000 compared to the first six months of fiscal 1999. R&D expenses for Q1 1999 included $5.5 million in charges, primarily associated with discontinuing certain development efforts, severance and termination costs associated with development personnel and related payments under technology license agreements associated with such development efforts. Development efforts discontinued included a graphics chip and a specialized logic chip. Cost savings associated with discontinuing these development efforts are approximately $1 million per quarter. R&D expenses for Q2 1999 included $.6 million in costs, primarily associated with retention costs earned by research and development staff during Q2 1999 which are employed at the San Jose fabrication facility. R&D expenses in the six month period ended Q2 2000 were lower than the comparable period in fiscal 1999 primarily because of reduced process R&D associated with the closure of IDT's San Jose, California wafer fabrication facility which was closed during the consolidation of IDT's fabrication facilities discussed above. The allocation of manufacturing costs associated with process R&D has decreased in fiscal 2000 as a result of fewer fabrication facilities and continued improved manufacturing facility utilization at the remaining facilities. Management expects that in the coming quarters, R&D expense will decrease as a result of the sale of the Austin x86 microprocessor design center during Q2 2000. Current R&D activities include enhancing IDT's family of specialty memory products for the communications and networking markets, conducting research into applications of high-speed DRAM technology for the communications market, developing RISController(TM) microprocessors primarily for communications and embedded control applications and developing an advanced SRAM architecture that significantly improves performance of communications applications requiring frequent switches between reads and writes. Page 16 SELLING, GENERAL AND ADMINISTRATIVE Selling, general and administrative ("SG&A") expenses decreased by $1.4 million and $3.2 million for Q2 2000 compared to Q1 2000 and Q2 1999, respectively. For the first six months of fiscal 2000, SG&A expenses decreased by $0.5 million compared to the first six months of fiscal 1999. The decrease in SG&A in Q2 2000 when compared to Q1 2000 is primarily attributable to the non-recurring nature of the merger expenses, described below, which were recorded as SG&A in Q1 2000. The Company expects that in the coming quarters recurring SG&A expenses will remain relatively constant with Q2 2000 levels, except for costs such as sales commissions and sales bonuses which will vary in relation to sales volumes. Upon the completion of management information systems implementation projects, anticipated to occur within calendar 1999, management expects that SG&A expenses as a percentage of sales will decrease. MERGER EXPENSES The Company incurred $4.8 million in expenses related to the QSI merger in Q1 2000, including $4.6 million in severance and employee retention costs. The Company incurred no merger-related expenses in Q2 2000. INTEREST EXPENSE Interest expense is primarily associated with the 5.5% Convertible Subordinated Notes, due in 2002, and secured equipment financing agreements which amortize over the term of the financing agreements. Interest expense of $3.5 million for Q2 2000 was essentially unchanged compared to Q1 2000 and Q2 1999. Interest expense for the six months ended September 26, 1999 was also essentially unchanged compared to the same period one year earlier. INTEREST INCOME AND OTHER, NET Interest income and other, net, was $18.3 million in Q2 2000, an increase of $11.0 million and $16.7 million compared to Q1 2000 and Q2 1999, respectively. Interest income and other, net for the six months ended September 26, 1999 increased by $22.6 million compared to the same period in fiscal 1999. The increases in interest income and other, net, in fiscal 2000 compared to fiscal 1999 were mainly the result of gains of $19.6 million related to the sale of IDT's Centaur design subsidiary and WinChip processor intellectual property in Q2 2000. In Q2 2000, partially offsetting gains associated with these asset sales was a provision for a loan to an investee company. The Company also recognized a gain of $4.6 million gain on the sale of its closed San Jose facility in Q1 2000. TAXES The Company's effective tax rate for Q1 2000 and Q2 2000 was 5%. Tax expense for Q2 1999 of $35.7 million was primarily due to a reserve taken against the value of the Company's net deferred assets. The Company realized no federal tax benefit in fiscal 1999 as a whole because of IDT's inability to carry back losses. IDT expects that its effective tax rate in future fiscal years will be higher than the rate for fiscal 2000. The tax rate in future years will be dependent on IDT's level of profitability and the ability of the Company to recognize deferred tax assets. Page 17 LIQUIDITY AND CAPITAL RESOURCES At September 26, 1999, cash and cash equivalents were $240.6 million, an increase of $96.0 million from $144.6 million at March 28, 1999. Additionally, the Company had short-term investments of $79.8 million and $56.5 million at September 26, 1999 and March 28, 1999, respectively. The Company generated $114.9 million in cash from operating activities during the first two quarters of fiscal 2000, up from $26.1 million for the same period in fiscal 1999. In Q2 