-----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, Dga+LdkQdqF86RMkikqGTcd1OgVb0R+Yhl8fdpJ8rhcuVmCexTS1/TP7vNU7ZXwn eLnW6aFrJCoxCNzSuL5O5Q== 0000932111-09-000031.txt : 20090807 0000932111-09-000031.hdr.sgml : 20090807 20090807123140 ACCESSION NUMBER: 0000932111-09-000031 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 20090630 FILED AS OF DATE: 20090807 DATE AS OF CHANGE: 20090807 FILER: COMPANY DATA: COMPANY CONFORMED NAME: MICREL INC CENTRAL INDEX KEY: 0000932111 STANDARD INDUSTRIAL CLASSIFICATION: SEMICONDUCTORS & RELATED DEVICES [3674] IRS NUMBER: 942526744 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-34020 FILM NUMBER: 09994380 BUSINESS ADDRESS: STREET 1: 1849 FORTUNE DR CITY: SAN JOSE STATE: CA ZIP: 95131 BUSINESS PHONE: 4089440800 MAIL ADDRESS: STREET 1: 1849 FORTUNE DR CITY: SAN JOSE STATE: CA ZIP: 95131 10-Q 1 form10q_063009.htm MICREL FORM 10-Q FOR THE QUARTER ENDED 6-30-09 form10q_063009.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549


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 June 30, 2009.

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 Number  1-34020

MICREL, INCORPORATED
(Exact name of Registrant as specified in its charter)

California
94-2526744
(State or other jurisdiction of
(I.R.S. Employer Identification No.)
incorporation or organization)
  

2180 Fortune Drive, San Jose, CA       95131
(Address of principal executive offices)   (Zip Code)

Registrant's telephone number, including area code: (408) 944-0800

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 ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ¨   No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer”, “accelerated filer” and” “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer ¨                                                                Accelerated filer x
Non-accelerated filer ¨                                                                  Smaller reporting company ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.)  Yes ¨ No x


As of July 31, 2009 there were 62,318,655 shares of common stock, no par value, outstanding.


 
1
 


 
MICREL, INCORPORATED
INDEX TO
REPORT ON FORM 10-Q
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2009
  
   
Page
 
PART I.  FINANCIAL INFORMATION
  
Item 1.
Financial Statements (Unaudited):
  
 
3
 
4
 
5
 
6
Item 2.
18
Item 3.
28
Item 4.
28
 
PART II.  OTHER INFORMATION
  
Item 1.
29
Item 1A.
29
Item 2.
36
Item 4.
36
Item 6.
37
 
38






ITEM 1. FINANCIAL STATEMENTS
  
   
MICREL, INCORPORATED
  
   
CONDENSED CONSOLIDATED BALANCE SHEETS
  
(Unaudited)
  
(In thousands, except share amounts)
  
   
   
June 30,
    
December 31,
  
   
2009
    
2008 
  
ASSETS
            
CURRENT ASSETS:
            
Cash and cash equivalents
   $ 33,920     $ 48,343  
Short-term investments
     25,974       25,852  
Accounts receivable, less allowances: 2009, $2,243; 2008, $2,937
     26,165       20,643  
Inventories
     35,421       37,440  
   Income taxes receivable
     4,139       6,783  
Prepaid expenses and other
     1,820       1,781  
Deferred income taxes
     17,247       17,752  
Total current assets
     144,686       158,594  
                 
LONG-TERM INVESTMENTS
     11,972       12,628  
PROPERTY, PLANT AND EQUIPMENT, NET
     71,788       76,200  
DEFERRED INCOME TAXES
     9,882       11,135  
INTANGIBLE ASSETS, NET
     658       1,338  
OTHER ASSETS
     448       448  
TOTAL
   $ 239,434     $ 260,343  
                 
LIABILITIES AND SHAREHOLDERS’ EQUITY
                
CURRENT LIABILITIES:
                
Accounts payable
   $ 13,364     $ 15,365  
Deferred income on shipments to distributors
     21,260       21,136  
Current portion of long-term debt
     7,857       --  
Other current liabilities
     7,838       10,696  
Total current liabilities
     50,319       47,197  
                 
LONG-TERM DEBT, NET
     7,143       --  
LONG-TERM INCOME TAXES PAYABLE
     4,883       4,468  
ACCRUED RENT
     229       272  
Total liabilities
     62,574       51,937  
                 
SHAREHOLDERS’ EQUITY:
                
Preferred stock, no par value - authorized: 5,000,000 shares;
                
issued and outstanding: none
     --       --  
Common stock, no par value - authorized: 250,000,000 shares;
                
issued and outstanding:  2009 – 62,318,655 shares; 2008 – 67,308,899 shares
     --       --  
Accumulated other comprehensive loss
     (2,522 )     (2,244 )
Retained earnings
     179,382       210,650  
Total shareholders’ equity
     176,860       208,406  
TOTAL
   $ 239,434     $ 260,343  
                 
   
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
  



MICREL, INCORPORATED
  
   
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
  
(Unaudited)
  
(In thousands, except per share amounts)
  
   
   
Three Months Ended
    
Six Months Ended
  
   
June 30,
    
June 30,
  
   
2009
    
2008
    
2009
    
2008
  
                         
NET REVENUES
   $ 51,798     $ 70,593     $ 98,784     $ 136,645  
COST OF REVENUES (1)
     25,232       30,809       48,601       59,679  
GROSS PROFIT
     26,566       39,784       50,183       76,966  
OPERATING EXPENSES:
                                
Research and development (1)
     11,484       14,758       23,973       28,884  
Selling, general and administrative (1)
     8,913       11,557       17,771       23,482  
Restructuring expense (credit)
     --       --       --       (842 )
Proxy contest expense
     --       2,390       --       2,721  
Total operating expenses
     20,397       28,705       41,744       54,245  
INCOME FROM OPERATIONS
     6,169       11,079       8,439       22,721  
OTHER INCOME (EXPENSE):
                                
Interest income
     197       645       513       1,730  
Interest expense
     (60 )     (1 )     (60 )     (1 )
Other income, net
     56       36       80       47  
Total other income, net
     193       680       533       1,776  
INCOME BEFORE INCOME TAXES
     6,362       11,759       8,972       24,497  
PROVISION FOR INCOME TAXES
     2,495       4,371       3,559       8,791  
NET INCOME
   $ 3,867     $ 7,388     $ 5,413     $ 15,706  
NET INCOME PER SHARE:
                                
Basic
   $ 0.06     $ 0.10     $ 0.08     $ 0.22  
Diluted
   $ 0.06     $ 0.10     $ 0.08     $ 0.22  
WEIGHTED AVERAGE SHARES USED IN
                                
   COMPUTING PER SHARE AMOUNTS:
                                
Basic
     63,525       71,118       64,840       71,682  
Diluted
     63,573       71,413       64,897       71,801  
                                 
(1) Share-based compensation expense included in:
                                
Cost of revenues
   $ 142     $ 282     $ 286     $ 515  
Research and development
     417       568       708       1,172  
Selling, general and administrative
     416       589       689       1,241  
                                 
   
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
  



MICREL, INCORPORATED
  
   
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
  
(Unaudited)
  
 (In thousands)
  
Six Months Ended
  
   
June 30,
  
   
2009
    
2008
  
NET CASH FLOWS PROVIDED BY OPERATING ACTIVITIES:
            
Net income
   $ 5,413     $ 15,706  
Adjustments to reconcile net income to net cashprovided by operating activities:
                
Depreciation and amortization
     8,455       9,557  
Share-based compensation expense
     1,683       2,928  
Tax benefit on the exercise of employee stock options
     12       154  
Gain on disposal of assets
     (104 )     (1 )
Accrued rent
     (43 )     (26 )
Deferred income taxes provision
     342       1,500  
Changes in operating assets and liabilities:
                
Accounts receivable
     (5,522 )     (5,055 )
Inventories
     2,035       474  
Income taxes receivable
     2,644       (226 )
Prepaid expenses and other assets
     (39 )     1,738  
Accounts payable
     (2,001 )     (2,090 )
Income taxes payable
     413       813  
Other current liabilities
     (2,858 )     (3,425 )
Deferred income on shipments to distributors
     124       1,609  
Net cash provided by operating activities
     10,554       23,656  
CASH FLOWS FROM INVESTING ACTIVITIES:
                
Purchases of property, plant and equipment, net
     (3,259 )     (6,784 )
Purchases of investments
     (29,167 )     (8,851 )
Proceeds from the sale of investments
     29,248       14,120  
Net cash used in investing activities
     (3,178 )     (1,515 )
CASH FLOWS FROM FINANCING ACTIVITIES:
                
Long-term debt borrowings
     15,000       --  
Proceeds from the issuance of common stock
     176       1,211  
Repurchases of common stock
     (32,448 )     (25,482 )
Payment of cash dividends
     (4,527 )     (4,664 )
Net cash used in financing activities
     (21,799 )     (28,935 )
NET DECREASE IN CASH AND CASH EQUIVALENTS
     (14,423 )     (6,794 )
CASH AND CASH EQUIVALENTS - Beginning of period
     48,343       80,977  
CASH AND CASH EQUIVALENTS - End of period
   $ 33,920     $ 74,183  
                 
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
                
Cash paid during the period for:
                
Interest
   $ 59     $ 13  
Income taxes
   $ 218     $ 6,498  
   
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
  


 
5
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



1.
SIGNIFICANT  ACCOUNTING  POLICIES

Interim Financial Information - The accompanying condensed consolidated financial statements of Micrel, Incorporated and its wholly-owned subsidiaries (“Micrel” or the “Company”) as of June 30, 2009 and for the three and six months ended June 30, 2009 and 2008 are unaudited.  In the opinion of management, the condensed consolidated financial statements include all adjustments (consisting only of normal recurring accruals) that management considers necessary for a fair statement of its financial position, operating results and cash flows for the interim periods presented.  Operating results and cash flows for interim periods are not necessarily indicative of results for the entire year. The Condensed Consolidated Balance Sheet as of December 31, 2008, was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted ("GAAP") in the United States of America. These financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008.  These financial statements should also be read in conjunction with the Company's critical accounting policies included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008.

Net Income Per Common and Equivalent Share - Basic net income per share is computed by dividing net income by the number of weighted-average common shares outstanding.  Diluted net income per share reflects potential dilution from outstanding stock options using the treasury stock method.  Reconciliation of weighted-average shares used in computing net income per share is as follows (in thousands):

   
   
Three Months Ended
    
Six Months Ended
  
   
June 30,
    
June 30,
  
   
2009
   
2008
   
2009
   
2008
 
Weighted average common shares outstanding
     63,525       71,118       64,840       71,682  
Dilutive effect of stock options outstanding using the treasury stock method
      48        295        57        119  
Shares used in computing diluted net income per share
     63,573       71,413       64,897       71,801  

For the three and six months ended June 30, 2009, 7.8 million stock options and 8.0 million stock options, respectively, have been excluded from the weighted-average number of common shares outstanding for the diluted net income per share computations as they were anti-dilutive. For the three and six months ended June 30, 2008, 9.1 million stock options and 10.9 million stock options, respectively, have been excluded from the weighted-average number of common shares outstanding for the diluted net income per share computations as they were anti-dilutive.


2.
REVISION OF PRIOR PERIOD FINANCIAL STATEMENTS

During the fourth quarter of 2008, the Company identified errors primarily related to its calculation of deferred income on shipments to distributors ("deferred income"). Upon review of its calculations, management determined that the estimated shipping margin percentage used to calculate the deferred income balance was incorrect and this resulted in an understatement of deferred income and related cost of sales. In addition, the Company identified errors in the timing of proxy contest expense recognition during the second and third quarters of 2008. The Company assessed the materiality of these errors on prior periods’ financial statements in accordance with the SEC’s Staff Accounting Bulletin No. 99 (“SAB 99”), and concluded that the errors were not material to any prior annual or interim periods but would be material to the year ended December 31, 2008 if the entire corrections were recorded in that year. In accordance with the SEC’s Staff Accounting Bulletin No. 108 (“SAB 108”), the Company revised its financial statements for 2006, 2007 and the first three quarters of 2008 to correct for the immaterial errors. In addition, an adjustment was also recorded to reduce the beginning retained earnings at January 1, 2006 for the cumulative impact of these errors on prior periods.

 
6
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Set out below are the line items within the consolidated financial statements as of and for the three and six months ended June 30, 2008 that have been impacted by the revisions.  The revision had no impact on the Company’s total cash flows from operating, investing or financing activities.
   
As of and for the
Three Months Ended
June 30, 2008
    
As of and for the
Six Months Ended
June 30, 2008
  
(in thousands except per share amounts)
  
As
Reported
    
As
Revised
    
As
Reported
    
As
Revised
  
Consolidated Statement of Operations:
                        
Cost of revenues
   $ 30,779     $ 30,809     $ 59,540     $ 59,679  
Gross Profit
     39,814       39,784       77,105       76,966  
Income from operations
     10,843       11,079       22,594       22,721  
Income before income taxes
     11,523       11,759       24,370       24,497  
Provision for income taxes
     4,283       4,371       8,741       8,791  
Net income
     7,240       7,388       15,629       15,706  
                                 
Net income per share:
                                
Basic
   $ 0.10     $ 0.10     $ 0.22     $ 0.22  
Diluted
   $ 0.10     $ 0.10     $ 0.22     $ 0.22  
                                 
Consolidated Balance Sheets:
                                
Income taxes receivable
   $ 3,756     $ 3,168                  
Deferred income taxes
     18,151       19,220                  
Total current assets
     172,857       173,338                  
Total assets
     280,211       280,692                  
Deferred income on shipments to distributors
     21,708       24,486                  
Total current liabilities
     48,645       51,157                  
Retained earnings
     229,014       226,983                  
Total shareholders’ equity
     227,537       225,506                  
Total liabilities and shareholders’ equity
     280,211       280,692                  


3.
RECENTLY ISSUED ACCOUNTING STANDARDS


In May 2009, the Financial Accounting Standards Board (“FASB”) issued Statement No. 165, “Subsequent Events”, which established principles and requirements for subsequent events.  The statement details the period after the balance sheet date during which the Company should evaluate events or transactions that may occur for potential recognition or disclosure in the financial statements, the circumstances under which the Company should recognize events or transactions occurring after the balance sheet date in its financial statements and the required disclosures for such events.  This statement is effective for interim or annual reporting periods ending after June 15, 2009. In preparing these financial statements, Micrel evaluated the events and transactions that occurred from June 30, 2009 through August 7, 2009, the date these financial statements were issued.

