SPWRA_10.02.2011_10-Q
 
 
 
 
 
 
 
 
 
 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
T
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended October 2, 2011
OR
o
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 001-34166
SunPower Corporation
(Exact Name of Registrant as Specified in Its Charter)
Delaware
 
94-3008969
(State or Other Jurisdiction of Incorporation or Organization)
 
(I.R.S. Employer Identification No.)

77 Rio Robles, San Jose, California 95134
(Address of Principal Executive Offices and Zip Code)

(408) 240-5500
(Registrant's Telephone Number, Including Area Code)

 
 
 
 
 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 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  T    No  o

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  T    No  o

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. (Check one):
Large accelerated filer x
Accelerated filer o
Non-accelerated filer o
Smaller reporting company o
 
 
(Do not check if a smaller reporting company)
 

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

The total number of outstanding shares of the registrant's class A common stock as of November 4, 2011 was 58,143,226.
The total number of outstanding shares of the registrant's class B common stock as of November 4, 2011 was 42,033,287.

SunPower Corporation

INDEX TO FORM 10-Q
 
 
Page
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 6.
 
 
 
 
 




2

Index

PART I. FINANCIAL INFORMATION

Item 1.         Financial Statements
SunPower Corporation
Condensed Consolidated Balance Sheets
(In thousands, except share data)
(unaudited)
 
October 2, 2011
 
January 2, 2011
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
374,562

 
$
605,420

Restricted cash and cash equivalents, current portion
2,871

 
117,462

Short-term investments

 
38,720

Accounts receivable, net
438,091

 
381,200

Costs and estimated earnings in excess of billings
98,828

 
89,190

Inventories
425,233

 
313,398

Advances to suppliers, current portion
37,119

 
31,657

Project assets - plants and land, current portion
34,426

 
23,868

Prepaid expenses and other current assets (1)
354,086

 
192,934

Total current assets
1,765,216

 
1,793,849

 
 
 
 
Restricted cash and cash equivalents, net of current portion
223,639

 
138,837

Restricted long-term marketable securities
8,962

 

Property, plant and equipment, net
585,022

 
578,620

Project assets - plants and land, net of current portion
33,447

 
22,238

Goodwill
35,990

 
345,270

Other intangible assets, net
5,907

 
66,788

Advances to suppliers, net of current portion
259,399

 
255,435

Other long-term assets (1)
235,597

 
178,294

Total assets
$
3,153,179

 
$
3,379,331

 
 
 
 
Liabilities and Stockholders' Equity
 

 
 

Current liabilities:
 

 
 

Accounts payable (1)
$
428,489

 
$
382,884

Accrued liabilities
212,645

 
137,704

Billings in excess of costs and estimated earnings
63,813

 
48,715

Short-term debt

 
198,010

Convertible debt, current portion
192,913

 

Customer advances, current portion (1)
26,152

 
21,044

Total current liabilities
924,012

 
788,357

 
 
 
 
Long-term debt
355,001

 
50,000

Convertible debt, net of current portion
419,725

 
591,923

Customer advances, net of current portion (1)
153,597

 
160,485

Other long-term liabilities
127,390

 
131,132

Total liabilities
1,979,725

 
1,721,897

Commitments and contingencies (Note 8)


 


Stockholders' equity:
 

 
 

Preferred stock, 10,042,490 shares authorized, $0.001 par value; none issued and outstanding

 

Common stock, 217,500,000 shares of class A common stock authorized, $0.001 par value; 59,347,697 and 56,664,413 shares of class A common stock issued; 58,133,812 and 56,073,083 shares of class A common stock outstanding, as of October 2, 2011 and January 2, 2011, respectively; 150,000,000 shares of class B common stock authorized, $0.001 par value; 42,033,287 shares of class B common stock issued and outstanding as of both October 2, 2011 and January 2, 2011
100

 
98

Additional paid-in capital
1,648,733

 
1,606,697

Retained earnings (accumulated deficit)
(457,106
)
 
63,672

Accumulated other comprehensive income
8,950

 
3,640

Treasury stock, at cost; 1,213,885 and 591,330 shares of class A common stock as of October 2, 2011 and January 2, 2011, respectively
(27,223
)
 
(16,673
)
Total stockholders' equity
1,173,454

 
1,657,434

Total liabilities and stockholders' equity
$
3,153,179

 
$
3,379,331


(1)
The Company has related party balances in connection with transactions made with its joint ventures which are recorded within the "Prepaid expenses and other current assets," "Other long-term assets," "Accounts payable," "Customer advance, current portion" and "Customer advances, net of current portion" financial statement line items in the Condensed Consolidated Balance Sheets (see Note 5, Note 8 and Note 9).

The accompanying notes are an integral part of these condensed consolidated financial statements.