2000, the Company received $20.5 million from Intel in connection with a cross license agreement. Of this amount, $8.5 million was recorded as revenue in Q2 2000 and the remainder as deferred revenue. Deferred revenue also includes $20 million received from VIA Technologies in Q2 2000 under another license agreement (see Note 9 of Notes to Condensed Consolidated Financial Statements). During Q2 2000, IDT loaned $10 million to an investee company. The loan will provide the investee with the ability to continue its development activities while seeking other sources of long term funding. During the first two quarters of fiscal 2000, the Company's net cash used for investing activities was $22.0 million, including $38.8 million for capital expenditures. The Company received $43.7 million in proceeds from sales of property, plant and equipment, consisting primarily of the sale of the San Jose fabrication facility, which had been closed during fiscal 1999 in connection with the Company's restructuring efforts, and assets associated with the Company's x86 design subsidiary. Financing activities provided $3.0 million during the first six months of fiscal 2000. Financing activities included the repurchase and retirement of 5.5% Convertible Subordinated Notes for $3.5 million. The notes had a face value of $4.5 million. The Company may retire additional portions of the notes from time to time, as authorized by the Board of Directors. Cash provided by financing activities was $29.4 million in the first six months of fiscal 1999, due mainly to several equipment financing transactions during Q1 1999. The Company entered into capital leases under which it sold certain previously purchased manufacturing equipment to leasing companies which leased them back to IDT for use at the Hillsboro fabrication facility. These lease transactions generated $19.0 million in cash proceeds. The Company also entered into other capital leases for manufacturing equipment in Q1 1999. In total, the Company's lease obligations under capital leases increased by $24.0 million in connection with these transactions. Under another leasing arrangement, equipment purchased for the Hillsboro facility with a net book value of $11.9 million was sold and leased back for use at the Hillsboro facility under a lease classified as operating. The Company also entered into a $5.0 million secured loan arrangement which is collateralized by certain manufacturing assets. IDT anticipates capital expenditures of approximately $50 million during the second half of fiscal 2000. The Company plans to finance these expenditures primarily through cash generated from operations and existing cash and investments. The Company may also investigate other financing alternatives, depending on whether available terms are favorable to the Company. The Company believes that existing cash and cash equivalents, cash flow from operations and credit facilities available to the Company will be sufficient to meet its working capital, mandatory debt repayment and anticipated capital expenditure requirements through the remainder of fiscal 2000 and 2001. While the Company is reviewing all operations with respect to cost-savings opportunities, there can be no assurance that the Company will not be required to seek other financing sooner or that such financing, if required, will be available on terms satisfactory to the Company. If the Company is required to seek other financing sooner, the unavailability of financing on terms satisfactory to IDT could have a material adverse effect on the Company. Page 18 FACTORS AFFECTING FUTURE RESULTS The preceding discussion contains forward-looking statements, which are based on management's current expectations. These include, in particular, the statements related to revenues and gross profit, R&D and SG&A expenses and activities, interest expense, interest income and other, taxes, capital spending and financing transactions, as well as statements regarding successful development and market acceptance of new products, industry conditions and demand, effects of consolidation of production, capacity utilization and the acquisition of QSI. Actual results may differ materially. The Company's results of operations and financial condition are subject to the following risk factors: IDT's Operating Results can Fluctuate Dramatically IDT's operating results can fluctuate dramatically. For example, the Company had a net loss of $283.6 million for fiscal 1999 compared to net income of $8.2 million for fiscal 1998. The net loss for fiscal 1999 exceeded IDT's cumulative net income for all of fiscal 1994, 1995, 1996 and 1998, which totaled $246.8 million. In addition, IDT had a net loss of $42.3 million for fiscal 1997. Fluctuations in operating results can result from a wide variety of factors, including: o timing of new product and process technology announcements and introductions from IDT or its competitors; o competitive pricing pressures, particularly in the SRAM market; o fluctuations in manufacturing yields; o changes in the mix of products sold; o availability and costs of raw materials; o the cyclical nature of the semiconductor industry and industry-wide wafer processing capacity; o economic conditions in various geographic areas; and o costs associated with other events, such as underutilization or expansion of production capacity, intellectual property disputes, or other litigation. In addition, many of these factors also impact the recoverability of the cost