In April 2009, the FASB issued SFAS No. 167, Amendments to FASB Interpretation No. 46(R). SFAS No. 167 requires a qualitative approach to identifying a controlling financial interest in a variable interest entity (VIE), and requires ongoing assessment of whether an entity is a VIE and whether an interest in a VIE makes the holder the primary beneficiary of the VIE. SFAS No. 167 is effective for annual reporting periods beginning after November 15, 2009. The Company does not expect that this standard will have a material impact on its results of operations, financial position or cash flows

 
7
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



In April 2009, the FASB issued Staff Position (FSP) Financial Accounting Standard (FAS) 157-4 “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly”. Based on the guidance, if an entity determines that the level of activity for an asset or liability has significantly decreased and that a transaction is not orderly, further analysis of transactions or quoted prices is needed, and a significant adjustment to the transaction or quoted prices may be necessary to estimate fair value in accordance with Statement of Financial Accounting Standards (SFAS) No. 157 “Fair Value Measurements”. This FSP is to be applied prospectively and is effective for interim and annual periods ending after June 15, 2009 with early adoption permitted for periods ending after March 15, 2009. The adoption of this FSP did not have a material impact on the Company’s Consolidated Financial Statements.

In April 2009, the FASB issued FSP FAS 115-2 and FAS 124-2 “Recognition and Presentation of Other-Than-Temporary Impairments”. The guidance applies to investments in debt securities for which other-than-temporary impairments may be recorded. If an entity’s management asserts that it does not have the intent to sell a debt security and it is more likely than not that it will not have to sell the security before recovery of its cost basis, then an entity may separate other-than-temporary impairments into two components: 1) the amount related to credit losses (recorded in earnings), and 2) all other amounts (recorded in other comprehensive income). This FSP is to be applied prospectively and is effective for interim and annual periods ending after June 15, 2009 with early adoption permitted for periods ending after March 15, 2009. The adoption of this FSP did not have any impact on the Company’s Consolidated Financial Statements.

In April 2009, the FASB issued FSP FAS 107-1 and Accounting Principles Board (APB) 28-1 “Interim Disclosures about Fair Value of Financial Instruments”. The FSP amends SFAS No. 107 “Disclosures about Fair Value of Financial Instruments” to require an entity to provide disclosures about fair value of financial instruments in interim financial information. This FSP is to be applied prospectively and is effective for interim and annual periods ending after June 15, 2009 with early adoption permitted for periods ending after March 15, 2009. The adoption of this FSP did not have a material impact on the Company’s Consolidated Financial Statements.

In March 2009, the FASB unanimously voted for the FASB Accounting Standards Codification (the “Codification”) to be effective July 1, 2009. Other than resolving certain minor inconsistencies in current GAAP, the Codification is not supposed to change GAAP, but is intended to make it easier to find and research GAAP applicable to particular transactions or specific accounting issues. The Codification is a new structure which takes accounting pronouncements and organizes them by approximately ninety accounting topics. Once approved, the Codification will be the single source of authoritative GAAP. All guidance included in the Codification will be considered authoritative at that time, even guidance that comes from what is currently deemed to be a non-authoritative section of a standard. Once the Codification becomes effective, all non-grandfathered, non-SEC accounting literature not included in the Codification will become non-authoritative.

In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities” (“SFAS 161”). SFAS 161 amends and expands the disclosure requirements of SFAS No. 133 and requires qualitative disclosures about objectives and strategies for using derivatives, quantitative disclosures about fair value amounts of and gains and losses on derivative instruments, and disclosures about credit-risk-related contingent features in derivative agreements. SFAS 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. The company adopted SFAS 161 on January 1, 2009. The adoption of SFAS 161 did not have a material impact on the Company’s Consolidated Financial Statements.


 
8
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



4.
SHARE-BASED COMPENSATION

The Company accounts for share-based compensation under the provisions of Statement of Financial Accounting Standard No. 123 (revised 2004) ("SFAS 123R"), “Share-Based Payment”. Share-based compensation is measured at the grant date, based on the fair value of the award and is recognized over the employee's requisite service period. For further details regarding the Company's share-based compensation arrangements, refer to Note 7 of Notes to Consolidated Financial Statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008. The following table summarizes total share-based compensation expense included in the Condensed Consolidated Statement of Operations:

   
Three Months Ended
    
Six Months Ended
  
   
June 30,
    
June 30,
  
   
2009
   
2008
   
2009
   
2008
 
Cost of revenues
   $ 142     $ 282     $ 286     $ 515  
Research and development
     417       568       708       1,172  
Selling, general and administrative
     416       589       689       1,241  
Pre-tax share-based compensation expense
     975       1,439       1,683       2,928  
Less income tax effect
     (240 )     (310 )     (451 )     (612 )
Net share-based compensation expense
   $ 735     $ 1,129     $ 1,232     $ 2,316  

During the three months ended June 30, 2009 and 2008, the Company granted 841,781 and 189,025 stock options, respectively, at weighted average fair values of $2.99 and $4.79 per share, respectively. For the six months ended June 30, 2009 and 2008, the Company granted 1,116,781 and 1,120,165 stock options, respectively, at weighted average fair values of $2.96 and $3.41 per share, respectively.

   
Three Months Ended
    
Six Months Ended
  
   
June 30,
    
June 30,
  
   
2009
   
2008
   
2009
   
2008
 
Expected term (years)
     6.8       6.0       6.8       6.1  
Stock volatility
     45.0 %     48.3 %     47.3 %     48.7 %
Risk free interest rates
     3.1 %     3.5 %     2.7 %     3.2 %
Dividends during expected terms
     1.9 %     1.5 %     2.0 %     1.4 %



As of June 30, 2009, there was $13.8 million of total unrecognized share-based compensation related to non-vested stock option awards which is expected to be recognized over a weighted-average period of 3.5 years. Total share-based compensation capitalized as part of inventory as of June 30, 2009 and December 31, 2008 was $119,000 and $102,000, respectively.


5.
INVESTMENTS

The Company accounts for its investment instruments in accordance with Statement of Financial Accounting Standards No. 115 (“SFAS 115”), “Accounting for Certain Investments in Debt and Equity Securities.” Investments purchased with remaining maturity dates of greater than three months and less than 12 months are classified as short-term. Investments purchased with remaining maturity dates of 12 months or greater are classified either as short-term or as long-term based on maturities and the Company's intent with regard to those securities (expectations of sales and redemptions). Short-term investments as of June 30, 2009 consist primarily of liquid corporate debt instruments and are classified as available-for-sale securities. Long-term investments as of June 30, 2009, consist of auction rate notes secured by student loans and are classified as available-for-sale securities.  Per SFAS 115 available-for sale securities are stated at market value with unrealized gains and losses included in shareholders’ equity. Unrealized losses are charged against income when a decline in the fair market value of an individual security is determined to be other than temporary. Realized gains and losses on investments are included in other income or expense.

 
9
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



A summary of the Company’s short-term investments at June 30, 2009 and December 31, 2008 is as follows (in thousands):

   
As of June 30, 2009
    
As of December 31, 2008
  
         
Unrealized
                
Unrealized
        
   
Cost
    
Gross
 Gains
    
Gross
 Losses
    
Fair
Value
    
Cost
    
Gross
 Gains
    
Gross
 Losses
    
Fair
Value
  
Corporate Securities
   $ 14,966     $ —     $ 64     $ 14,902     $ 17,888     $ 2     $ 63     $ 17,827  
Certificates of Deposits
     11,072       —       —       11,072       8,025       —       —       8,025  
Total
   $ 26,038     $ —     $ 64     $ 25,974     $ 25,913     $ 2     $ 63     $ 25,852  

SFAS No. 157 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1 measurements) and the lowest priority to unobservable inputs (level 3 measurements). The three levels of the fair value hierarchy under SFAS No. 157 are described below:

 
•
Level 1 - Quoted prices in active markets for identical assets or liabilities.
 
•
Level 2 - Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
 
•
Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

A financial instrument’s level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. Most of the Company’s financial instruments are classified within Level 1 or Level 2 of the fair value hierarchy because they are valued using quoted market prices, broker or dealer quotations, or alternative pricing sources with reasonable levels of price transparency.

The types of instruments valued based on quoted market prices in active markets include money market funds and commercial paper. Such instruments are generally classified within Level 1 of the fair value hierarchy. The types of instruments valued based on other observable inputs include U.S. agency securities. Such instruments are generally classified within Level 2 of the fair value hierarchy. The types of instruments valued based on unobservable inputs include the auction rate securities held by the Company. Such instruments are generally classified within Level 3 of the fair value hierarchy. The Company estimated the fair value of these auction rate securities using a discounted cash flow model incorporating assumptions that market participants would use in their estimates of fair value. Some of these assumptions include estimates for interest rates, timing and amount of cash flows and expected holding periods of the auction rate securities.

Financial assets and liabilities measured at fair value on a recurring basis as of June 30, 2009 were as follows (in thousands):

   
Fair Value Measurements as of June 30, 2009
  
Description
  
Quoted Prices in Active Markets for Identical Assets
 Level 1
    
Significant Other Observable Inputs
 Level 2
    
Significant Unobservable Inputs
 Level 3
    
Total
  
Money market funds
   $ 25,853     $ 4,468     $ −     $ 30,321  
Short-term available-for-sale securities
     25,974       −       −       25,974  
Auction rate notes
     −       −       11,972       11,972  
Total
   $ 51,827     $ 4,468     $ 11,972     $ 68,267  


 
10
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Financial assets and liabilities measured at fair value on a recurring basis as of December 31, 2008 were as follows (in thousands):

   
Fair Value Measurements as of December 31, 2008
  
Description
  
Quoted Prices in Active Markets for Identical Assets
 Level 1
    
Significant Other Observable Inputs
 Level 2
    
Significant Unobservable Inputs
 Level 3
    
Total
  
Money market funds
   $ 42,220     $ 4,457     $ −     $ 46,677  
Short-term available-for-sale securities
     25,852       −       −       25,852  
Auction rate notes
      −       −       12,628       12,628  
Total
   $ 68,072     $ 4,457     $ 12,628     $ 85,157  

As of June 30, 2009, the Company had approximately $12.0 million of auction rate notes, the fair value of which has been measured using Level 3 inputs. Auction rate notes are securities that are structured with short-term interest rate reset dates of generally less than ninety days, but with contractual maturities that can be well in excess of ten years. At the end of each reset period, which occurs every seven or twenty eight days for the securities held by the Company, investors can sell or continue to hold the securities at par. During the first quarter of 2008 and continuing through the second quarter of 2009, the auction rate securities market experienced a significant increase in the number of failed auctions, which occurs when sell orders exceed buy orders. Auctions for the student loan-backed notes held by the Company failed as of June 30, 2009. To date the Company has collected all interest payable on all of its auction-rate securities when due and expects to continue to do so in the future. The principal associated with failed auctions will not be accessible until a successful auction occurs, a buyer is found outside of the auction process, the issuers redeem the securities, the issuers repay principal over time from cash flows prior to final maturity or final payments come due according to contractual maturities ranging from 24 to 37 years. As a result, the Company has classified all auction rate notes as long-term investments as of June 30, 2009. In the event of a failed auction, the notes bear interest at a predetermined maximum rate based on the credit rating of notes as determined by one or more nationally recognized statistical rating organizations.  For the auction rate notes held by the Company as of June 30, 2009, the maximum interest rate is generally one month LIBOR plus 1.5% based on the notes’ AAA rating as of that date.

The Company has used a discounted cash flow model to determine the estimated fair value of its investment in auction rate notes as of June 30, 2009. The assumptions used in preparing the discounted cash flow model include estimates for interest rates, estimates for discount rates using yields of comparable traded instruments adjusted for illiquidity and other risk factors, amount of cash flows and expected holding periods of the auction rate notes.  Based on this assessment of fair value, as of June 30, 2009, the Company determined there was a decline in the fair value of its auction rate notes of approximately $4.0 million (recorded net of tax as an unrealized loss in accumulated other comprehensive loss), which was deemed temporary as the Company believes it will recover its cost basis in these investments.

For the six months ended June 30, 2009 the changes in the Company’s Level 3 securities are as follows (in thousands):
 
  
Fair Value Measurements Using Significant Unobservable Inputs
 (Level 3)
  
Beginning balance, December 31, 2008
   $ 12,628  
Transfers in and/or out of Level 3
     --  
Total gains or losses (unrealized), before tax:
     (456 )
Settlements
     (200 )
Ending balance, June 30, 2009
   $ 11,972  


 
11
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



6.
INVENTORIES

Inventories consist of the following (in thousands):
   
June 30,
    
December 31,
  
   
2009
    
2008
  
Finished goods
   $ 12,676     $ 12,669  
Work in process
     20,958       22,213  
Raw materials
     1,787       2,558  
    $ 35,421     $ 37,440  


7.
PROPERTY, PLANT AND EQUIPMENT

 
Property, plant and equipment consist of the following (in thousands):
   
June 30,
    
December 31,
  
   
2009
    
2008
  
Manufacturing equipment
   $ 182,963     $ 181,514  
Land
     6,636       6,636  
Buildings and improvements
     47,810       47,513  
          Leasehold Improvements
     746       746  
          Office furniture and research equipment
     13,999       13,560  
      252,154       249,969  
          Accumulated depreciation
     (180,366 )     (173,769 )
    $ 71,788     $ 76,200  

 
Depreciation expense for the three and six months ended June 30, 2009 was $3.8 million and $7.8 million, respectively.