3

Index

SunPower Corporation
Condensed Consolidated Statements of Operations
(In thousands, except per share data)
(unaudited)
 
Three Months Ended
 
Nine Months Ended
 
October 2, 2011
 
October 3, 2010
 
October 2, 2011
 
October 3, 2010
Revenue:
 
 
 
 
 
 
 
Utility and power plants
$
324,542

 
$
257,803

 
$
872,890

 
$
521,896

Residential and commercial
380,885

 
292,842

 
876,210

 
760,261

Total revenue
705,427

 
550,645

 
1,749,100

 
1,282,157

Cost of revenue:
 
 
 
 
 
 
 
Utility and power plants
285,537

 
212,526

 
797,580

 
421,178

Residential and commercial
343,766

 
225,534

 
767,580

 
588,800

Total cost of revenue
629,303

 
438,060

 
1,565,160

 
1,009,978

Gross margin
76,124

 
112,585

 
183,940

 
272,179

Operating expenses:
 
 
 
 
 
 
 
Research and development
12,664

 
13,382

 
41,565

 
34,995

Sales, general and administrative
76,329

 
91,015

 
243,364

 
233,671

Goodwill impairment
309,457

 

 
309,457

 

Other intangible asset impairment
40,301

 

 
40,301

 

Restructuring charges
637

 

 
13,945

 

Total operating expenses
439,388

 
104,397

 
648,632

 
268,666

Operating income (loss)
(363,264
)
 
8,188

 
(464,692
)
 
3,513

Other income (expense), net:
 
 
 
 
 
 
 
Interest income
206

 
742

 
1,437

 
1,294

Interest expense
(17,096
)
 
(14,768
)
 
(48,414
)
 
(45,018
)
Gain on deconsolidation of consolidated subsidiary

 
36,849

 

 
36,849

Gain on sale of equity interest in unconsolidated investee
10,989

 

 
10,989

 

Gain on change in equity interest in unconsolidated investee

 

 
322

 
28,348

Gain (loss) on mark-to-market derivatives
472

 
(2,967
)
 
331

 
28,885

Other, net
8,015

 
(11,947
)
 
(10,719
)
 
(28,344
)
Other income (expense), net
2,586

 
7,909

 
(46,054
)
 
22,014

Income (loss) before income taxes and equity in earnings of unconsolidated investees
(360,678
)
 
16,097

 
(510,746
)
 
25,527

Provision for income taxes
(11,077
)
 
(3,376
)
 
(17,963
)
 
(19,493
)
Equity in earnings of unconsolidated investees
971

 
5,825

 
7,932

 
10,973

Income (loss) from continuing operations
(370,784
)
 
18,546

 
(520,777
)
 
17,007

Income from discontinued operations, net of taxes

 
1,570

 

 
9,466

Net income (loss)
$
(370,784
)
 
$
20,116

 
$
(520,777
)
 
$
26,473

 
 
 
 
 
 
 
 
Net income (loss) per share of class A and class B common stock:
 
 
 
 
 
 
 
Net income (loss) per share - basic:
 
 
 
 
 
 
 
Continuing operations
$
(3.77
)
 
$
0.19

 
$
(5.34
)
 
$
0.18

Discontinued operations

 
0.02

 

 
0.10

Net income (loss) per share - basic
$
(3.77
)
 
$
0.21

 
$
(5.34
)
 
$
0.28

Net income (loss) per share - diluted:
 
 
 
 
 
 
 
Continuing operations
$
(3.77
)
 
$
0.19

 
$
(5.34
)
 
$
0.18

Discontinued operations
$

 
$
0.02

 
$

 
$
0.09

Net income (loss) per share - diluted
$
(3.77
)
 
$
0.21

 
$
(5.34
)
 
$
0.27

Weighted-average shares:
 
 
 
 
 
 
 
Basic
98,259

 
95,840

 
97,456

 
95,519

Diluted
98,259

 
105,648

 
97,456

 
96,741


The accompanying notes are an integral part of these condensed consolidated financial statements.

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Index

SunPower Corporation
Condensed Consolidated Statements of Cash Flows
(In thousands)
(unaudited)
 
Nine Months Ended
 
October 2, 2011
 
October 3, 2010
Cash flows from operating activities:
 
 
 
Net income (loss)
$
(520,777
)
 
$
26,473

Less: Income from discontinued operations, net of taxes

 
9,466

Income (loss) from continuing operations
(520,777
)
 
17,007

Adjustments to reconcile income (loss) from continuing operations to net cash used in operating activities of continuing operations
 
 
 

Stock-based compensation
37,829

 
38,064

Goodwill impairment
309,457

 

Other intangible asset impairment
40,301

 

Depreciation
83,979

 
75,680

Amortization of other intangible assets
20,614

 
28,039

Loss (gain) on sale of investments
191

 
(1,572
)
Gain on mark-to-market derivatives
(331
)
 
(28,885
)
Non-cash interest expense
21,112

 
22,175

Amortization of debt issuance costs
4,196

 
4,030

Amortization of promissory notes
3,486

 
8,941

Gain on deconsolidation of consolidated subsidiary

 
(36,849
)
Gain on change in equity interest in unconsolidated investee
(322
)
 
(28,348
)
Gain on sale of equity interest in unconsolidated investee
(10,989
)
 

Third-party inventories write-down
16,399

 

Project assets write-down
16,053

 

Equity in earnings of unconsolidated investees
(7,932
)
 
(10,973
)
Deferred income taxes and other tax liabilities
(860
)
 
18,708

Changes in operating assets and liabilities, net of effect of acquisition:
 
 
 
Accounts receivable
(48,587
)
 
(3,879
)
Costs and estimated earnings in excess of billings
(3,304
)
 
(80,719
)
Inventories
(120,753
)
 
(84,210
)
Project assets
(43,242
)
 
(146,268
)
Prepaid expenses and other assets
(123,044
)
 
(76,774
)
Advances to suppliers
(9,535
)
 
1,672

Accounts payable and other accrued liabilities
64,432

 
219,133

Billings in excess of costs and estimated earnings
14,345

 
1,269

Customer advances
(1,698
)
 
(7,961
)
Net cash used in operating activities of continuing operations
(258,980
)
 