of manufacturing, taxes and other assets. As business conditions change, future writedowns or abandonment of these assets may occur. Also, the Company ships a substantial portion of its products in the last month of a quarter. If anticipated shipments in any quarter do not occur, IDT's operating results for that quarter could be harmed. Further, IDT may be unable to compete successfully in the future against existing or potential competitors, and IDT's operating results could be harmed by increased competition. The recent economic downturn and continued uncertainties in some Asian economies, including Korea, have reduced demand for IDT's products. Should economic conditions in Asia deteriorate, especially in Japan, the Company's sales and business results would be harmed. The Cyclicality of the Semiconductor Industry Exacerbates the Volatility of IDT's Operating Results The semiconductor industry is highly cyclical. Market conditions characterized by excess supply relative to demand and resultant pricing declines have occurred in the past and may occur in the future. Such pricing declines adversely affect IDT's operating results and force IDT and its competitors to modify their capacity expansion programs. As an example, in prior years a significant increase in manufacturing capacity of commodity SRAMs caused significant downward trends in pricing, which adversely affected IDT's gross margins and operating results. IDT is unable to accurately estimate the amount of worldwide production capacity dedicated to industry-standard commodity products, such as SRAM, that it produces. IDT's operating results can be adversely affected by such cyclical factors in the semiconductor industry as: a material increase in industry-wide production capacity; a shift in industry capacity toward products competitive with IDT's products; and reduced demand or other factors that may result in material declines in Page 19 product pricing and could affect the portion of IDT's operating results derived from the sale of industry-standard products. Although IDT seeks to manage costs, these efforts may not be sufficient to offset the adverse effect of these factors. Demand for IDT's Products Depends on Demand in the Computer and Communications Markets The Company's customers incorporate a substantial percentage of IDT's products, including SRAMs, into computer and computer-related products, which have historically been characterized by rapid technological change and significant fluctuations in demand. Demand for certain other IDT products depends upon growth in the communications market. Any slowdown in the computer or communications markets could materially adversely affect IDT's operating results. IDT's Product Manufacturing Operations are Complex and Subject to Interruption From time to time, IDT has experienced production difficulties, including reduced manufacturing yields or products that do not meet IDT's specifications, that have caused delivery delays and quality problems. While production deliveries and delays have been infrequent and generally short in duration, IDT could experience manufacturing problems and product delivery delays in the future as a result of, among other things, complexity of manufacturing processes, changes to its process technologies, and ramping production and installing new equipment at its facilities. IDT also has wafer fabrication facilities located in Salinas, California and, as a result of the QSI merger, in eastern Australia. Substantially all of IDT's revenues are derived from products manufactured at facilities which are exposed to the risk of natural disasters, including earthquakes. If IDT were unable to use these facilities, as a result of a natural disaster, or otherwise, IDT's operations would be materially adversely affected until the Company was able to obtain other production capability. IDT does not carry earthquake insurance on its facilities, as adequate protection is not offered at economically justifiable rates. Historically, IDT has utilized subcontractors for the majority of its incremental assembly requirements, typically at higher costs than its own Malaysian and Philippines assembly and test operations. IDT expects to continue utilizing subcontractors extensively to supplement its own production volume capacity. Due to production lead times, any failure by IDT to adequately forecast the mix of product demand could adversely affect IDT's sales and operating results. IDT's Operating Results can be Substantially Impacted by Facility Expansion, Utilization and Consolidation Facility and capacity additions have resulted in a significant increase in fixed and variable operating expenses that may not be fully offset should revenues decline. IDT records as R&D expense the operating costs associated with bringing a new fabrication facility to commercial production status in the period such expenses are incurred. However, as commercial production at a new fabrication facility commences, the operating costs are classified as cost of revenues, and IDT begins to recognize depreciation expense relating to the facility. As a result of IDT's closure of the San Jose facility in fiscal 1999, IDT incurs additional operating costs in Hillsboro as commercial production continues. Accordingly, if current revenue levels are not maintained and cost savings from closing the San Jose plant do not offset these additional expense levels, or if IDT is unable to achieve gross margins from products produced at