8.
INTANGIBLE ASSETS

Components of intangible assets were as follows (in thousands):

   
As of June 30, 2009
    
As of December 31, 2008
  
   
Gross
Carrying
Amount
    
Accumulated
Amortization
    
Net
Carrying
Amount
    
Gross
Carrying
Amount
    
Accumulated
Amortization
    
Net
Carrying
Amount
  
Developed and core technology
   $ 8,718     $ 8,718     $ --     $ 8,718     $ 8,620     $ 98  
Patents and trade name
     10,318       9,660       658       10,318       9,078       1,240  
Customer relationships
     1,455       1,455       --       1,455       1,455       --  
    $ 20,491     $ 19,833     $ 658     $ 20,491     $ 19,153     $ 1,338  

Acquired technology, patents and other intangible assets continue to be amortized over their estimated useful lives of 3 to 7 years using the straight-line method. Total intangible amortization expense for the three and six month periods ended June 30, 2009 was $278,000 and $680,000, respectively.

The estimated future amortization expense of intangible assets as of June 30, 2009 was as follows (in thousands):

Year Ending December 31,
      
2009 (six months)
   $ 149  
2010
     255  
2011
     254  
Thereafter
     -  
    $ 658  
         


 
12
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



9.
OTHER CURRENT LIABILITIES

Other current liabilities consist of the following (in thousands):
   
June 30,
    
December 31,
  
   
2009
    
2008
  
Accrued workers compensation and health insurance
   $ 826     $ 880  
Accrued compensation
     4,155       7,082  
Accrued commissions
     2,578       2,366  
All other current accrued liabilities
     279       368  
Total other current liabilities
   $ 7,838     $ 10,696  


BORROWING ARRANGEMENTS

On May 7, 2009, the Company entered into a new, unsecured credit facility with Bank of the West which terminated and replaced the Company’s previous credit facility originally entered into on April 20, 2007 with Bank of the West. The new facility provides, among other things: (a) a $5 million line of credit for general working capital needs, which includes a $5 million letter of credit sub-facility including a $2 million foreign exchange sub-facility; (b) a $15 million term loan facility to finance the repurchase of shares of the Company’s common stock and (c) a modification of covenants from the previous facility, including financial covenants.  At June 30, 2009, the Company was in compliance with all credit facility covenants. At June 30, 2009, the Company had borrowed $15 million under the term loan facility and had no borrowings under the line of credit facility.

Borrowings under the term loan facility are payable over 21 equal monthly installments, beginning on August 31, 2009.  Interest under the term loan facility is payable at a rate equal to floating one-month LIBOR plus 2.25%. Interest under the line of credit facility will accrue based on one of three interest rates, at the Company’s option: (1) a variable alternate base rate plus 1.00%, the alternate base rate being the greater of (x) Bank of the West’s prime rate, (y) the Fed Funds Rate plus 0.5% or (z) daily adjusted one-month LIBOR plus 1.00%; (2) floating one-month LIBOR plus 2.25% or (3) fixed LIBOR for one, two, three or six month periods, plus 2.25%. As of June 30, 2009, the Company had borrowed $15 million under the credit facility agreement. The following table summarizes the Company’s long-term debt (in thousands):

   
June 30,
  
   
2009
  
Notes payable bearing variable interest at 1 month LIBOR plus 2.25% repayable in 21 equal monthly periods, beginning on August 31, 2009
   $  15,000  
Current portion
     (7,857 )
Long-term debt
   $ 7,143  

As of June 30, 2009, the estimated fair value of the Company’s notes payable was not materially different than its respective carrying value.


DERIVATIVE FINANCIAL INSTRUMENTS

During the three months ended June 30, 2009, the Company entered into an interest rate swap contract (the “Swap”), to partially offset its exposure to the effects of changes in interest rates on its variable-rate financing obligations. As a result of entering into the Swap, the Company has economically hedged the variability on future interest payments resulting in a fixed rate of 3.36% for $7.5 million of the Company’s notes payable (see Note 10). The Company will experience variability in future interest payments for the remaining $7.5 million unhedged portion of the Company’s notes payable. The Company does not hold derivative financial instruments for trading or speculative purposes. The Swap is considered a cash flow hedge.

 
13
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



For derivative instruments that are designated and qualify as a cash flow hedge, the effective portion of the gain or loss on the derivative is reported as a component of other comprehensive income and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings. Gains and losses on the derivative representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness are recognized in current earnings.

All derivatives are recorded at fair value in either prepaid and other current assets or other accrued liabilities. The Company reports cash flows from derivative instruments in cash flows from operating activities. As of June 30, 2009, the notional amount of the outstanding interest rate swap contract was $7.5 million.  The effect of derivative instruments on the Statement of Operations for the three and six months ended June 30, 2009 was not material. The fair values of our derivative assets and liabilities as of June 30, 2009 were not material. The Company will continue to revaluate the fair value of the derivative instrument at each period end and record corresponding impact on the balance sheet and Statement of Operations.


SIGNIFICANT CUSTOMERS

During the six months ended June 30, 2009, three customers accounted for more than 10% of net revenues. An original equipment manufacturer accounted for $12.1 million (12%) and two worldwide distributors accounted for $19.4 million (20%) and $13.0 million (13%) of net revenues, respectively. During the six months ended June 30, 2008, two customers, both worldwide distributors, accounted for $20.0 million (15%) and $19.8 million (15%) of net revenues, respectively.

As of June 30, 2009, two worldwide distributors accounted for 28% and 11%, respectively, of total accounts receivable. At December 31, 2008, three world-wide distributors and a stocking representative, accounted for 21%, 13%, 11% and 10%, respectively, of total accounts receivable.


COMPREHENSIVE INCOME

Comprehensive income, which was comprised of the Company's net income for the periods and changes in unrealized gains or losses on investments, net of tax, was $4.1 million and $5.1 million for the three and six months ended June 30, 2009, respectively.  Comprehensive income for the three and six months ended June 30, 2008 was $7.1 million and $14.3 million, respectively.


SEGMENT REPORTING

The Company follows the provisions of SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information. SFAS No. 131 establishes standards for reporting information regarding operating segments in annual financial statements and requires selected information for those segments to be presented in interim financial reports issued to stockholders. SFAS No. 131 also establishes standards for related disclosures about products and services and geographic areas. Operating segments are identified as components of an enterprise about which separate discrete financial information is available for evaluation by the chief operating decision maker. The Company has two reportable segments: standard products and other products, which consist primarily of custom and foundry products and revenues from the license of patents. The chief operating decision maker evaluates segment performance based on revenue. Accordingly, all expenses are considered corporate level activities and are not allocated to segments. Therefore, it is not practical to show profit or loss by reportable segments. Also, the chief operating decision maker does not assign assets to these segments. Consequently, it is not relevant to show assets by reportable segments.

 
14
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)




Net Revenues by Segment
  
Three Months Ended
    
Six Months Ended
  
(dollars in thousands)
  
June 30,
    
June 30,
  
   
2009
   
2008
   
2009
   
2008
 
Net Revenues:
                        
Standard Products
   $ 50,158     $ 67,004     $ 95,719     $ 128,311  
Other Products
     1,640       3,589       3,065       8,334  
Total net revenues
   $ 51,798     $ 70,593     $ 98,784     $ 136,645  
As a Percentage of Total Net Revenues:
                                
Standard Products
     97 %     95 %     97 %     94 %
Other Products
     3 %     5 %     3 %     6 %
Total net revenues
     100 %     100 %     100 %     100 %


LITIGATION AND OTHER CONTINGENCIES

On June 9, 2006, Deerfield 3250 Scott, LLC ("Deerfield"), the building owner of Micrel's Santa Clara Wafer Fab facility which was closed in 2003, filed a complaint against the Company entitled "Deerfield 3250 Scott, LLC vs. Micrel, Inc. et al" in the Superior Court of the State of California, County of Santa Clara.  In February 2006, Micrel terminated this building lease under the terms of the lease agreement due to major vandalism rendering the building unusable.  Deerfield disputes that Micrel had a right to terminate, alleging that the vandalism took place because of the negligence of Micrel and that Micrel should not be able to benefit from its own negligence.  The complaint sought damages in an unspecified amount for rent through the remaining term of the lease (from March 1 through October 31, 2006), alleged damages to the premises, and for wrongful removal of equipment.  On March 5, 2008, the Company and Deerfield entered into a Settlement Agreement, agreeing to dismiss with prejudice all claims and counterclaims in the litigation.  Under the terms of the Agreement, the Company paid Deerfield $875,000 in the first quarter of 2008 (see Note 19). Additional claims have been filed by or have arisen against the Company in its normal course of business.  The Company believes that the ultimate resolution of these claims and lawsuits will not have a material adverse effect on the Company's financial condition, results of operations or cash flows.

Generally, litigation is subject to inherent uncertainties, and no assurance can be given that the Company will prevail in any particular lawsuit.  Accordingly, any pending lawsuits, as well as potential future litigation with other companies, could result in substantial costs and diversion of resources and could have a material adverse effect on the Company’s financial condition, results of operations or cash flows.


SHARE REPURCHASE PROGRAM

On December 30, 2008, the Company's Board of Directors approved a $50 million share repurchase program for calendar year 2009. The timing and amount of any repurchase of shares will be determined by the Company’s management, based on its evaluation of market conditions and other factors. Share repurchases are recorded as a reduction of common stock to the extent available. Any amounts in excess of common stock are recorded as a reduction of retained earnings.

During the six months ended June 30, 2009, the Company repurchased 5,020,920 shares of its common stock for an aggregate price of $32.4 million. Included in the 5,020,920 shares repurchased were 4,675,000 shares purchased from Obrem Capital Offshore Master, LP and Obrem Capital (QP), LP, at an average price per share of $6.42 and an aggregate price of $30 million.


 
15
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



PROXY CONTEST EXPENSE

During the first quarter of 2008, the Company became engaged in a proxy contest with a small activist hedge fund, Obrem Capital Management LLC (“OCM”).  The proxy contest resulted in Micrel incurring incremental expenses of $331,000 in the first quarter, $2.4 million in the second quarter, $349,000 in the third and $1.1 million in the fourth quarter of 2008. These expenses consist primarily of outside consulting and legal fees.  Following a special meeting of shareholders on May 20, 2008, at which the Company’s shareholders rejected all proposals set forth by OCM, OCM agreed to withdraw its slate of nominees for the Company’s Board of Directors, and support Micrel’s Board of Directors nominees at the upcoming annual meeting of shareholders. Micrel’s slate of directors was subsequently elected by shareholders at the Company’s annual meeting on October 1, 2008.


INCOME TAXES

The income tax provision for the three and six months ended June 30, 2009, as a percentage of income before taxes, was 39.2% and 39.7%, respectively, as compared to 37.2% and 35.9%, respectively, for the comparable periods in the prior year. These increases resulted primarily from additional tax provisions recorded for the three and six months ended June 30, 2009 of $285,000 and $525,000, respectively to reduce the amount of non-current deferred tax assets that were determined to be unrealizable due to California tax law changes and operational changes at one of the Company’s foreign locations.

As of June 30, 2009, the gross liability for uncertain tax positions was $9.4 million, as compared to $9.0 million as of December 31, 2008. The net liability as of June 30, 2009, reduced for the federal effects of potential state tax exposures, was $6.9 million as compared to $6.5 million as of December 31, 2008. If these uncertain tax positions are sustained upon tax authority audit, or otherwise become certain, the net $6.9 million would favorably affect the Company’s tax provision in such future periods.  Included in the $6.9 million is $2.0 million which has not yet reduced income tax payments, and, therefore, has been netted against non-current deferred tax assets.  The remaining $4.9 million liability is included in long-term income taxes payable. The Company does not anticipate a significant change to the net liability for uncertain income tax positions within the next 12 months.

The Company continues to recognize interest and penalties related to income tax matters as part of the income tax provision. As of June 30, 2009 and December 31, 2008, the Company had $566,000 and $450,000, respectively, accrued for interest and $0 accrued for penalties for both periods. These accruals are included as a component of long-term income taxes payable.

The Company is required to file U.S. federal income tax returns as well as income tax returns in various states and foreign jurisdictions. The Company may be subject to examination by the Internal Revenue Service (“IRS”) for calendar years 2004 and forward. Significant state tax jurisdictions include California, New York and Texas, and generally, the Company is subject to routine examination for years 2003 and forward in these jurisdictions. In addition, any research and development credit carryforwards that were generated in prior years and utilized in these years may also be subject to examination by respective state taxing authorities. Generally, the Company is subject to routine examination for years 2002 and forward in various immaterial foreign tax jurisdictions in which it operates.

 
16
MICREL, INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



Deferred tax assets and liabilities result primarily from temporary differences between book and tax bases of assets and liabilities, state and federal research and development credit carryforwards and state manufacturers credit carryforwards.  The Company had net current deferred tax assets of $17.2 million and net long-term deferred tax assets of $9.9 million as of June 30, 2009.  The Company must regularly assess the likelihood that future taxable income levels will be sufficient to ultimately realize the tax benefits of these deferred tax assets.  The Company currently believes that future taxable income levels will be sufficient to realize the tax benefits of these deferred tax assets and has not established a valuation allowance.  Should the Company determine that future realization of these tax benefits is not likely, a valuation allowance would be established, which would increase the Company's tax provision in the period of such determination.