(71,720
)
Net cash used in operating activities of discontinued operations

 
(3,969
)
Net cash used in operating activities
(258,980
)
 
(75,689
)
Cash flows from investing activities:
 
 
 
Decrease in restricted cash and cash equivalents
29,789

 
64,674

Purchase of property, plant and equipment
(85,528
)
 
(104,623
)
Proceeds from sale of equipment to third-party
501

 
5,284

Purchase of marketable securities
(8,962
)
 

Proceeds from sales or maturities of available-for-sale securities
43,759

 
1,572

Cash paid for acquisition, net of cash acquired

 
(272,699
)
Cash decrease due to deconsolidation of consolidated subsidiary

 
(12,879
)
Cash received for sales of investments in joint ventures and other non-public companies
24,043

 

Cash paid for investments in joint ventures and other non-public companies
(80,000
)
 
(3,798
)
Net cash used in investing activities of continuing operations
(76,398
)
 
(322,469
)
Net cash provided by investing activities of discontinued operations

 
33,950

Net cash used in investing activities
(76,398
)
 
(288,519
)
Cash flows from financing activities:
 
 
 
Proceeds from issuance of bank loans, net of issuance costs
489,221

 

Proceeds from issuance of project loans, net of issuance costs

 
56,323

Assumption of project loans by customers

 
(57,732
)
Proceeds from issuance of convertible debt, net of issuance costs

 
244,241

Repayment of bank loans
(377,124
)
 
(63,646
)
Cash paid for repurchase of convertible debt

 
(143,804
)
Cash paid for bond hedge

 
(75,200
)
Proceeds from warrant transactions
2,261

 
61,450

Proceeds from exercise of stock options
4,013

 
670

Purchases of stock for tax withholding obligations on vested restricted stock
(10,550
)
 
(2,539
)
Net cash provided by financing activities of continuing operations
107,821

 
19,763

Net cash provided by financing activities of discontinued operations

 
17,059

Net cash provided by financing activities
107,821

 
36,822

Effect of exchange rate changes on cash and cash equivalents
(3,301
)
 
(7,281
)
Net decrease in cash and cash equivalents
(230,858
)
 
(334,667
)
Cash and cash equivalents at beginning of period
605,420

 
615,879

Cash and cash equivalents of continuing operations, end of period
$
374,562

 
$
281,212

 
 
 
 
Non-cash transactions:
 
 
 
Property, plant and equipment acquisitions funded by liabilities
$
11,781

 
$
4,382

Non-cash interest expense capitalized and added to the cost of qualified assets
2,096

 
2,951



The accompanying notes are an integral part of these condensed consolidated financial statements.

5

Index

SunPower Corporation
Notes to Condensed Consolidated Financial Statements
(unaudited)

Note 1. THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The Company
 
SunPower Corporation (together with its subsidiaries, the “Company” or “SunPower”) is a vertically integrated solar products and services company that designs, manufactures and delivers high-performance solar electric systems worldwide for residential, commercial and utility-scale power plant customers.

The Company's President and Chief Executive Officer, as the chief operating decision maker (“CODM”), has organized the Company and manages resource allocations and measures performance of the Company's activities between these two business segments: the Utility and Power Plants ("UPP") Segment and the Residential and Commercial ("R&C") Segment. The Company's UPP Segment refers to its large-scale solar products and systems business, which includes power plant project development and project sales, turn-key engineering, procurement and construction (“EPC”) services for power plant construction, and power plant operations and maintenance (“O&M”) services. The UPP Segment also sells components, including large volume sales of solar panels and mounting systems, to third parties, often on a multi-year, firm commitment basis. The Company's R&C Segment focuses on solar equipment sales into the residential and small commercial market through its third-party global dealer network, as well as direct sales and EPC and O&M services in the United States and Europe for rooftop and ground-mounted solar power systems for the new homes, commercial and public sectors.

On June 21, 2011, the Company became a majority owned subsidiary of Total Gas & Power USA, SAS, a French société par actions simplifiée ("Total”), a subsidiary of Total S.A., a French société anonyme ("Total S.A."), through a tender offer and Total's purchase of 60% of the outstanding class A common stock and class B common stock of the Company as of June 13, 2011 (see Note 2).

Basis of Presentation and Preparation
    
Principles of Consolidation

The accompanying condensed consolidated interim financial statements have been prepared under the rules and regulations of the Securities and Exchange Commission (“SEC”) regarding interim financial reporting and include the accounts of the Company and all of its subsidiaries. Intercompany transactions and balances have been eliminated in consolidation. The year-end Condensed Consolidated Balance Sheet data was derived from audited financial statements contained in the Company's Annual Report on Form 10-K for the fiscal year ended January 2, 2011 (the "fiscal 2010 Form 10-K").

Fiscal Years

The Company reports on a fiscal-year basis and ends its quarters on the Sunday closest to the end of the applicable calendar quarter, except in a 53-week fiscal year, in which case the additional week falls into the fourth quarter of that fiscal year. Both fiscal year 2011 and 2010 consist of 52 weeks. The third quarter of fiscal 2011 ended on October 2, 2011 and the third quarter of fiscal 2010 ended on October 3, 2010.