the Hillsboro facility that are comparable to IDT's other products, IDT's future results of operations could be adversely impacted. The Company has announced plans to improve its operating results through consolidation of certain manufacturing and other activities, together with headcount reductions and other actions. For example, in fiscal 1999, IDT closed its San Jose facility, resulting in a $46.4 million restructuring charge, and revalued certain assets at its Hillsboro facility, resulting in a $131.9 Page 20 million asset impairment and other charge. The expected cost savings from these actions might not be sufficient to return IDT to sustained profitability. IDT's Results are Dependent on the Success of New Products New products and process technology costs associated with the Hillsboro wafer fabrication facility will continue to require significant R&D expenditures. However, the Company may not be able to develop and introduce new products in a timely manner, its new products may not gain market acceptance, and it may not be successful in implementing new process technologies. If IDT is unable to develop new products in a timely manner, and to sell them at gross margins comparable to or better than IDT's current products, its future results of operations could be adversely impacted. IDT is Dependent on a Limited Number of Suppliers IDT's manufacturing operations depend upon obtaining adequate raw materials on a timely basis. The number of vendors of certain raw materials, such as silicon wafers, ultra-pure metals and certain chemicals and gases, is very limited. In addition, certain packages used by IDT require long lead times and are available from only a few suppliers. From time to time, vendors have extended lead times or limited supply to IDT due to capacity constraints. IDT's results of operations would be adversely affected if it were unable to obtain adequate supplies of raw materials in a timely manner or if there were significant increases in the costs of raw materials. From time to time, IDT contracts with third party semiconductor designers. As with all new products, there is risk that IDT or its contractors will not be successful in their efforts to design new products. IDT May Require Additional Capital on Satisfactory Terms to Remain Competitive The semiconductor industry is extremely capital intensive. To remain competitive, IDT must continue to invest in advanced manufacturing and test equipment. IDT could be required to seek financing to satisfy its cash and capital needs, and such financing might not be available on terms satisfactory to IDT. If such financing is required and if such financing is not available on terms satisfactory to IDT, its operations could be adversely affected. Intellectual Property Claims Could Adversely Affect IDT's Business and Operations The semiconductor industry is characterized by vigorous protection and pursuit of intellectual property rights, which have resulted in significant and often protracted and expensive litigation. In recent years, there has been a growing trend by companies to resort to litigation to protect their semiconductor technology from unauthorized use by others. IDT has been involved in patent litigation in the past, which adversely affected its operating results. Although IDT has obtained patent licenses from certain semiconductor manufacturers, IDT does not have licenses from a number of semiconductor manufacturers that have a broad portfolio of patents. IDT has been notified that it may be infringing on patents issued to certain semiconductor manufacturers and other parties and is currently involved in several license negotiations. Because the patents others are asserting primarily involve manufacturing processes, revenues from substantially all of IDT's products could be subject to the alleged infringement claims. Additional claims alleging infringement of intellectual property rights could be asserted in the future. The intellectual property claims that have been made or that may be asserted against IDT could require that IDT discontinue the use of certain processes or cease the manufacture, use and sale of infringing products, to incur significant litigation costs and damages and to develop non-infringing technology. The Company might not be able to obtain such licenses on acceptable terms or to develop non-infringing technology. Further, the failure to renew or renegotiate existing licenses on favorable terms, or the inability to obtain a key license, could adversely affect IDT. Page 21 International Operations Add Increased Volatility to IDT's Operating Results A substantial percentage of IDT's revenues are derived from non-U.S. sales. During the first six months of fiscal 2000, fiscal 1999, fiscal 1998 and fiscal 1997, non-U.S. sales accounted for 37%, 37%, 39% and 38% of IDT's revenues, respectively. During these periods, Asia-Pacific sales accounted for 9%, 8%, 10% and 8% of IDT's revenues, respectively. In addition, IDT's offshore assembly and test operations incur payroll, facilities and other expenses in local currencies. Accordingly, movements in foreign currency exchange rates, such as those seen recently in the Far East, can impact both pricing and demand for IDT's products as well as its cost of goods sold. IDT's offshore operations and export sales are also subject to risks associated with foreign operations, including: o political itstability; o currency controls and fluctuations; o changes in local economic conditions