RESTRUCTURING AND MANUFACTURING FACILITY IMPAIRMENT

In 2003 the Company closed its Santa Clara wafer fabrication facility. In February 2006, the Company terminated the facility lease under the terms of the lease agreement due to major vandalism rendering the building unusable.  The facility Lessor disputed the termination of the lease.  In March 2008, the Company entered into a Settlement and Mutual Release agreement with the Lessor. Under the terms of the agreement, the Company paid $875,000 to the Lessor and released a $70,000 security deposit for full settlement of all obligations under the lease (see Note 15).  The remaining unused restructuring expense accruals were credited to restructuring charges (credits) in the statement of operations during the first quarter of 2008. A summary of restructuring expense accruals associated with this facility closure is as follows: ($000)

   
Contractual Facility Costs
    
Disposal
 Costs
   
 Total
 
Balance December 31, 2006
   $ 1,257     $ 317     $ 1,574  
2007 Charges
     128       --       128  
Other
     85       --       85  
Balance December 31, 2007
     1,470       317       1,787  
2008 Uses
     (945 )     —       (945 )
Other reductions
     (525 )     (317 )     (842 )
Balance December 31, 2008
   $ —     $ —     $ —  
                         


DIVIDENDS

On April 24, 2009, the Company’s Board of Directors declared a cash dividend of $0.035 per outstanding share of common stock. The payment of $2.2 million was made on May 22, 2009 to shareholders of record as of May 6, 2009.


SUBSEQUENT EVENT

On July 23, 2009, the Company's Board of Directors declared a cash dividend of $0.035 per outstanding share of common stock payable on August 26, 2009 to shareholders of record at the close of business on August 12, 2009. This dividend will be recorded in the third quarter of 2009 and is expected to be approximately $2.2 million.

In preparing these financial statements, Micrel evaluated the events and transactions that occurred from June 30, 2009 through August 7, 2009, the date these financial statements were issued.


 
17
 
ITEM 2.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS



Overview

The statements contained in this Report on Form 10-Q that are not purely historical are 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, as amended,  including statements regarding the Company’s expectations, hopes, intentions or strategies regarding the future.  Forward-looking statements include, but are not limited to statements regarding: future revenues and dependence on standard products sales and international sales; the levels of international sales; the effect of global market conditions on revenue levels, profitability and results of operations: future products or product development; statements regarding fluctuations in the Company’s results of operations; future returns and price adjustments and allowance; future uncollectible amounts and doubtful accounts allowance; future products or product development; future research and development spending and the Company’s product development strategy; the Company’s markets, product features and performance; product demand and inventory to service such demand; competitive threats and pricing pressure; the effect of dependence on third parties; the Company’s future use and protection of its intellectual property; future expansion or utilization of manufacturing capacity; future expenditures; current or future acquisitions; the ability to meet anticipated short term and long term cash requirements; effect of changes in market interest rates on investments; the Company’s need and ability to attract and retain certain personnel; the cost and outcome of litigation and its effect on the Company; the future realization of tax benefits; and share based incentive awards and expectations regarding future stock based compensation expense and estimates made under SFAS No. 123R. In some cases, forward-looking statements can be identified by the use of forward-looking terminology such as "believe," "estimate," "may," "can," "will," "could," "would," "intend," "objective," "plan," "expect," "likely," "potential," "possible" or "anticipate" or the negative of these terms or other comparable terminology. All forward-looking statements included in this document are based on information available to the Company on the date of this report, and the Company assumes no obligation to update any such forward-looking statements. These statements are subject to risks and uncertainties that could cause actual results and events to differ materially from those expressed or implied by such forward-looking statements.  Additional factors that may affect operating results are contained within the Company's Form 10-K for the year ended December 31, 2008.

Micrel designs, develops, manufactures and markets a range of high-performance analog power integrated circuits ("ICs"), mixed-signal and digital ICs. The Company currently ships over 3000 standard products and has derived the majority of its product revenue from sales of standard analog and high speed communications ICs. These products address a wide range of end markets including cellular handsets, portable computing, enterprise and home networking, wide area and metropolitan area networks, digital televisions and industrial equipment. The Company also manufactures custom analog and mixed-signal circuits and provides wafer foundry services for customers who produce electronic systems for communications, consumer and military applications.

To enhance the readers' understanding of the Company's performance, the following chronological overview of the Company's results for the quarterly periods from January 1, 2008 through June 30, 2009 has been provided.

In the first quarter of 2008, bookings levels rebounded from the fourth quarter of 2007, resulting in the highest quarterly booking level since Q1 2006 and a book-to-bill ratio significantly above one.  First quarter revenues of $66.1 million increased 2% sequentially compared to fourth quarter 2007 revenues of $64.6 million.  The increase in revenues was primarily due to stronger demand from the wire line communications, digital television, industrial and voice-over-IP end markets, which offset seasonal declines in sales to the computing and wireless handset end markets.  Revenues through Micrel’s sell-through distributors increased in the first quarter of 2008 and the number of weeks of distribution channel inventory decreased slightly on a sequential basis.  Gross margin improved to 56.3% in the first quarter of 2008 from 55.7% in the fourth quarter of 2007 while at the same time inventory levels were reduced.  First quarter 2008 operating profit was $11.6 million, or 18% of revenues. Earnings per diluted share for the first quarter of 2008 increased to $0.12 per share from $0.11 per share reported in the fourth quarter of 2007.

During the first quarter of 2008, the Company became engaged in its first proxy contest since going public in 1994, with a small activist hedge fund, Obrem Capital Management LLC (“OCM”). This issue resulted in Micrel incurring incremental operating expenses on this matter of $331,000 in the first quarter, $2.4 million in the second quarter, $349,000 in the third quarter and $1.1 million in the fourth quarter of 2008. See “Management Discussions and Analysis of Financial Conditions and Results of Operations – Proxy Contest Expense” for additional information.

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)



In the second quarter of 2008, total bookings remained firm, resulting in a book-to-bill ratio above one. Second quarter 2008 bookings were paced by demand from customers serving the communications, industrial, and wireless handset end markets.  Customers remained very cautious, which continued to keep order lead times in the 4 to 5 week range. In the second quarter of 2008, Micrel posted its highest sequential revenue growth rate in four years.  Second quarter 2008 revenues of $70.6 million came in at the high end of the Company’s guidance, increasing by $4.5 million, or 7%, from the first quarter of 2008.  The growth in revenues was led by stronger demand from customers serving the wireline communications, wireless handset, and wi-fi voice-over-IP end markets, combined with record sales through the Company’s global sell-through distributors.  The turns fill percentage for the second quarter of 2008 was slightly above 50%.  Gross margin was 56.4%, which was similar to gross margin in the first quarter of 2008.  Second quarter 2008 operating profit was $11.1 million, or 16% of sales.  A total of $2.4 million of proxy contest expenses reduced Micrel’s operating income by approximately 18% in the second quarter of 2008, and also had the effect of reducing operating margin by approximately 3% in the second quarter of 2008.  Second quarter 2008 net income was $7.4 million, or $0.10 per diluted share. Expenses related to the Company’s proxy contest reduced net income by $0.02 per share in the second quarter of 2008.

Financial markets in the United States, Europe and Asia experienced extreme disruption in the second half 2008, including, among other things, extreme volatility in security prices, severely diminished liquidity and credit availability, ratings downgrades of certain investments and declining valuations of others. In the third quarter of 2008, concerns related to the deterioration in the global financial and credit markets, including with respect to the availability and cost of credit, contributed to instability in worldwide capital and credit markets and diminished expectations for the U.S. and global economy.  These conditions worsened in the fourth quarter of 2008, and combined with uncertainty about the global economy in general, contributed to volatility of unprecedented levels and a further economic slowdown.  Although governments have taken unprecedented actions in an attempt to alleviate the credit crisis, customers and consumers began to cut back on spending in order to conserve cash in the third quarter of 2008.  This resulted in the slowing of orders from Micrel’s distributors and direct OEM customers, which continued into the fourth quarter of 2008.

During the third quarter of 2008, total bookings were less than revenues, resulting in a book-to-bill ratio of less than one. Third quarter 2008 bookings decreased abruptly in the last two weeks of the quarter. Notwithstanding the order decrease, resales of the Company’s products from global sell-through distributors remained strong throughout the quarter and were at the highest levels ever experienced by the Company. In the third quarter of 2008, Micrel posted $67.5 million in revenue, a decrease of 4% from the second quarter of 2008. The sequential quarter decrease in sales primarily resulted from reduced demand from customers serving the wireline communications, Wi-FI voice-over IP and foundry sales to a major solar end customer. This was offset by slight increases in the computer and consumer markets. The OEM turns fill percentage for the third quarter of 2008 was approximately 50%. Third quarter gross margin was 55.3%, down 1.1% from 56.4% in the second quarter of 2008. Research and development spending was $13.8 million, or 20% of revenues in the third quarter of 2008 compared to $14.8 million or 21% of revenues in the second quarter of 2008. Selling, general and administrative expenses were $11.3 million, or 17% of sales, down from $11.6 million in the second quarter of 2008. Operating income was $11.9 million, or 18% of sales. This compares to operating income of $11.1 million in the second quarter of 2008. Other income, net was unchanged quarter to quarter at $700,000. The effective tax rate was 38.9% for the third quarter. Third quarter 2008 net income was $7.7 million, or $0.11 per diluted share.

Fourth quarter 2008 revenue of $55.2 million decreased by $12.4 million, or 18%, from $67.5 million in the third quarter of 2008. The decrease in revenues was due to tight year-end inventory control in most geographies, channels and end markets as a result of the worldwide financial crisis. The worldwide macroeconomic recession in the fourth quarter caused the Company’s customers to focus on maintaining lean inventories.  The Company’s global distributors and a number of major OEM customers took action to minimize inventories at year-end.  As a consequence, customer orders and purchases declined in November and December after strong activity in October.  For the fourth quarter 2008, Micrel’s overall book-to-bill ratio was below one. Order lead times from the Company’s customers remained relatively short at from three to six weeks during the quarter.

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)


Fourth quarter 2008 gross margin was 52.0%, compared to 55.3% in the third quarter of 2008.  The decrease in gross margin was the result of factory underutilization and additional inventory reserves due to a lower sales forecast. Fourth quarter 2008 net income was $4.9 million, or $0.07 per diluted share.

For the year ended December 31, 2008, Micrel’s financial performance continued to be strong, especially in light of the current economic conditions. 2008 revenues of $259.4 million were up slightly, compared with $258.0 million in 2007.  Net income for 2008 was $28.3 million, or $0.40 per diluted share, compared with net income of $44.1 million, or $0.57 per diluted share in 2007.  2007 net income included a $15.5 million pre-tax gain associated with a first quarter legal settlement, which after income taxes, is equivalent to $0.12 per diluted share. Gross margins for 2008 were 55.1% compared to 56.9% in 2007.  The Company’s design efforts resulted in a record number of new product releases in 2008.  Solid cash flows from operations of $53.3 million during the year enabled the repurchase of 7.1 million shares of common stock, or approximately 9.6% of the shares outstanding at the beginning of 2008.  In addition, during the year ended December 31, 2008, the Company paid cash dividends of $9.5 million.

The worldwide macroeconomic recession continued to impact demand in the first quarter of 2009 and the Company’s customers continued to maintain lean inventory levels. Despite the difficult environment, first quarter bookings increased significantly over fourth quarter levels and resulted in a book to bill ratio above one for both the OEM and distribution sales channels.  Micrel’s financial performance for the first quarter of 2009 was solid and results were within the expected guidance ranges for the key metrics of revenues and net income. The Company’s first quarter revenues were $47.0 million, compared to $55.2 million in the fourth quarter of 2008.  First quarter gross margin was 50.3%, compared to 52% in the prior quarter.  The decrease in gross margin was primarily the result of factory capacity under-utilization as Micrel continued to control its inventory levels. First quarter 2009 net income was $1.5 million, or $0.02 per diluted share as compared to fourth quarter 2008 net income of $4.9 million, or $0.07 per diluted share. In addition to solid first quarter 2009 financial results, the Company continued to enhance shareholder value by maintaining its quarterly three and one-half cent per share dividend and repurchasing 1.9 million shares under its stock repurchase plan.

Despite the continuing weak economic environment, the second quarter of 2009 was an exceptional quarter for Micrel. The Company experienced strong growth of both revenues and net income. Bookings were solid which resulted in a book-to-bill ratio above one. Second quarter revenues exceeded management’s expectations and grew on a sequential quarter basis for the first time in four quarters.  The Company saw strength in all major segments of its business with primary growth coming from markets in China.  In particular, the build out of China’s 3G infrastructure was an important driver for the Company’s revenue growth in the second quarter of 2009.  However, the Company’s management believes that the general worldwide economic slowdown is continuing to have an impact on the overall market for semiconductors, and believes that restocking due to the lower inventories coming out of the first quarter of 2009 represented about one third of the sequential growth for the quarter. Management is pleased with the Company’s operating performance during the second quarter of 2009. Revenues increased to $51.8 million in the second quarter of 2009, compared to $47.0 million in the first quarter of 2009.  Second quarter 2009 operating expenses were down by 4% sequentially. Second quarter 2009 net income of $3.9 million was more than double the net income of $1.5 million reported for the first quarter of 2009.  In addition to the good financial performance, the Company continued to enhance shareholder value with its stock buy-back program. Average shares outstanding in the second quarter of 2009 decreased by 4% compared to the first quarter of 2009.  In addition, the Company also maintained its quarterly three and one-half cent per share dividend payment.