Management Estimates

The preparation of the condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States (“U.S. GAAP”) requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Significant estimates in these financial statements include percentage-of-completion for construction projects, allowances for doubtful accounts receivable and sales returns, inventory and project assets write-downs, stock-based compensation, estimates for future cash flows and economic useful lives of property, plant and equipment, goodwill, valuations for business combinations, other intangible assets and other long-term assets, asset impairments, fair value of financial instruments, certain accrued liabilities including accrued warranty, restructuring and termination of supply contracts reserves, valuation of debt without the conversion feature, valuation of share lending arrangements, income taxes and tax valuation allowances. Actual results could materially differ from those estimates.

In the opinion of management, the accompanying condensed consolidated financial statements contain all adjustments, consisting only of normal recurring adjustments, which the Company believes are necessary for a fair statement of the

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Company's financial position as of October 2, 2011, its results of operations for the three and nine months ended October 2, 2011 and October 3, 2010 and cash flows for the nine months ended October 2, 2011 and October 3, 2010. These condensed consolidated financial statements are not necessarily indicative of the results to be expected for the entire year.

Summary of Significant Accounting Policies
 
These condensed consolidated financial statements and accompanying notes should be read in conjunction with the Company's annual consolidated financial statements and notes thereto contained in the fiscal 2010 Form 10-K. There have been no significant changes in the Company's significant accounting policies for the three months ended October 2, 2011, as compared to the significant accounting policies described in the fiscal 2010 Form 10-K.

Recent Accounting Pronouncements

In May 2011, the Financial Accounting Standards Board (“FASB”) amended its fair value principles and disclosure requirements. The amended fair value guidance states that the concepts of highest and best use and valuation premise are only relevant when measuring the fair value of nonfinancial assets and prohibits the grouping of financial instruments for purposes of determining their fair values when the unit of account is specified in other guidance. The amendment will be effective for the Company on January 2, 2012. The Company does not anticipate that this amendment will have a material impact on its financial statements.

In June 2011, the FASB amended its disclosure guidance related to the presentation of comprehensive income. This amendment eliminates the option to report other comprehensive income and its components in the statement of changes in equity and requires presentation and reclassification adjustments on the face of the income statement. The amendment will be effective for the Company on January 2, 2012 and will not have any impact on our financial position, but will impact our financial statement presentation.

In September 2011, the FASB amended its goodwill guidance by providing entities an option to use a qualitative approach to test goodwill for impairment. An entity will be able to first perform a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying value. If it is concluded that this is the case, it is necessary to perform the currently prescribed two step goodwill impairment test. Otherwise, the two-step goodwill impairment test is not required. The amendment will be effective for the Company on January 2, 2012. The Company does not anticipate that this amendment will have a material impact on its financial statements.

Note 2. TRANSACTIONS WITH TOTAL AND TOTAL S.A.

On April 28, 2011, the Company and Total entered into a Tender Offer Agreement (the “Tender Offer Agreement”), pursuant to which, on May 3, 2011, Total commenced a cash tender offer to acquire up to 60% of the Company's outstanding shares of class A common stock and up to 60% of the Company's outstanding shares of class B common stock (the “Tender Offer”) at a price of $23.25 per share for each class. The consummation of the Tender Offer was subject to customary closing conditions, including a minimum of 50% of the outstanding shares of each of the class A common stock and class B common stock being tendered, clearance by U.S. and European Union antitrust authorities, and other customary closing conditions. On May 9, 2011 the U.S. Federal Trade Commission granted the Company and Total S.A. early termination of the waiting period otherwise required for the parties to achieve U.S. antitrust approval.

The offer expired on June 14, 2011 and Total accepted for payment on June 21, 2011 a total of 34,756,682 shares of the Company's class A common stock and 25,220,000 shares of the Company's class B common stock, representing 60% of each class of its outstanding common stock as of June 13, 2011, for a total cost of approximately $1.4 billion. On June 28, 2011, the European Commission granted clearance for the Tender Offer transaction. As a result of the Commission clearance, Total is permitted to fully exercise voting and election rights over the purchased shares, as well as fully exercise its rights under the Credit Support Agreement, the Affiliation Agreement, and the Research & Collaboration Agreement described below.

Credit Support Agreement

In connection with the Tender Offer, the Company and Total S.A. entered into a Credit Support Agreement (the “Credit Support Agreement”) under which Total S.A. has agreed to enter into one or more guarantee agreements (each a “Guaranty”) with banks providing letter of credit facilities to the Company in support of certain Company businesses and other permitted purposes. Total S.A. will guarantee the payment to the applicable issuing bank of the Company's obligation to reimburse a draw on a letter of credit and pay interest thereon in accordance with the letter of credit facility between such bank and the Company. The Credit Support Agreement became effective on June 28, 2011, the date on which the European Commission granted anti-

7

Index

trust clearance (the “CSA Effective Date”). Under the Credit Support Agreement, at any time from the CSA Effective Date until the fifth anniversary of the CSA Effective Date, the Company may request that Total S.A. provide a Guaranty in support of the Company's payment obligations with respect to a letter of credit facility. Total S.A. is required to issue and enter into the Guaranty requested by the Company, subject to certain terms and conditions that may be waived by Total S.A., and subject to certain other conditions.

In consideration for the commitments of Total S.A., the Company is required to pay Total S.A. a guarantee fee for each letter of credit that is the subject of a Guaranty and was outstanding for all or part of the preceding calendar quarter.

The Company is also required to reimburse Total S.A. for payments made under any Guaranty and certain expenses of Total S.A., plus interest on both.

The Company has agreed to undertake certain actions, including, but not limited to, ensuring that the payment obligations of the Company to Total S.A. rank at least equal in right of payment with all of the Company's other present and future indebtedness, other than certain permitted secured indebtedness. The Company has also agreed to refrain from taking certain actions, including refraining from making any equity distributions so long as it has any outstanding repayment obligation to Total S.A. resulting from a draw on a guaranteed letter of credit.