and import and export controls; and o changes in tax laws, tariffs and freight rates. Contract pricing for raw materials used in the fabrication and assembly processes, as well as for subcontract assembly services, can also be impacted by currency exchange rate fluctuations. IDT is Subject to Risks Associated with Using Hazardous Materials in its Manufacturing IDT is subject to a variety of environmental and other regulations related to hazardous materials used in its manufacturing process. Any failure by IDT to control the use of, or to restrict adequately the discharge of, hazardous materials under present or future regulations could subject it to substantial liability or could cause its manufacturing operations to be suspended. IDT's Common Stock is Subject to Price Volatility IDT's common stock has experienced substantial price volatility. Such volatility may occur in the future, particularly as a result of quarter-to-quarter variations in the actual or anticipated financial results of IDT, the companies in the semiconductor industry or in the markets served by IDT and announcements by IDT or its competitors regarding new product introductions. In addition, our stock price can fluctuate due to price and volume fluctuations in the stock market, especially those that have affected technology stocks. Impact of Year 2000 on IDT's Operations The Company, like many other companies, is subject to the risks associated with the Year 2000. If IDT's, its suppliers' or its customers' business systems do not correctly process date information beyond December 31, 1999, there could be an adverse impact on IDT's business. IDT is taking steps to minimize the risk to its business. Year 2000 Problem Defined. In brief, the Year 2000 problem is a programming problem found in many computer applications that conform to older commonly accepted standards. These applications might not function properly after December 31, 1999 or after the start of a company's fiscal year 2000. The problem dates back to the days when computer memory was limited and data storage was expensive. To save space, some dates are stored using only two digits (1998 is stored as 98). This poses no problem when the "missing" digits are all the same (e.g. 19). However, when two dates are compared, used in a calculation or sorted and the dates span the January 1, 2000 boundary, problems can occur. For example, 1999 is earlier than 2000, but without the first two digits, the result would be that 00 is earlier than 99. The fact that most business software is heavily dependent on dates means the problem is widespread. Some systems will fail in very visible and obvious ways, but others will continue to process, producing erroneous results which might not surface until later. The longer it takes before these problems are found, the more difficult, and costly, they will be to correct. All aspects of operations at any Page 22 company could be impacted, from financial to shipping, and even such areas as elevators and security systems can be affected. Many companies utilize software programs throughout their operations that include dates and make date-sensitive calculations based on two-digit fields which are assumed to begin with the year 1900. Software programs written based on this assumption are vulnerable, as the year 2000 approaches, to miscalculations and other operational errors that may be significant to their overall effectiveness. The Company relies upon products and information from critical suppliers, large customers and other outside parties, in the normal course of business, whose software programs are subject to this problem. Should miscalculations or other operational errors occur as a result of the Year 2000 issue, IDT or the parties on which it depends may be unable to produce reliable information or process routine transactions. Furthermore, in the worst case, IDT or the parties on which it depends may, for an extended period of time, be incapable of conducting critical business activities, which include but are not limited to, manufacturing and shipping products, invoicing customers and paying vendors. IDT'S Approach. In October 1997, IDT engaged the services of Keane, Inc., a software services firm with more than 30 years of relevant experience, to assist in defining IDT's approach. To date, IDT has paid approximately $165,000 in consulting fees to Keane. The methodology IDT is using consists of the following five phases: o Inventory -- In this initial phase, an inventory is taken of all software and hardware that may be affected by the Year 2000 problem. o Impact assessment -- In the second phase, the impact of the Year 2000 problem is assessed for the items identified in the Inventory phase. The assessment includes estimates of how large the impact really is, along with rough estimates for fixing the problem. o Strategy development and confirmation -- Using the information from the previous two steps, IDT develops and maintains a strategy for each affected item. This phase includes the development of any contingency plans that may be required to mitigate IDT's risk in a particular area. o Remediation plan -- In this phase, fixes necessary to bring hardware and software into Year 2000 compliance are defined. This may include code modifications, software upgrades, or hardware upgrades. o Remediation and testing -- In this phase, Year 2000 affected items are remediated and tested to verify their proper operation into the Year 2000 and beyond. IDT's