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)


The Company derives a substantial portion of its net revenues from standard products.  For each of the three and six month periods ended June 30, 2009 the Company's standard products sales accounted for 97% of the Company's net revenues as compared to 95% and 94%, respectively, of net revenues for the comparable periods in 2008.  The Company believes that a substantial portion of its net revenues in the future will depend upon standard products sales, although such sales as a proportion of net revenues may vary as the Company adjusts product output levels to correspond with varying economic conditions and demand levels in the markets which it serves. The standard products business is characterized by short-term orders and shipment schedules, and customer orders typically can be canceled or rescheduled without significant penalty to the customer. Since most standard products backlog is cancelable without significant penalty, the Company typically plans its production and inventory levels based on internal forecasts of customer demand, which is highly unpredictable and can fluctuate substantially. In addition, the Company is limited in its ability to reduce costs quickly in response to any revenue shortfalls.

The Company may experience significant fluctuations in its results of operations.  Factors that affect the Company's results of operations include the volume and timing of orders received, changes in the mix of products sold, the utilization level of manufacturing capacity, competitive pricing pressures and the successful development of new products.  These and other factors are described in further detail later in this discussion and in Item 1A.  As a result of the foregoing or other factors, there can be no assurance that the Company will not experience material fluctuations in future operating results on a quarterly or annual basis, which could materially and adversely affect the Company's business, financial condition, results of operations or cash flows.


Revision of Prior Period Financial Statements

During the fourth quarter of 2008, the Company identified an error related to its calculation of deferred income on shipments to distributors ("deferred income"). Upon review of its calculations, management determined that the estimated shipping margin percentage used to calculate the deferred income balance was incorrect and this resulted in an understatement of deferred income and related cost of sales. The Company assessed the materiality of this error on prior periods financial statements in accordance with the SEC’s Staff Accounting Bulletin No. 99 (“SAB 99”), and concluded that the error was not material to any prior annual or interim periods but would be material to the three and twelve months periods ended December 31, 2008 if the entire correction was recorded in those periods. In accordance with the SEC’s Staff Accounting Bulletin No. 108 (“SAB 108”), the 2006, and 2007 and first three quarters of 2008 financial statements have been revised to correct for the immaterial error. In addition, in the financial statements included in the Company’s Annual Report on Form 10-K an adjustment was also recorded to reduce the beginning retained earnings at January 1, 2006 for the cumulative impact of this error on prior periods. The revision had no net impact on the Company’s Consolidated Statement of Cash Flows. See Note 2 of Notes to Condensed Consolidated Financial Statements for discussion of the impact of the revisions on the 2008 interim results included in this Form 10-Q.


Critical Accounting Policies and Estimates

The financial statements included in this Quarterly Report on Form 10-Q and discussed within this Management's Discussion and Analysis of Financial Condition and Results of Operations have been prepared in accordance with accounting principles generally accepted in the United States of America. Preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an on-going basis, management evaluates its estimates and judgments. Management bases its estimates and judgments on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The Company considers certain accounting policies related to revenue recognition and valuation of receivables, inventory valuation, share-based compensation, income taxes, and litigation to be critical to the fair presentation of its financial statements. For a detailed discussion of the Company's significant accounting policies, see Note 1 of Notes to Consolidated Financial Statements in Item 8 of the Company's Annual Report on Form 10-K for the year ended December 31, 2008.

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)


Revenue Recognition and Receivables. Micrel generates revenue by selling products to OEM's, distributors and stocking representatives.  Stocking representative firms may buy and stock the Company's products for resale or may act as the Company's sales representative in arranging for direct sales from the Company to an OEM customer.  The Company's policy is to recognize revenue from sales to customers when the rights and risks of ownership have passed to the customer, when persuasive evidence of an arrangement exists, the product has been delivered, the price is fixed or determinable and collection of the resulting receivable is reasonably assured.

Micrel allows certain distributors located in North America and Europe, and in certain countries in Asia, significant return rights, price protection and pricing adjustments subsequent to the initial product shipment.  As these returns and price concessions have historically been significant, and future returns and price concessions are difficult to reliably estimate, the Company defers recognition of revenue and related cost of sales (in the balance sheet line item “deferred income on shipments to distributors”) derived from sales to these distributors until they have resold the Company's products to their customers. Although revenue and related cost of sales are not recognized, the Company records an accounts receivable and relieves inventory at the time of initial product shipment.  As standard terms are FOB shipping point, payment terms are enforced from shipment date and legal title and risk of inventory loss passes to the distributor upon shipment. In addition, where revenue is deferred upon shipment and recognized on a sell-through basis, the Company may offer price adjustments to its distributors to allow the distributor to price the Company's products competitively for specific resale opportunities. The Company estimates and records an allowance for distributor price adjustments for which the specific resale transaction has been completed, but the price adjustment claim has not yet been received and recorded by the Company.

Sales to OEM customers and stocking representatives are recognized based upon the shipment terms of the sale transaction when all other revenue recognition criteria have been met.  The Company does not grant return rights, price protection or pricing adjustments to OEM customers.  The Company offers limited contractual stock rotation rights to stocking representatives.  In addition, the Company is not contractually obligated to offer, but may infrequently grant, price adjustments or price protection to certain stocking representatives on an exception basis. At the time of shipment to OEMs and stocking representatives, an allowance for returns is established based upon historical return rates, and an allowance for price adjustments is established based on an estimate of price adjustments to be granted. Actual future returns and price adjustments could be different than the allowance established.

The Company also maintains an allowance for doubtful accounts for estimated uncollectible accounts receivable. This estimate is based on an analysis of specific customer creditworthiness and historical bad debts experience. Actual future uncollectible amounts could exceed the doubtful accounts allowance established.

Inventory Valuation. Inventories are stated at the lower of cost (first-in, first-out method) or market. The Company records adjustments to write down the cost of obsolete and excess inventory to the estimated market value based on historical and forecasted demand for its products. If actual future demand for the Company's products is less than currently forecasted, additional inventory adjustments may be required. Once an inventory write-down provision is established, it is maintained until the product to which it relates is sold or otherwise disposed of. This treatment is in accordance with Accounting Research Bulletin 43 and SEC Staff Accounting Bulletin 100 "Restructuring and Impairment Charges."

Share-Based Compensation. Effective January 1, 2006, Micrel adopted the provisions of SFAS No. 123R using the modified-prospective transition method. Under SFAS No. 123R share-based compensation is measured at the grant date based on the fair value of the award and is recognized as expense in the statement of operations. To determine fair value, the Company uses the Black-Scholes valuation model which requires input factors such as expected term, stock price volatility, dividend yield and risk free interest rate. In addition, SFAS No. 123R requires an estimate of expected forfeiture rates of stock grants and share-based compensation expense is to be only recognized for those shares expected to vest. Determining the input factors, such as expected term, expected volatility and estimated forfeiture rates, requires significant judgment based on subjective future expectations.

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)


Income Taxes. Deferred tax assets and liabilities result primarily from temporary timing differences between book and tax valuation of assets and liabilities, and state research and development credit carryforwards. The Company must regularly assess the likelihood that future taxable income levels will be sufficient to ultimately realize the tax benefits of these deferred tax assets. As of June 30, 2009, the Company believes that future taxable income levels will be sufficient to realize the tax benefits of these deferred tax assets and has not established a valuation allowance. Should the Company determine that future realization of these tax benefits is not more likely than not, a valuation allowance would be established, which would increase the Company's tax provision in the period of such determination.

Effective January 1, 2007, the Company adopted the provisions of FASB Interpretation (FIN) No. 48, Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109. FIN No. 48 contains a two-step approach to recognizing and measuring uncertain tax positions accounted for in accordance with SFAS No. 109. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount which is more than 50% likely of being realized upon ultimate settlement. The Company considers many factors when evaluating and estimating its tax positions and tax benefits, which may require periodic adjustments and which may not accurately anticipate actual outcomes.

Litigation. The semiconductor industry is characterized by frequent litigation regarding patent and other intellectual property rights.  During the past three years, the Company has resolved litigation involving intellectual property claims. An estimated liability is accrued when it is determined to be probable that a liability has been incurred and the amount of loss can be reasonably estimated. The liability accrual is charged to income in the period such determination is made. The Company regularly evaluates current information available to determine whether such accruals should be made.


Results of Operations

The following table sets forth certain operating data as a percentage of total net revenues for the periods indicated:

   
Three Months Ended
    
Six Months Ended
  
   
June 30,
    
June 30,
  
   
2009
   
2008
   
2009
   
2008
 
Net revenues
     100.0 %     100.0 %     100.0 %     100.0 %
Cost of revenues
     48.7       43.6       49.2       43.7  
Gross profit
     51.3       56.4       50.8       56.3  
Operating expenses:
                                
Research and development
     22.2       20.9       24.3       21.1  
Selling, general and administrative
     17.2       16.4       18.0       17.2  
Restructuring expense (income)
     --       --       --       (0.6 )
Proxy contest expense
     --       3.4       --       2.0  
Total operating expenses
     39.4       40.7       42.3       39.7  
Income from operations
     11.9       15.7       8.5       16.6  
Other income (expense):
                                
Interest income
     0.4       0.9       0.5       1.3  
Interest expense
     (0.1 )     --       --       --  
Other income, net
     0.1       0.1       0.1       --  
Total other income, net
     0.4       1.0       0.6       1.3  
Income before income taxes
     12.3       16.7       9.1       17.9  
Provision for income taxes
     4.8       6.2       3.6       6.4  
Net income
     7.5 %     10.5 %     5.5 %     11.5 %


 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)


           Net Revenues. For the three months ended June 30, 2009, net revenues decreased 27% to $51.8 million from $70.6 million for the same period in the prior year. For the six months ended June 30, 2009, net revenues decreased 28% to $98.8 million from $136.6 million for the same period in the prior year. These decreases were the result of decreased unit shipments across all product lines and geographies due to a reduction in demand caused by the worldwide macroeconomic recession. Standard products revenues for the three months ended June 30, 2009 decreased 25% to $50.2 million from $67.0 million for the same period in the prior year. For the six months ended June 30, 2009, standard products decreased 25% to $95.7 million from $128.3 million for the same period in the prior year. For the three months ended June 30, 2009, other products, which consist primarily of custom and foundry products revenues, decreased 54% to $1.6 million compared to $3.6 million for the same period in the prior year. For the six months ended June 30, 2009, other products decreased 63% to $3.1 million compared to $8.3 million for the same period in the prior year.

The current global economic slowdown, unprecedented volatility in the capital markets and severely diminished liquidity and credit availability has exacerbated the ongoing weakness in the semiconductor industry. This has materially softened demand for the Company’s products, and management is not able to predict whether macroeconomic conditions will continue to deteriorate or improve. The persistence of such conditions could have a significant adverse effect on the Company’s revenues, profitability and results of operations.

Customer demand for semiconductors can change quickly and unexpectedly.  The Company’s revenue levels have been highly dependent on the amount of new orders that are received for which product is requested to be delivered to the customer within the same quarter.  Within the semiconductor industry these orders that are booked and shipped within the quarter are called “turns fill” orders.  When the turns fill level exceeds approximately 35% of quarterly revenue, it makes it very difficult to predict near term revenues and income.  Because of the long cycle time to build its products, the Company’s lack of visibility into demand when turns fill is high makes it difficult to predict what product to build to match future demand.

As noted in Item 1A “Risk Factors”, a trend has developed over the last several years whereby customers in the semiconductor supply chain have worked to minimize the amount of inventory of semiconductors they hold. As a consequence, customers are generally providing less order backlog to the Company and other semiconductor suppliers, and relying on short lead times to buffer their build schedules.  Shorter lead times reduce visibility into end demand and increase the reliance on turns fill orders.  To deal with these market forces while maintaining reliable service levels, the Company and other semiconductor suppliers are carrying higher relative levels of inventory compared with historical averages prior to 2001.  The reluctance of customers to provide order backlog together with short lead times and the uncertain growth rate of the world economy, make it difficult to precisely predict future levels of sales and profitability.

Sales to customers in Asia represented 62% and 61%, respectively, of net revenues for the three and six months ended June 30, 2009 as compared to 55% of the Company’s net revenues for each of the three and six months ended June 30, 2008. The trend for the Company’s customers to move their electronics manufacturing to Asian countries has resulted in increased pricing pressure for Micrel and other semiconductor manufacturers. Asian based manufacturers are typically more concerned about cost and less concerned about the capability of the integrated circuits they purchase. This can make it more difficult for United States based companies to differentiate themselves in any manner other than by lowering prices. The increased concentration of electronics procurement and manufacturing in the Asia Pacific region has led, and may continue to lead, to continued price pressure for the Company’s products in the future.

Share-Based Compensation. The Company accounts for share-based compensation under the fair value recognition provisions of SFAS 123R. The Company's results of operations for the three month periods ended June 30, 2009 and 2008 included $1.0 million and $1.4 million, respectively, of non-cash expense related to the fair value of share-based compensation awards. For the six month periods ended June 30, 2009 and 2008, the Company's results of operations included $1.7 million and $2.9 million, respectively, of non-cash expense related to the fair value of share-based compensation awards (see Note 4 of Notes to Condensed Consolidated Financial Statements).

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)


Gross Profit. Gross profit is affected by a variety of factors including the volume of product sales, product mix, manufacturing capacity utilization, product yields and average selling prices.  The Company's gross margin decreased to 51.3% for the three months ended June 30, 2009 from 56.4% for the comparable period in 2008. For the six months ended June 30, 2009, the Company's gross margin decreased to 50.8% from 56.3% for the comparable period in 2008. These decreases in gross margin resulted primarily from decreased manufacturing capacity utilization and decreased average selling prices as compared to the same periods in 2008.

Research and Development Expenses. Research and development expenses as a percentage of net revenues represented 22.2% for the three months ended June 30, 2009 and 20.9% for the three months ended June 30, 2008.  On a dollar basis, research and development expenses decreased $3.3 million, or 22% to $11.5 million for the three months ended June 30, 2009 from $14.8 million for the comparable period in 2008. For the six months ended June 30, 2009 and 2008, research and development expenses as a percentage of net revenues represented 24.3% and 21.1%, respectively. On a dollar basis, research and development expenses decreased $4.9 million, or 17% to $24.0 million for the six months ended June 30, 2009 from $28.9 million for the comparable period in 2008. These decreases were primarily due to decreased staffing costs combined with decreased prototype fabrication costs. The Company believes that the development and introduction of new products is critical to its future success and expects to continue its investment in research and development activities in the future.