The Credit Support Agreement will terminate following the fifth anniversary of the CSA Effective Date, after the later of the payment in full of all obligations thereunder and the termination or expiration of each Guaranty provided thereunder.

Affiliation Agreement

In connection with the Tender Offer, the Company and Total entered into an Affiliation Agreement that governs the relationship between Total and the Company following the close of the Tender Offer (the “Affiliation Agreement”). Until the expiration of a standstill period (the “Standstill Period”), Total, Total S.A., any of their respective affiliates and certain other related parties (the “Total Group”) may not effect, seek, or enter into discussions with any third party regarding any transaction that would result in the Total Group beneficially owning shares of the Company in excess of certain thresholds, or request the Company or the Company's independent directors, officers or employees, to amend or waive any of the standstill restrictions applicable to the Total Group.

The Affiliation Agreement imposes certain limitations on the Total Group's ability to seek to effect a tender offer or merger to acquire 100% of the outstanding voting power of the Company and imposes certain limitations on the Total Group's ability to transfer 40% or more of outstanding shares or voting power of the Company to a single person or group that is not a direct or indirect subsidiary of Total S.A. During the Standstill Period, no member of the Total Group may, among other things, solicit proxies or become a participant in an election contest relating to the election of directors to the Company's Board of Directors.

The Affiliation Agreement provides Total with the right to maintain its percentage ownership in connection with any new securities issued by the Company, and Total may also purchase shares on the open market or in private transactions with disinterested stockholders, subject in each case to certain restrictions.

In accordance with the terms of the Affiliation Agreement, on July 1, 2011, the Company's Board of Directors expanded the size of the Board of Directors to eleven members and elected six nominees from Total as directors, following which the Board of Directors was composed of the Chief Executive Officer of the Company (who also serves as the chairman of the Company's Board of Directors), four existing non-Total designated members of the Company's Board of Directors, and six directors designated by Total. Directors designated by Total also serve on certain committees of the Company's Board of Directors. On the first anniversary of the consummation of the Tender Offer, the size of the Company's Board of Directors will be reduced to nine members and one non-Total designated director and one director designated by Total will resign from the Company's Board of Directors. If the Total Group's ownership percentage of Company common stock declines, the number of members of the Company's Board of Directors that Total is entitled to nominate to the Company's Board of Directors will be reduced as set forth in the Affiliation Agreement.

The Affiliation Agreement also imposes certain restrictions with respect to the Company's and the Company's Board of Directors' ability to take certain actions, including specifying certain actions that require approval by the directors other than the directors appointed by Total and other actions that require stockholder approval by Total.

Affiliation Agreement Guaranty


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Total S.A. has entered into a guaranty (the “Affiliation Agreement Guaranty”) pursuant to which Total S.A. unconditionally guarantees the full and prompt payment of Total S.A.'s, Total's and each of Total S.A.'s direct and indirect subsidiaries' payment obligations under the Affiliation Agreement and the full and prompt performance of Total S.A.'s, Total's and each of Total S.A.'s direct and indirect subsidiaries' representations, warranties, covenants, duties and agreements contained in the Affiliation Agreement.

Research & Collaboration Agreement

In connection with the Tender Offer, Total and the Company have entered into a Research & Collaboration Agreement (the “R&D Agreement”) that establishes a framework under which they may engage in long-term research and development collaboration (“R&D Collaboration”). The R&D Collaboration is expected to encompass a number of different projects (“R&D Projects”), with a focus on advancing technology in the area of photovoltaics. The primary purpose of the R&D Collaboration is to: (i) maintain and expand the Company's technology position in the crystalline silicon domain; (ii) ensure the Company's industrial competitiveness; and (iii) guarantee a sustainable position for both the Company and Total to be best-in-class industry players.

The R&D Agreement contemplates a joint committee (the “R&D Strategic Committee”) that identifies, plans and manages the R&D Collaboration. Due to the impracticability of anticipating and establishing all of the legal and business terms that will be applicable to the R&D Collaboration or to each R&D Project, the R&D Agreement sets forth broad principles applicable to the parties' potential R&D Collaboration, and the R&D Collaboration Committee establishes the particular terms governing each particular R&D Project consistent with the terms set forth in the R&D Agreement.

Registration Rights Agreement

In connection with the Tender Offer, Total and the Company entered into a customary registration rights agreement (the “Registration Rights Agreement”) related to Total's ownership of Company shares. The Registration Rights Agreement provides Total with shelf registration rights, subject to certain customary exceptions, and up to two demand registration rights in any 12-month period, also subject to certain customary exceptions. Total also has certain rights to participate in any registrations of securities initiated by the Company. The Company will generally pay all costs and expenses incurred by the Company and Total in connection with any shelf or demand registration (other than selling expenses incurred by Total). The Company and Total have also agreed to certain indemnification rights. The Registration Rights Agreement terminates on the first date on which: (i) the shares held by Total constitute less than 5% of the then-outstanding common stock; (ii) all securities held by Total may be immediately resold pursuant to Rule 144 promulgated under the Securities and Exchange Act of 1934 (the "Exchange Act") during any 90-day period without any volume limitation or other restriction; or (iii) the Company ceases to be subject to the reporting requirements of the Exchange Act.