rule is that any item in the critical business path must be tested. While initial testing has been completed, there will be an ongoing process of remediation followed by testing until all testing is completed. All critical business and manufacturing systems have been inventoried, the Year 2000 impact assessed, remediation plans developed and implemented and the systems tested. IDT will maintain the systems to ensure continued Year 2000 compliance. IDT has completed the installation of business and planning software licensed from SAP America, Inc. and i2 Technologies, Inc. IDT believes its critical business and manufacturing systems, i.e. all systems that are essential for IDT's continued operations, are now Year 2000 ready. Page 23 IDT Products. IDT has assessed all of its products, including the products acquired by IDT through its April 1999 acquisition of QSI. No Year 2000 related issues exist with any of IDT's products. Although IDT's products are not designed to store or manipulate dates, all other technology and products used in conjunction with the IDT product must be Year 2000 compliant to ensure proper exchange of date data. IDT Business Partners. IDT has made inquiries of its major suppliers and has received responses to these inquiries from 100 percent of its critical suppliers. IDT, either individually or with the assistance of third parties, is auditing its major suppliers regarding their Year 2000 readiness. Follow-up activities seek to determine whether the supplier is taking all appropriate steps to fix Year 2000 problems and be prepared to continue functioning effectively as a supplier in accordance with IDT's standards and requirements. To the extent possible, IDT has been working with the infrastructure suppliers for its manufacturing sites and transportation carriers to seek to ensure continuity of services. Contingency planning regarding major infrastructure failure generally includes considering increasing inventory levels above normal reserves and evaluating the need to locate inventory in other geographic locations. Unfortunately, it is not possible to identify or avoid all possible scenarios. However, with its contingency planning, IDT is assessing various scenarios and attempting to mitigate their impact, should such scenarios occur. Due to the large number of variables, including those over which IDT has little or no control, IDT is unable to provide an estimate of the damage that might occur should one or more of the scenarios take place. By the year 2000, over a five-year period, IDT will have replaced substantially all of its enterprise-wide systems. IDT has not allocated a portion of the total project cost to the Year 2000 issue. While IDT continues to monitor its system implementation costs, IDT does not believe the incremental project cost associated with Year 2000 compliance to be material, as this feature is included with software purchased by IDT to satisfy its business needs. Implementation projects, dates and timelines have been determined primarily by IDT's expanding and changing business requirements and have not been accelerated to date for Year 2000 reasons. Manufacturing systems represent IDT's only significant non-information technology (IT) systems. Amounts paid to manufacturing equipment vendors to obtain software upgrades to remediate Year 2000 issues will approximate $400,000. Requirements Associated with the Introduction of the Euro IDT is in the process of addressing the issues raised by the introduction of the Single European Currency (Euro) in January 1999. IDT does not expect the cost of any system modifications to be material and does not currently expect that the introduction and use of the Euro will materially affect its foreign exchange and hedging activities or result in any material increase in transaction costs. During the transition period, which will extend through January 1, 2000, the Company will continue to evaluate the impact of the Euro. However, based on currently available information, management does not believe that the introduction of the Euro will have a material adverse impact on IDT's financial condition or overall trends in results of operations. Page 24 PART II OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) The following exhibit is filed herewith: Exhibit No. Description ----------- ----------- 27 Financial Data Schedule (b) Reports on Form 8-K: On July 26, 1999, the Company filed a Form 8-K to announce, under Item 5, the appointment of Jerry Taylor as president and as a member of the board of directors. No financial statements were filed. Page 25 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. INTEGRATED DEVICE TECHNOLOGY, INC. Date: November 9, 1999 /s/ JERRY G. TAYLOR --------------------------------------- Jerry G. Taylor President (duly authorized officer) Date: November 9, 1999 /s/ ALAN F. KROCK --------------------------------------- Alan F. Krock Vice President, Chief Financial Officer (principal accounting officer) Page 26 EX-27 2 FDS
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS OF INTEGRATED DEVICE TECHNOLOGY, INC. AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 6-MOS APR-02-2000 MAR-29-1999 SEP-26-1999 240,553 79,790 72,855 0 63,236 473,730 253,686 0 785,943 167,562 180,221 91 0 0 340,922 785,943 327,525 327,525 174,858 174,858 55,482 0 7,143 51,521 2,576 48,945 0 0 0 48,945 0.55 0.51 ITEM SHOWN NET OF ALLOWANCE ITEM SHOWN NET OF DEPRECIATION
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