Selling, General and Administrative Expenses. As a percentage of net revenues, selling, general and administrative expenses represented 17.2% for the three months ended June 30, 2009 and 16.4% for the three months ended June 30, 2008.  On a dollar basis, selling, general and administrative expenses decreased $2.6 million, or 23% to $8.9 million for the three months ended June 30, 2009 from $11.6 million for the comparable period in 2008. For the six months ended June 30, 2009 and 2008, selling, general and administrative expenses as a percentage of net revenues represented 18.0% and 17.2%, respectively.  On a dollar basis, selling, general and administrative expenses decreased $5.7 million, or 24%, to $17.8 million for the six months ended June 30, 2009 from $23.5 million for the comparable period in 2008. These decreases were primarily due to decreased staffing costs, decreased commissions and decreased profit sharing accruals.

Restructuring charges (credits). During 2003, the Company closed its Santa Clara wafer fabrication facility. In February 2006, the Company terminated the facility lease under the terms of the lease agreement due to major vandalism rendering the building unusable.  The facility Lessor disputed the termination of the lease.  In March 2008, the Company entered into a Settlement and Mutual Release agreement with the Lessor. Under the terms of the agreement, the Company paid $875,000 to the Lessor and released a $70,000 security deposit for full settlement of all obligations under the lease (see Note 15 of Notes to Condensed Consolidated Financial Statements).  The remaining $842,000 unused restructuring expense accruals were credited to restructuring charges (credits) in the statement of operations during the first quarter of 2008 (see Note 19 of Notes to Condensed Consolidated Financial Statements).

Proxy Contest Expense. During the first quarter of 2008, the Company became engaged in its first proxy contest since going public in 1994, with OCM. The proxy contest resulted in Micrel incurring incremental expenses of $331,000 in the first quarter of 2008, $2.4 million in the second quarter of 2008, $349,000 in the third quarter of 2008 and $1.1 million in the fourth quarter of 2008. These expenses consisted primarily of outside consulting and legal fees.  Following a special meeting of shareholders on May 20, 2008, at which the Company’s shareholders rejected all proposals set forth by OCM, OCM agreed to withdraw its slate of nominees for the  Board of Directors, and support Micrel’s Board of Director nominees at the upcoming annual meeting of shareholders. Micrel’s slate of directors was subsequently elected by shareholders at the Company’s annual meeting on October 1, 2008.

Other Income (Expense). Other income (expense) reflects interest income from investments in short-term and long-term investments and money market funds and other non-operating income, offset in part by interest expense incurred on term notes.  For the three months ended June 30, 2009, interest income decreased to $193,000 from $680,000 for the comparable period in the prior year. For the six months ended June 30, 2009, interest income decreased to $533,000 from $1.8 million for the comparable period in the prior year. These decreases resulted primarily from decreased interest income due to decreased average cash and investment balances combined with combined with reduced average interest rates earned and an increase in interest expense on term notes that were entered into in 2009.

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)


Provision for Income Taxes.  The income tax provision for the three and six months ended June 30, 2009, as a percentage of income before taxes, was 39.2% and 39.7%, respectively, as compared to 37.2% and 35.9%, respectively, for the comparable periods in the prior year. These increases resulted primarily from additional tax provisions recorded for the three and six months ended June 30, 2009 of $285,000 and $525,000, respectively, to reduce the amount of non-current deferred tax assets that were determined to be unrealizable due to California tax law changes and operational changes at one of the Company’s foreign locations. The income tax provision for such interim periods differs from taxes computed at the federal statutory rate primarily due to the effect of non-deductible share-based compensation expense, state income taxes, federal and state research and development credits and federal qualified production activity deductions.


Liquidity and Capital Resources

Since inception, the Company's principal sources of funding have been its cash from operations, bank borrowings and sales of common stock. Principal sources of liquidity at June 30, 2009, consisted of cash and short-term investments of $59.9 million and a $5 million revolving line of credit from a commercial bank (See Note 10 of Notes to Condensed Consolidated Financial Statements).

The Company generated $10.6 million in cash from operating activities for the six months ended June 30, 2009. Significant cash flows included cash provided by net income of $5.4 million plus additions for non-cash activities of $10.3 million (consisting primarily of $8.5 million in depreciation and amortization and $1.7 million in share-based compensation expense) combined with a $2.6 million decrease in income taxes receivable and a $2.0 million decrease in inventories, which were offset in part by a $5.5 million increase in accounts receivable combined with a $2.9 million decrease in other current liabilities and a $2.0 million decrease in accounts payable.

For the six months ended June 30, 2008, the Company generated $23.7 million in cash flows from operating activities primarily attributable to net income of $15.7 million plus additions for non-cash activities of $14.1 million (consisting primarily of $9.6 million in depreciation and amortization, $2.9 million in share-based compensation expense and a $1.5 million decrease in deferred tax provisions) combined with a $1.7 million decrease in prepaid expense and other assets and a $1.6 million increase in deferred income on shipments to distributors, which were partially offset by a $5.1 million increase in accounts receivable, a $3.4 million decrease in other current liabilities and a $2.1 million decrease in accounts payable.

The Company used $3.2 million of cash from investing activities during the six months ended June 30, 2009, comprised primarily of purchases of property, plant and equipment.

For the six months ended June 30, 2008, the Company used $1.5 million of cash from investing activities comprised of $6.8 million in purchases of property, plant and equipment which was partially offset by $5.3 million in net purchases of investments.

The Company used $21.8 million of cash in financing activities during the six months ended June 30, 2009 primarily for the repurchase of $32.5 million of the Company's common stock and $4.5 million for the payment of cash dividends, which was partially offset by $15.0 million in proceeds of long-term debt borrowing.

For the six months ended June 30, 2008, the Company used $28.9 million of cash in financing activities primarily for the repurchase of $25.5 million of the Company's common stock and $4.7 million for the payment of cash dividends, which were partially offset by $1.2 million in proceeds from the exercise of employee stock awards.


 
26
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)


The Company currently intends to spend approximately $10 million to $15 million to purchase capital equipment and make facility improvements during the next 12 months primarily for wafer fabrication and product testing and additional research and development related software and equipment.  On July 23, 2009, the Company's Board of Directors declared a $0.035 per common share cash dividend, payable August 26, 2009 to shareholders of record on August 12, 2009. The cash dividend payout by the Company on August 26, 2009 is expected to be approximately $2.2 million. Since inception, the Company's principal sources of funding have been its cash from operations, bank borrowings and sales of common stock. The Company believes that its cash flows from operations, existing cash balances and short-term investments, and its credit facility will be sufficient to meet its cash requirements for at least the next 12 months. In the longer term, the Company believes future cash requirements will continue to be met by its cash from operations, credit arrangements and future debt or equity financings as required.


Recently Issued Accounting Standards

Please refer to Note 3 of Notes to Condensed Consolidated Financial Statements for a discussion of the expected impact of recently issued accounting standards.


Contractual Obligations and Commitments

As of June 30, 2009, the Company had the following contractual obligations and commitments:

(in thousands)
  
Payments Due By Period
  
   
 Total
    
Less than
 1 Year
    
1-3
 Years
    
4-5
 Years
    
After 5
 Years
  
Long-term debt (see Note 10 of Notes to Condensed Consolidated Financial Statements)
   $ 15,000     $  7,857     $  7,143     $  --     $  --  
Operating leases
     4,128       2,115       1,819       194       --  
Open purchase orders
     13,370       13,370       --       --       --  
Total
   $ 32,498     $ 23,342     $ 8,962     $ 194     $ --  

Open purchase orders are defined as agreements to purchase goods or services that are enforceable and legally binding and that specify all significant terms, including: fixed or minimum quantities to be purchased; fixed, minimum or variable pricing provisions; and the approximate timing of the transactions.

As of June 30, 2009, the Company had $6.9 million of non-current unrecognized tax benefits recorded in accordance with FIN 48.  Included in the $6.9 million is $2.0 million that has not yet reduced income tax payments, and, therefore, has been netted against non-current deferred tax assets.  The remaining $4.9 million liability is included in long-term income taxes payable. The Company is not able to provide a reasonably reliable estimate of the timing of future payments relating to these obligations.

Off-Balance Sheet Arrangements

The Company has no other off-balance sheet arrangements and has not entered into any transactions involving unconsolidated, limited purpose entities or commodity contracts.




ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

At June 30, 2009, the Company held $26.0 million in short-term investments. Short-term investments consist primarily of liquid debt instruments and are classified as available-for-sale securities. The short-term investments held at June 30, 2009 are primarily fixed rate securities. These available-for-sale securities are subject to interest rate risk and will fall in value if market interest rates increase. If market interest rates were to increase immediately and uniformly by 10 percent from levels at June 30, 2009, the fair value of the short-term investments would decline by an immaterial amount.

           At June 30, 2009, the Company held $16.0 million in principal of auction rate notes secured by student loans. Auctions for these auction rate securities failed as of June 30, 2009.  The funds associated with failed auctions will not be accessible until a successful auction occurs, a buyer is found outside of the auction process, the issuers redeem the securities or the underlying securities have matured. As a result, the Company’s ability to liquidate its investment and fully recover the carrying value of its investment in the near term may be limited or not exist. During 2008 and the first half of 2009, the Company has recorded a $4.0 million pre-tax temporary impairment of these securities to other comprehensive income, a component of shareholders’ equity.  If it is determined that the fair value of these securities is other than temporarily impaired, the Company would record a loss, which could be material, in its statement of operations in the period such other than temporary decline in fair value is determined. The Company currently has the ability and intent to hold these investments until a recovery of the auction process occurs or the issuers redeem the securities. For additional information regarding the Company's investments, see Note 5 of Notes to Condensed Consolidated Financial Statements.

At June 30, 2009, the Company had no fixed-rate long-term debt subject to interest rate risk. At June 30, 2009, the Company held an interest rate swap contract, a derivative financial instrument, to partially offset its exposure to the effects of changes in interest rates on its variable-rate financing obligations. The notional amount of the outstanding interest rate swap contract at June 30, 2009 was $7.5 million. The Company currently intends to hold the interest rate swap contract to maturity. If market interest rates were to increase immediately and uniformly by 10 percent from levels at June 30, 2009, the fair value of the interest rate swap would decline by an immaterial amount.


ITEM 4:  CONTROLS AND PROCEDURES

The Company maintains disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the Exchange Act).  In designing and evaluating the disclosure controls and procedures, management recognizes that any disclosure controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

Under the supervision and with the participation of the Company's management, including its principal executive officer and principal financial officer, the Company conducted an evaluation of the effectiveness of its disclosure controls and procedures as of the end of the period covered by this report. Based on this evaluation, the Company's principal executive officer and principal financial officer have concluded that the Company's disclosure controls and procedures were effective at the reasonable assurance level as of June 30, 2009.

There has been no change in the Company’s internal control over financial reporting during the Company’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.




PART II.  OTHER INFORMATION

ITEM 1.  LEGAL PROCEEDINGS

The information included in Note 15 of Notes to Condensed Consolidated Financial Statements under the caption "Litigation and Other Contingencies" in Item 1 of Part I is incorporated herein by reference.


ITEM 1A.  RISK FACTORS

Factors That May Affect Operating Results

If a company's operating results are below the expectations of public market analysts or investors, then the market price of its Common Stock could decline. Many factors that can affect a company's quarterly and annual results are difficult to control or predict.  Some of the factors which can affect a multinational semiconductor business such as the Company are described below.

Geopolitical and Macroeconomic Risks That May Affect Multinational Enterprises

The current global recession and unprecedented volatility in global capital markets could have a material adverse effect on the Company’s business, results of operations, and financial condition.  While the current global economic downturn appears to have bottomed and the Company has recently seen some improvement in the business climate for semiconductors, there is no guarantee that these conditions will continue to improve or that these conditions may further decline. The semiconductor industry has traditionally been highly cyclical and has often experienced significant downturns in connection with, or in anticipation of, declines in general economic conditions, and the Company cannot accurately predict how severe and prolonged this downturn might be. The global recession and credit crisis in the financial markets has resulted in a decrease in orders for the Company’s products, which may continue or worsen for the foreseeable future, and which may materially adversely affect the Company’s revenues, results of operations and financial condition. In addition to reduction in sales, the Company’s profitability may decrease during this economic downturn because it may not be able to reduce costs at the same rate as its sales decline.

Recent macroeconomic turmoil in the world financial markets is affecting commercial and consumer markets.  Financial markets in the United States, Europe and Asia have been experiencing extreme disruption in recent months, causing customers and consumers to cut back on spending in order to conserve cash.  Additionally, many of the Company’s customers procure its products on credit. If credit is not available to them, it may be difficult or impossible for customers to purchase the Company’s products. The Company’s operating results in one or more segments may be materially adversely affected by the current economic conditions, and if such conditions remain uncertain, persist, or deteriorate further, the Company may experience material impacts on its business, operating results, and financial condition.

Demand for semiconductor components is increasingly dependent upon the rate of growth of the global economy.  The current global economic downturn and any worsening in the global economy could cause demand for the Company’s products to be adversely affected, which in turn could negatively affect revenues, results of operations and financial condition.  Many factors could adversely affect regional or global economic growth.  Some of the factors that could further slow global economic growth include: continued volatility in the United States and global credit markets, increased price inflation for goods, services or materials, a slowdown in the rate of growth of the Chinese economy, a significant act of terrorism which disrupts global trade or consumer confidence, and geopolitical tensions including war and civil unrest.  Reduced levels of economic activity, or disruptions of international transportation, could adversely affect sales on either a global basis or in specific geographic regions.