Stockholder Rights Plan

On April 28, 2011, prior to the execution of the Tender Offer Agreement, the Company entered into an amendment (the “Rights Agreement Amendment”) to the Rights Agreement, dated August 12, 2008, by and between the Company and Computershare Trust Company, N.A., as Rights Agent (the “Rights Agreement”), in order to, among other things, render the rights therein inapplicable to each of: (i) the approval, execution or delivery of the Tender Offer Agreement; (ii) the commencement or consummation of the Tender Offer; (iii) the consummation of the other transactions contemplated by the Tender Offer Agreement and the related agreements; and (iv) the public or other announcement of any of the foregoing.

On June 14, 2011, the Company entered into a second amendment to the Rights Agreement (the “Second Rights Agreement Amendment”), in order to, among other things, exempt Total, Total S.A. and certain of their affiliates and certain members of a group of which they may become members from the definition of “Acquiring Person” such that the rights issuable pursuant to the Rights Agreement will not become issuable in connection with the completion of the Tender Offer.

By-laws Amendment

On June 14, 2011, the Board of Directors approved the amendment of the Company's By-laws (the “By-laws”). The changes are required under the Affiliation Agreement. The amendments: (i) allow any member of the Total Group to call a meeting of stockholders for the sole purpose of considering and voting on a proposal to effect a Terra Merger (as defined in the Affiliation Agreement) or a Transferee Merger (as defined in the Affiliation Agreement); (ii) provide that the number of directors of the Board shall be determined from time to time by resolution adopted by the affirmative vote of a majority of the entire Board at any regular or special meeting; (iii) require, prior to the termination of the Affiliation Agreement, a majority of independent directors' approval to amend the By-laws so long as Total, together with Total S.A.'s subsidiaries collectively own

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at least 30% of the voting securities of the Company as well as require, prior to the termination of the Affiliation Agreement, Total's written consent during the Terra Stockholder Approval Period (as defined in the Affiliation Agreement) to amend the By-laws; and (iv) make certain other conforming changes to the By-laws.

The Tender Offer Agreement, Tender Offer Agreement Guaranty, Credit Support Agreement, Affiliation Agreement, Affiliation Agreement Guaranty, Research and Collaboration Agreement, Registration Rights Agreement, Rights Agreement Amendment, Second Rights Agreement Amendment and By-laws, and amendments thereto, are attached to, and more fully described in, the Company's Form 8-Ks as filed with the SEC on May 2, 2011, June 7, 2011, and June 15, 2011.


Note 3. SALE OF DISCONTINUED OPERATIONS

In connection with a strategic acquisition on March 26, 2010, the Company acquired a European project company, Cassiopea PV S.r.l (“Cassiopea”), which operated a previously completed 20 megawatt alternating current ("MWac") solar power plant in Montalto di Castro, Italy. In the period in which an asset of the Company is classified as held-for-sale, it is required to present for all periods the related assets, liabilities and results of operations associated with that asset as discontinued operations. On August 5, 2010, the Company sold the assets and liabilities of Cassiopea. Therefore, Cassiopea's results of operations were classified as “Income from discontinued operations, net of taxes” in the Condensed Consolidated Statement of Operations in the three and nine months ended October 3, 2010.

In both the three and nine months ended October 3, 2010, results of operations related to Cassiopea were as follows:

 
 
Three Months Ended
 
Nine Months Ended
(In thousands)
 
October 3, 2010
 
October 3, 2010
Utility and power plants revenue
 
$
3,176

 
$
11,081

Gross margin
 
3,176

 
11,081

Income (loss) from discontinued operations before sale of business unit
 
(5,648
)
 
5,862

Gain on sale of business unit
 
7,937

 
7,937

Income before income taxes
 
2,289

 
13,799

Income from discontinued operations, net of taxes
 
1,570

 
9,466

 

Note 4. GOODWILL AND OTHER INTANGIBLE ASSETS

Goodwill

The following table presents the changes in the carrying amount of goodwill under the Company's reportable business segments:

(In thousands)
 
UPP
 
R&C
 
Total
As of January 2, 2011
 
$
226,350

 
$
118,920

 
$
345,270

Goodwill impairment
 
(226,350
)
 
(83,107
)
 
(309,457
)
Translation adjustment
 

 
177

 
177

As of October 2, 2011
 
$

 
$
35,990

 
$
35,990


Goodwill is tested for impairment at least annually, or more frequently if certain indicators are present. A two-step process is used to test for goodwill impairment. The first step is to determine if there is an indication of impairment by comparing the estimated fair value of each reporting unit to its carrying value, including existing goodwill. Goodwill is considered impaired if the carrying value of a reporting unit exceeds the estimated fair value. Upon an indication of impairment, a second step is performed to determine the amount of the impairment by comparing the implied fair value of the reporting unit's goodwill with its carrying value.

The Company conducts its annual impairment test of goodwill as of the Sunday closest to the end of the third fiscal

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quarter of each year. Impairment of goodwill is tested at the Company's reporting unit level. Management determined the UPP Segment and R&C Segment each have two reporting units, UPP-International and UPP-Americas for UPP Segment, and Residential and Light Commercial and North American Commercial for R&C Segment. In estimating the fair value of the reporting units, the Company makes estimates and judgments about its future cash flows using an income approach defined as Level 3 inputs under fair value measurement standards. The income approach, specifically a discounted cash flow analysis, included assumptions for, among others, forecasted revenue, gross margin, operating income, working capital cash flow, perpetual growth rates and long-term discount rates, all of which require significant judgment by management. The sum of the fair values of the Company's reporting units are also compared to its external market capitalization to determine the appropriateness of its assumptions and adjusted, if appropriate. These assumptions took into account the current industry environment and its impact on the Company's business. Based on the impairment test as of October 2, 2011, the Company determined that the carrying value of the UPP-International, UPP-Americas, and Residential and Light Commercial reporting units exceeded their fair value. As a result, the Company performed the second step of the impairment analysis for the three reporting units discussed above. The Company's calculation of the implied fair value of goodwill included significant assumptions for, among others, the fair values of recognized assets and liabilities and of unrecognized intangible assets, all of which require significant judgment by management. The Company calculated that the implied fair value of goodwill for the three reporting units was zero and therefore recorded a goodwill impairment loss of $309.5 million, representing all of the goodwill associated with these reporting units. As of October 2, 2011, the fair value of the remaining reporting unit, North American Commercial, significantly exceeded the carrying value under the first step of the goodwill impairment test; therefore, goodwill was not impaired.

Intangible Assets

The following tables present details of the Company's acquired other intangible assets:

(In thousands)
 
Gross
 
Accumulated
Amortization
 
Net
As of October 2, 2011
 
 
 
 
 
 
Patents, trade names and purchased technology
 
$
49,892

 
$
(49,892
)
 
$

Purchased in-process research and development
 
1,000

 
(153
)
 
847

Customer relationships and other
 
28,251

 
(23,191
)
 
5,060

 
 
$
79,143

 
$
(73,236
)
 
$
5,907

 
 
 

 
 

 
 

As of January 2, 2011
 
 

 
 

 
 

Project assets
 
$
79,160

 
$
(22,627
)
 
$
56,533

Patents, trade names and purchased technology
 
55,144

 
(54,563
)
 
581

Purchased in-process research and development
 
1,000

 
(28
)
 
972

Customer relationships and other
 
40,525

 
(31,823
)
 
8,702

 
 
$
175,829

 
$
(109,041
)
 
$
66,788


All of the Company's acquired other intangible assets are subject to amortization. Aggregate amortization expense for other intangible assets totaled $6.7 million and $20.6 million in the three and nine months ended October 2, 2011, respectively, and $11.6 million and $28.0 million in the three and nine months ended October 3, 2010, respectively.

The Company reviews intangible assets for impairment whenever events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. During the three months ended October 2, 2011, the Company determined the carrying value of certain intangible assets related to strategic acquisitions of EPC and O&M project pipelines in Europe were no longer recoverable and recognized an impairment loss of $40.3 million during the three and nine months ended October 2, 2011. The Company determined that the carrying value of the intangible assets was not recoverable as the carrying value of the asset group which contained the intangible assets exceeded the undiscounted cash flows of the asset group for a period of time commensurate with the remaining useful life of the primary asset of the group plus a salvage value of the asset group at the end of this period. The impairment loss was calculated by comparing the fair value of the intangible assets to their carrying value. In calculating the fair value of the intangible assets, the Company utilized discounted cash flow assumptions related to the acquired EPC and O&M project pipelines in Europe. The significant decline in fair value of the intangible assets was primarily attributable to the change in government incentives in Europe.

As of October 2, 2011, the estimated future amortization expense related to other intangible assets is as follows:

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Index

 
(In thousands)
 
Amount
Year
 
 
2011 (remaining three months)
 
$
1,054

2012
 
4,109

2013
 
272

2014
 
167

2015
 
167

Thereafter
 
138

 
 
$
5,907

 

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Note 5. BALANCE SHEET COMPONENTS
 
 
As of
(In thousands)
 
October 2, 2011
 
January 2, 2011
Accounts receivable, net:
 
 
 
 
Accounts receivable, gross
 
$
452,672

 
$
389,554

Less: allowance for doubtful accounts
 
(12,143
)
 
(5,967
)
Less: allowance for sales returns
 
(2,438
)
 
(2,387
)
 
 
$
438,091

 
$
381,200

Inventories:
 
 
 
 
Raw materials
 
$
75,269

 
$
70,683

Work-in-process
 
50,903

 
35,658

Finished goods
 
299,061

 
207,057

 
 
$
425,233

 
$
313,398

Prepaid expenses and other current assets:
 
 
 
 
VAT receivables, current portion
 
$
38,249

 
$
26,500

Foreign currency derivatives
 
79,464

 
35,954

Income tax receivable
 
8,953

 
1,513

Deferred project costs
 
75,346

 
934

Other current assets
 
6,137

 
13,605

Other receivables (1)
 
116,092

 
83,712

Other prepaid expenses
 
29,845

 
30,716

 
 
$
354,086

 
$
192,934


(1)
Includes tolling agreements with suppliers in which the Company provides polysilicon required for silicon ingot manufacturing and procures the manufactured silicon ingots from the suppliers (see Notes 8 and 9).