Market conditions may lead the Company to initiate additional cost reduction plans, which may negatively affect near term operating results.  Weaker customer demand, competitive pricing pressures, excess capacity, weak economic conditions or other factors, may cause the Company to initiate additional actions to reduce the Company’s cost structure and improve the Company’s future operating results. The cost reduction actions may require incremental costs to implement, which could negatively affect the Company’s operating results in periods when the incremental costs or liabilities are incurred.

The current tightening of the credit markets may adversely affect the Company’s business in a number of ways. The unprecedented contraction and extreme disruption of the credit and financial markets in the United States, Europe, and Asia has led to, among other things, extreme volatility in security prices, severely diminished liquidity and credit availability, rating downgrades of certain investments and declining valuation of others. These economic developments may adversely affect the Company’s business in a number of ways. The current tightening of credit in financial markets may limit the ability of the Company’s customers and suppliers to obtain financing for capital purchases and operations. This could result in a decrease in or cancellation of orders for the Company’s products or reduced ability to finance operations to supply products to the Company. The Company cannot predict the likely duration and severity of the current disruption in financial markets and adverse economic conditions in the U.S. and other countries. Further, the worldwide economic slowdown makes it is extremely difficult for the Company to forecast future sales levels based on historical information and trends. Visibility into customer demand continues to be limited due to short order lead times. Portions of the Company’s expenses are fixed and other expenses are tied to expected levels of sales activities. To the extent the Company does not achieve its anticipated levels of sales, its gross profit and net income could be adversely affected until such expenses are reduced to an appropriate level.

The Company has generated a substantial portion of its net revenues from export sales. The Company believes that a substantial portion of its future net revenues will depend on export sales to customers in international markets, including Asia.  International markets are subject to a variety of risks, including changes in policy by the U.S. or foreign governments, acts of terrorism, foreign government instability, social conditions such as civil unrest, economic conditions including high levels of inflation, fluctuation in the value of foreign currencies and currency exchange rates and trade restrictions or prohibitions. Changes in exchange rates that strengthen the U.S. dollar could increase the price of the Company's products in the local currencies of the foreign markets it serves. This would result in making the Company's products relatively more expensive than its competitors' products that are denominated in local currencies, leading to a reduction in sales or profitability in those foreign markets. The Company has not taken any protective measures against exchange rate fluctuations, such as purchasing hedging instruments. In addition, the Company sells to domestic customers that do business worldwide and cannot predict how the businesses of these customers may be affected by economic or political conditions elsewhere in the world. Such factors could adversely affect the Company's future revenues, financial condition, results of operations or cash flows.

Semiconductor Industry Specific Risks

The volatility of customer demand in the semiconductor industry limits a company's ability to predict future levels of sales and profitability. Semiconductor suppliers can rapidly increase production output, leading to a sudden oversupply situation and a subsequent reduction in order rates and revenues as customers adjust their inventories to true demand rates. A rapid and sudden decline in customer demand for products can result in excess quantities of certain products relative to demand.  Should this occur the Company’s operating results may be adversely affected as a result of charges to reduce the carrying value of the Company’s inventory to the estimated demand level or market price.  The Company's quarterly revenues are highly dependent upon turns fill orders (orders booked and shipped in the same quarter).  The short-term and volatile nature of customer demand makes it extremely difficult to accurately predict near term revenues and profits.

The semiconductor industry is highly competitive and subject to rapid technological change, price-erosion and increased international competition.  Significant competitive factors include product features; performance and price; timing of product introductions; emergence of new computer and communications standards; and quality and customer support. If the Company is unable to compete favorably in these areas, revenues and profits could be negatively affected.




The short lead time environment in the semiconductor industry has allowed many end consumers to rely on semiconductor suppliers, stocking representatives and distributors to carry inventory to meet short term requirements and minimize their investment in on-hand inventory.  Over the past several years, customers have worked to minimize the amount of inventory of semiconductors they hold.  As a consequence, customers are generally providing less order backlog to the Company and other semiconductor suppliers, resulting in short order lead times and reduced visibility into customer demand.  As a consequence of the short lead time environment and corresponding unpredictability of customer demand, the Company has increased its inventories over the past five to six years to maintain reliable service levels.  If actual customer demand for the Company’s products is different from the Company’s estimated demand, product inventory may have to be scrapped, or the carrying value reduced, which could adversely affect the Company's business, financial condition, results of operations, or cash flows. In addition, the Company maintains a network of stocking representatives and distributors that carry inventory to service the volatile short-term demand of the end customer.  Should the relationship with a distributor or stocking representative be terminated, the future level of product returns could be higher than the returns allowance established, which could negatively affect the Company’s revenues and results of operations.

During periods when economic growth and customer demand have been less certain, both the semiconductor industry and the Company have experienced significant price erosion.  If price erosion occurs, it will have the effect of reducing revenue levels and gross margins in future periods.  Furthermore, the trend for the Company’s customers to move their electronics manufacturing to Asian countries has brought increased pricing pressure for Micrel and the semiconductor industry as a whole.  Asian based manufacturers are typically more concerned about cost and less concerned about the capability of the integrated circuits they purchase.  The increased concentration of electronics procurement and manufacturing in the Asia Pacific region may lead to continued price pressure and additional product advertising costs for the Company’s products in the future.

Many semiconductor companies face risks associated with a dependence upon third parties that manufacture, assemble or package certain of its products.  These risks include reduced control over delivery schedules and quality; inadequate manufacturing yields and excessive costs; the potential lack of adequate capacity during periods of excess demand; difficulties selecting and integrating new subcontractors; potential increases in prices; disruption in supply due to civil unrest, terrorism, natural disasters or other events which may occur in the countries in which the subcontractors operate; and potential misappropriation of the Company's intellectual property.  The occurrence of any of these events may lead to increased costs or delay delivery of the Company's products, which would harm its profitability and customer relationships. The Company does not have long-term supply contracts with any of its third-party vendors. Therefore, the vendors are not obligated to perform services or supply products to the Company for any specific period, in any specific quantities, or at any specific price, except as may be provided in a particular accepted purchase order Additionally, the Company's wafer and product requirements typically represent a relatively small portion of the total production of the third-party foundries and outside assembly, testing and packaging contractors.  As a result, Micrel is subject to the risk that a third-party supplier will provide delivery or capacity priority to other larger customers at the expense of Micrel, resulting in an inadequate supply to meet customer demand or higher costs to obtain the necessary product supply.

The markets that the Company serves frequently undergo transitions in which products rapidly incorporate new features and performance standards on an industry-wide basis.  If the Company's products are unable to support the new features or performance levels required by OEMs in these markets, it would likely lose business from existing or potential customers and would not have the opportunity to compete for new design wins until the next product transition. If the Company fails to develop products with required features or performance standards or experiences even a short delay in bringing a new product to market, or if its customers fail to achieve market acceptance of their products, its revenues could be significantly reduced for a substantial period of time.

Because the standard products market for ICs is diverse and highly fragmented, the Company encounters different competitors in various market areas.  Many of these competitors have substantially greater technical, financial and marketing resources and greater name recognition than the Company.  The Company may not be able to compete successfully in either the standard products or custom and foundry products business in the future and competitive pressures may adversely affect the Company's financial condition, results of operations, or cash flows.




The success of companies in the semiconductor industry depends in part upon intellectual property, including patents, trade secrets, know-how and continuing technology innovation. The success of companies like Micrel may depend on their ability to obtain necessary intellectual property rights and protect such rights. There can be no assurance that the steps taken by the Company to protect its intellectual property will be adequate to prevent misappropriation or that others will not develop competitive technologies or products. There can be no assurance that any patent owned by the Company will not be invalidated, circumvented or challenged, that the rights granted thereunder will provide competitive advantages or that any of its pending or future patent applications will be issued with the scope of the claims sought, if at all. Furthermore, others may develop technologies that are similar or superior to the Company's technology, duplicate technology or design around the patents owned by the Company. Additionally, the semiconductor industry is characterized by frequent litigation regarding patent and other intellectual property rights. Claims alleging infringement of intellectual property rights have been asserted against the Company in the past and could be asserted against the Company in the future. These claims could result in the Company having to discontinue the use of certain processes; cease the manufacture, use and sale of infringing products; incur significant litigation costs and damages; attempt to obtain a license to the relevant intellectual property and develop non-infringing technology. The Company may not be able to obtain or renew such licenses on acceptable terms or to develop non-infringing technology. Existing claims or other assertions or claims for indemnity resulting from infringement claims could adversely affect the Company's business, financial condition, results of operations, or cash flows.  In addition, the Company relies on third parties for certain technology that is integrated into some of its products. If the Company is unable to continue to use or license third-party technologies used in its products on acceptable terms, or the technology fails to operate, the Company may not be able to secure alternatives in a timely manner and its business would be harmed.

The significant investment in semiconductor manufacturing capacity and the rapid growth of circuit design centers in China may present a competitive threat to established semiconductor companies due to the current low cost of labor and capital in China. The emergence of low cost competitors in China could reduce the revenues and profitability of established semiconductor manufacturers.

There is intense competition for qualified personnel in the semiconductor industry, in particular design engineers.  The Company may not be able to continue to attract and train engineers or other qualified personnel necessary for the development of its business or to replace engineers or other qualified personnel who may leave its employ in the future. Loss of the services of, or failure to recruit, key design engineers or other technical and management personnel could be significantly detrimental to the Company's product and process development programs.

In addition, equity awards generally comprise a significant portion of the Company’s compensation packages for key employees. As a result of the recent decline in the Company’s stock price, many of its key employees hold options with exercise prices in excess of the current stock price, and therefore retention of these key employees may be difficult in a highly competitive market. SFAS 123R requires the Company to expense the fair value of equity awards to its employees Any modifications of existing equity awards or grants of new equity awards that are intended to retain key employees may increase the Company’s operating expenses.

Companies in the semiconductor industry are subject to a variety of federal, state and local governmental regulations related to the use, storage, discharge and disposal of toxic, volatile or otherwise hazardous chemicals used in its manufacturing process.  Any failure to comply with present or future regulations could result in the imposition of fines, the suspension of production, alteration of manufacturing processes or a cessation of operations.  In addition, these regulations could restrict the Company's ability to expand its facilities at their present locations or construct or operate a new wafer fabrication facility or could require the Company to acquire costly equipment or incur other significant expenses to comply with environmental regulations or clean up prior discharges. The Company's failure to appropriately control the use of, disposal or storage of, or adequately restrict the discharge of, hazardous substances could subject it to future liabilities and could have a material adverse effect on its business.




Company-Specific Risks

In addition to the risks that affect multinational semiconductor companies listed above, there are additional risks which are more specific to the Company such as:

An important part of the Company's strategy is to continue to focus on the market for high-speed communications IC’s.  Should demand from the Company’s customers in this end market decrease, or if lower customer demand for the Company’s high bandwidth products materializes, the Company's future revenue growth and profitability could be adversely affected.

The cellular telephone (wireless handset) market comprises a significant portion of the Company’s standard product revenues.  The Company derives a significant portion of its net revenues from customers serving the cellular telephone market. Due to the highly competitive and fast changing environment in which the Company’s cellular telephone customers operate, demand for the product the Company sells into this end market can change rapidly and unexpectedly.  If the Company’s cellular telephone customers acceptance of Micrel’s products decreases, or if these customers lose market share, or accumulate too much inventory of completed handsets, the demand for the Company’s products could decline sharply which could adversely affect the Company’s revenues and results of operations.

The Company’s gross margin, operating margin and net income are highly dependent on the level of revenue and capacity utilization that the Company experiences.  Semiconductor manufacturing is a capital-intensive business resulting in high fixed costs. If the Company is unable to utilize its installed wafer fabrication or test capacity at a high level, the costs associated with these facilities and equipment would not be fully absorbed, resulting in higher average unit costs and lower profit margins.

The Company has invested in certain auction rate securities that may not be accessible for in excess of 12 months and these auction rate securities may experience an other than temporary decline in value, which would adversely affect the Company’s income. At June 30, 2009, the Company held $16.0 million in principal of auction rate notes secured by student loans. As of June 30, 2009, all of these auction rate securities have failed to auction successfully due to sell orders exceeding buy orders. During 2008 and the first half of 2009, the Company has recorded a $4.0 million pre-tax temporary impairment of these securities to other comprehensive income, a component of shareholders’ equity.  If it is determined that the fair value of these securities is other than temporarily impaired, the Company would record a loss, which could be material, in its statement of operations in the period such other than temporary decline in fair value is determined. For additional information regarding the Company's investments, see Note 5 of Notes to Condensed Consolidated Financial Statements.

The Company faces various risks associated with the trend toward increased shareholder activism.  In 2008, the Company became engaged in a proxy contest with a large shareholder. This dispute led to a significant increase in operating expenses which appreciably reduced the Company’s operating profit and net income.  The Company prevailed in the contest and has subsequently repurchased 4,675,000 shares of the Company’s Common Stock from the activist shareholder and entered into a standstill agreement with the shareholder restricting their actions as a shareholder of the Company.  While we believe this dispute has been resolved, the Company could become engaged in another proxy contest in the future.  Another proxy contest would require significant additional management time and increased operating expenses, which could adversely affect the Company’s profitability and cash flows.

Ownership of the Company’s stock is highly concentrated.  As of July 31, 2009, affiliates of the Company, which include directors, officers, and an individual holder of more than 10% of the Company’s Common Stock, held approximately 30% of the Company’s Common Stock in the aggregate. As a result, a limited number of shareholders may have the ability to significantly influence the outcome of corporate actions requiring stockholder approval.  Additionally, significant sales or purchases of the Company’s Common Stock by these shareholders may cause the price of the Company’s Common Stock to fluctuate.



The semiconductor industry is characterized by frequent litigation regarding patent and other intellectual property rights.  To the extent that the Company becomes involved in such intellectual property litigation, it could result in substantial costs and diversion of resources to the Company and could have a material adverse effect on the Company's financial condition, results of operation or cash flows.

In the event of an adverse ruling in any intellectual property litigation that might arise in the future, the Company might be required to discontinue the use of certain processes, cease the manufacture, use and sale of infringing products, expend significant resources to develop non-infringing technology or obtain licenses to the infringing technology.  There can be no assurance, however, that under such circumstances, a license would be available under reasonable terms or at all.  In the event of a successful claim against the Company and the Company's failure to develop or license substitute technology on commercially reasonable terms, the Company's financial condition, results of operations, or cash flows could be adversely affected.  The Company does not believe that any material and specific risk currently exists related to the loss of use of patents, products or processes.

The complexity of the Company’s products may lead to errors or defects, which could subject the Company to significant costs or damages and adversely affect market acceptance of its products. Although the Company’s customers and suppliers rigorously test its products, these products may contain undetected errors, weaknesses or defects. If any of the Company’s products contain production defects, reliability, quality or compatibility problems that are significant, the Company’s reputation may be damaged and customers may be reluctant to continue to buy its products. This could adversely affect the Company’s ability to retain and attract new customers. In addition, these defects could interrupt or delay sales of affected products, which could adversely affect the Company’s results of operations.

If defects are discovered after commencement of commercial production, the Company may be required to incur significant costs to resolve the problems. This could result in significant additional development costs and the diversion of technical and other resources from other development efforts. The Company could also incur significant costs to repair or replace defective products or may agree to be liable for certain damages incurred. These costs or damages could have a material adverse effect on the Company’s financial condition and results of operations.

The Company will continue to expend substantial resources developing new products, applications or markets and may never achieve the sales volume that it anticipates for these products, which may limit the Company’s future growth and harm its results of operations. The Company’s future success will depend in part upon the success of new products. The Company has in the past, and will likely in the future, expend substantial resources in developing new and additional products for new applications and markets. The Company may experience unforeseen difficulties and delays in developing these products and experience defects upon volume production and broad deployment. The markets the Company enters will likely be highly competitive and competitors may have substantially more experience in these markets. The Company’s success will depend on the growth of the markets it enters, the competitiveness of its products and its ability to increase market share in these markets. If the Company enters markets that do not achieve or sustain the growth it anticipates, or if the Company’s products are not competitive, it may not achieve volume sales, which may limit the Company’s future growth and would harm its results of operations.

If the Company is unable to convert a significant portion of its design wins into revenue, the Company’s business, financial condition and results of operations could be materially and adversely impacted. The Company has secured a significant number of design wins for new and existing products. Such design wins are necessary for revenue growth. However, many of the Company’s design wins may never generate revenues if end-customer projects are unsuccessful in the marketplace or the end-customer terminates the project, which may occur for a variety of reasons. Mergers and consolidations among customers may lead to termination of certain projects before the associated design win generates revenue. If design wins do generate revenue, the time lag between the design win and meaningful revenue is typically between six months to greater than eighteen months. If the Company fails to convert a significant portion of its design wins into substantial revenue, the Company’s business, financial condition and results of operations could be materially and adversely impacted.



If the Company’s distributors or sales representatives stop selling or fail to successfully promote its products, the Company’s business, financial condition and results of operations could be adversely impacted. Micrel sells many of its products through sales representatives and distributors. The Company’s non-exclusive distributors and sales representatives may carry its competitors’ products, which could adversely impact or limit sales of the Company’s products. Additionally, they could reduce or discontinue sales of the Company’s products or may not devote the resources necessary to adequately sell the Company’s products. The Company’s agreements with distributors contain limited provisions for return of products, including stock rotations whereby distributors may return a percentage of their purchases based upon a percentage of their most recent three months of shipments. In addition, in certain circumstances upon termination of the distributor relationship, distributors may return some portion of their prior purchases. The loss of business from any of the Company’s significant distributors or the delay of significant orders from any of them, could materially and adversely harm the Company’s business, financial conditions and results of operations.

 
In addition, the Company depends on the continued viability and financial resources of these distributors and sales representatives, some of which are small organizations with limited working capital. In turn, these distributors and sales representatives are subject to general economic and semiconductor industry conditions. If some or all of the Company’s distributors and sales representatives experience financial difficulties, or otherwise become unable or unwilling to promote and sell the Company’s products, its business, financial condition and results of operations could be adversely impacted.

The Company manufactures most of its semiconductors at its San Jose, California fabrication facilities.  The Company's existing wafer fabrication facility, located in Northern California, may be subject to natural disasters such as earthquakes.  A significant natural disaster, such as an earthquake or prolonged drought, could have a material adverse impact on the Company's business, financial condition and operating results.  Furthermore, manufacturing semiconductors requires manufacturing tools that are unique to each product being produced.  If one of these unique manufacturing tools was damaged or destroyed, the Company's ability to manufacture the related product would be impaired and its business would suffer until the tool was repaired or replaced.  Additionally, the fabrication of ICs is a highly complex and precise process.  Small impurities, contaminants in the manufacturing environment, difficulties in the fabrication process, defects in the masks used to print circuits on a wafer, manufacturing equipment failures, and wafer breakage or other factors can cause a substantial percentage of wafers to be rejected or numerous die on each wafer to be nonfunctional.  The Company maintains approximately two to three months of inventory that has completed the wafer fabrication manufacturing process.  This inventory is generally located offshore at third party subcontractors and can act to buffer some of the adverse impact from a disruption to the Company’s San Jose wafer fabrication activity arising from a natural disaster such as an earthquake.

The Company’s results of operations could vary as a result of the methods, estimations and judgments used in applying its accounting policies. The methods, estimates and judgments used by the Company in applying its accounting policies have a significant impact on its results of operations. Such methods, estimates and judgments are, by their nature, subject to substantial risks, uncertainties, assumptions and changes in rulemaking by the regulatory bodies, and factors may arise over time that lead the Company to change its methods, estimates, and judgments. Changes in those methods, estimates and judgments could significantly impact the Company’s results of operations.




 
ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS


On December 30, 2008, the Company's Board of Directors approved a $50 million share repurchase program for calendar year 2009. The timing and amount of any repurchase of shares will be determined by the Company’s management, based on its evaluation of market conditions and other factors. Share repurchases are recorded as a reduction of common stock to the extent available. Any amounts in excess of common stock are recorded as a reduction of retained earnings. Repurchases of the Company's common stock during the first half of 2009 were as follows:

 
 
 
Period
  
 
Total Number of Shares Purchased
    
 
Average Price
Paid Per Share
    
Total Number of Shares Purchased as Part of Publicly Announced
Plans or Programs
    
Maximum Dollar Value of Shares that May Yet be Repurchased Under the
Plans or Programs ($000)
  
January 2009
     279,277     $ 6.97       279,277     $ 48,053  
February 2009
     1,666,643     $ 6.30       1,666,643     $ 37,552  
March 2009
     --       --       --     $ 37,552  
Total Q1 2009
     1,945,920     $ 6.40       1,945,920          
April 2009
     --       --       --     $ 37,552  
May 2009
     3,075,000     $ 6.50       3,075,000     $ 17,552  
June 2009
     --       --       --     $ 17,552  
Total Q2 2009
     3,075,000     $ 6.50       3,075,000          
Total 2009
     5,020,920     $ 6.46       5,020,920          


   ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

The Company's Annual Meeting of Shareholders (the "Annual Meeting") was held on May 21, 2009.  At the Annual Meeting, shareholders voted on four matters: (i) to elect the following six nominees to serve as members of the Board of Directors of the Company until the 2010 Annual Meeting of Shareholders and until their successors are duly elected and qualified:  Raymond D. Zinn, Daniel Artusi, Michael J. Callahan, Daniel Heneghan, Neil J. Miotto and Frank W. Schneider (“Proposal 1”), (ii) to approve a one-time stock option exchange program for employees other than our named executive officers and directors to permit such employees to surrender certain outstanding stock options for cancellation in exchange for the grant of new replacement options to purchase a lesser number of shares having an exercise price equal to the fair market value of our common stock on the replacement grant date (“Proposal 2”), (iii) to ratify the selection of PricewaterhouseCoopers LLP as the independent registered public accounting firm of the Company for its fiscal year ending December 31, 2009 (“Proposal 3”), and (iv) to ratify the extension of the Rights Agreement entered into between the Company and Mellon Investor Services LLC on March 24, 2008, and amended on March 23, 2009 (as amended, the “Rights Agreement”), by one year (“Proposal 4”). The proposals were voted upon and approved in the manner set forth below:

Proposal No. 1 - Election of members of the Board of Directors. The following persons were duly elected to the Board of Directors by the shareholders for a one year term and until their successors are elected and qualified:

      NOMINATION
  
FOR
    
WITHHELD
  
      Raymond D. Zinn
     54,294,046       824,509  
Daniel A. Artusi
     50,518,973       4,599,582  
Michael J. Callahan
     54,716,230       402,325  
Daniel Heneghan
     54,987,816       130,739  
Neil J. Miotto
     54,778,192       340,363  
Frank W. Schneider
     54,774,177       344,378  




Proposal No. 2 – To approve a one-time stock option exchange program for employees other than our named executive officers and directors to permit such employees to surrender certain outstanding stock options for cancellation in exchange for the grant of new replacement options to purchase a lesser number of shares having an exercise price equal to the fair market value of our common stock on the replacement grant date:

   FOR       AGAINST       ABSTAIN  
  43,803,855       11,288,626       26,073  

Proposal No. 3 – To ratify the appointment of PricewaterhouseCoopers LLP as the Company’s independent registered public accounting firm for the fiscal year ending December 31, 2009:

  FOR       AGAINST       ABSTAIN  
  55,054,747       48,336       15,471  

Proposal No. 4 – To ratify the extension of the Rights Agreement by one year:

  FOR       AGAINST       ABSTAIN  
  31,999,356       23,085,917       33,281  


   ITEM 6.  EXHIBITS

Exhibit No.
Description
10.1
Credit Agreement, dated as of May 7, 2009, by and between Bank of the West and Micrel, Incorporated (incorporated by reference to Exhibit 10.1 to the Current Report on Form 8-K filed on May 7, 2009).
10.2
Stock Purchase Agreement, dated as of May 7, 2009, by and among the sellers listed on Schedule I attached thereto, and Micrel, Incorporated and each of the purchasers listed on Schedule II attached thereto (incorporated by reference to Exhibit 10.2 to the Current Report on Form 8-K filed on May 7, 2009).
31
Certifications of the Company’s Chief Executive Officer and Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32
Certifications of the Company’s Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002






SIGNATURE

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.



 
MICREL, INCORPORATED
  
 
(Registrant)
  
     
     
Date: August 7, 2009
By            /s/ Clyde R. Wallin            
  
 
Clyde R. Wallin
  
 
Vice President, Finance and
  
 
Chief Financial Officer
  
 
(Authorized Officer and
  
 
Principal Financial Officer)
  


 
38
 

 EX-31 2 exhibit31.htm OFFICER CERTIFICATIONS SECTION 302 exhibit31.htm

EXHIBIT 31
Certification of Chief Executive Officer
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

 
I, Raymond D. Zinn, certify that:

1.             I have reviewed this quarterly report on Form 10-Q of Micrel, Incorporated;

 
2.             Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.             Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.             The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in the Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

a)     designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b)     designed such internal control over financial reporting, or caused such internal control over financial control to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c)     evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation;

d)      disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and 

 
5.             The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):

 
a)     all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b)     any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: August 7, 2009
By            /s/ Raymond D. Zinn 
  
 
Raymond D. Zinn
  
 
President, Chief Executive Officer and Director
  
 
(Principal Executive Officer)
  

 
 
 

Certification of Chief Financial Officer
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

I, Clyde R Wallin, certify that:

1.             I have reviewed this quarterly report on Form 10-Q of Micrel, Incorporated;

 
2.             Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.             Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.             The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in the Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

a)     designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b)     designed such internal control over financial reporting, or caused such internal control over financial control to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c)     evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation;

d)      disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and 

 
5.             The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):

 
a)     all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b)     any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: August 7, 2009
By            /s/ Clyde R. Wallin 
  
 
Clyde R. Wallin
  
 
Vice President, Finance and
  
 
Chief Financial Officer
  
 
(Principal Financial and Accounting Officer)
  





EX-32 3 exhibit32.htm OFFICER CERTIFICATIONS SECTION 906 exhibit32.htm

EXHIBIT 32

Certification of Chief Executive Officer
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

Pursuant to 18 U.S.C. § 1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002, the undersigned officer of Micrel, Incorporated (the “Company”) hereby certifies, to such officer’s knowledge, that:

(i)           the accompanying Quarterly Report on Form 10-Q of the Company for the quarterly period ended June 30, 2009 (the “Report”) fully complies with the requirements of Section 13(a) or Section 15(d), as applicable, of the Securities Exchange Act of 1934, as amended; and

(ii)           the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.


Date: August 7, 2009
By            /s/ Raymond D. Zinn 
  
 
Raymond D. Zinn
  
 
Chief Executive Officer
  



Certification of Chief Financial Officer
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

Pursuant to 18 U.S.C. § 1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002, the undersigned officer of Micrel, Incorporated (the “Company”) hereby certifies, to such officer’s knowledge, that:

(i)           the accompanying Quarterly Report on Form 10-Q of the Company for the quarterly period ended June 30, 2009 (the “Report”) fully complies with the requirements of Section 13(a) or Section 15(d), as applicable, of the Securities Exchange Act of 1934, as amended; and

(ii)           the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.


Date: August 7, 2009
By            /s/ Clyde R. Wallin                                
  
 
Clyde R. Wallin
  
 
Chief Financial Officer
  


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