Project assets - plants and land:
 
 
 
 
Project assets - plants
 
$
13,038

 
$
28,784

Project assets - land
 
54,835

 
17,322

 
 
$
67,873

 
$
46,106

Project assets - plants and land, current portion
 
$
34,426

 
$
23,868

Project assets - plants and land, net of current portion
 
$
33,447

 
$
22,238


Property, plant and equipment, net:
 
 
 
 
Land and buildings
 
$
13,912

 
$
13,912

Leasehold improvements
 
239,079

 
207,248

Manufacturing equipment (2)
 
578,511

 
551,815

Computer equipment
 
57,203

 
46,603

Solar power systems
 
11,621

 
10,614

Furniture and fixtures
 
7,053

 
5,555

Construction-in-process
 
39,838

 
28,308

 
 
947,217

 
864,055

Less: accumulated depreciation (3)
 
(362,195
)
 
(285,435
)
 
 
$
585,022

 
$
578,620


(2)
Certain manufacturing equipment associated with solar cell manufacturing lines located at one of the Company’s facilities in the Philippines is collateralized in favor of a third-party lender. The Company also provided security for advance payments received from a third party in fiscal 2008 in the form of collateralized manufacturing equipment with a net book value of $22.6 million and $28.3 million as of October 2, 2011 and January 2, 2011, respectively.


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(3)
Total depreciation expense was $30.3 million and $84.0 million for the three and nine months ended October 2, 2011, respectively, and $26.4 million and $75.7 million for the three and nine months ended October 3, 2010, respectively.
    
 
 
As of
(In thousands)
 
October 2, 2011
 
January 2, 2011
Property, plant and equipment, net by geography (4):
 
 
 
 
Philippines
 
$
474,574

 
$
502,131

North America
 
104,079

 
73,860

Europe
 
6,188

 
2,400

Australia
 
181

 
229

 
 
$
585,022

 
$
578,620


(4)
Property, plant and equipment, net are based on the physical location of the assets.

The below table presents the cash and non-cash interest expense capitalized to property plant and equipment and project assets during the three and nine months ended October 2, 2011 and October 3, 2010, respectively.

 
 
Three Months Ended
 
Nine Months Ended
(In thousands)
 
October 2, 2011
 
October 3, 2010
 
October 2, 2011
 
October 3, 2010
Interest expense:
 
 
 
 
 
 
 
 
Interest cost incurred
 
$
(18,729
)
 
$
(17,827
)
 
$
(52,832
)
 
$
(49,944
)
Cash interest cost capitalized - property, plant and equipment
 
297

 
413

 
1,182

 
1,185

Non-cash interest cost capitalized - property, plant and equipment
 
113

 
657

 
834

 
1,752

Cash interest cost capitalized - project assets - plant and land
 
534

 
790

 
1,140

 
790

Non-cash interest cost capitalized - project assets - plant and land
 
689

 
1,199

 
1,262

 
1,199

Interest expense
 
$
(17,096
)
 
$
(14,768
)
 
$
(48,414
)
 
$
(45,018
)

 
 
As of
(In thousands)
 
October 2, 2011
 
January 2, 2011
Other long-term assets:
 
 
 
 
Investments in joint ventures
 
$
191,644

 
$
116,444

Bond hedge derivative
 
695

 
34,491

Investments in non-public companies
 
6,418

 
6,418

VAT receivables, net of current portion
 
6,254

 
7,002

Long-term debt issuance costs
 
11,221

 
12,241

Other
 
19,365

 
1,698

 
 
$
235,597

 
$
178,294



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Index

 
 
As of
(In thousands)
 
October 2, 2011
 
January 2, 2011
Accrued liabilities:
 
 
 
 
VAT payables
 
$
8,305

 
$
11,699

Foreign currency derivatives
 
33,011

 
10,264

Short-term warranty reserves
 
13,675

 
14,639

Interest payable
 
6,875

 
6,982

Deferred revenue
 
48,674

 
21,972

Employee compensation and employee benefits
 
34,603

 
33,227

Restructuring liability
 
9,686

 

Other
 
57,816

 
38,921

 
 
$
212,645

 
$
137,704

 
 
 

 
 

Other long-term liabilities:
 
 

 
 

Embedded conversion option derivatives
 
$
711

 
$
34,839

Long-term warranty reserves
 
69,990

 
48,923

Unrecognized tax benefits
 
27,134

 
24,894

Other
 
29,555

 
22,476

 
 
$
127,390

 
$
131,132


Note 6. INVESTMENTS

The Company's investments in money market funds and debt securities, classified as available-for-sale, are carried at fair value. Debt securities that are classified as held-to-maturity are carried at amortized costs. Fair values are determined based on a hierarchy that prioritizes the inputs to valuation techniques by assigning the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities ("Level 1") and the lowest priority to unobservable inputs ("Level 3"). Level 2 measurements are inputs that are observable for assets or liabilities, either directly or indirectly, other than quoted prices included within Level 1.

The following tables present information about the Company's investments in money market funds and debt securities, classified as available-for-sale, that are measured at fair value on a recurring basis and indicate the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value. Information about the Company's convertible debenture derivatives measured at fair value on a recurring basis is disclosed in Note 10. Information about the Company's foreign currency derivatives measured at fair value on a recurring basis is disclosed in Note 12. The Company did not have any nonfinancial assets or liabilities that were recognized or disclosed at fair value on a recurring basis in its condensed consolidated financial statements.

 
 
October 2, 2011
 
January 2, 2011
(In thousands)
 
Level 1
 
Level 2
 
Level 3
 
Total
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Money market funds
 
$
71,553

 
$

 
$

 
$
71,553

 
$
488,626

 
$

 
$
172

 
$
488,798

Debt securities
 

 

 

 

 

 
38,548

 

 
38,548

 
 
$
71,553

 
$

 
$

 
$
71,553

 
$
488,626

 
$
38,548

 
$
172

 
$
527,346


There were no transfers between Level 1, Level 2 and Level 3 measurements during the three and nine months ended October 2, 2011.

Money Market Funds

The majority of the Company's money market fund instruments are classified within Level 1 of the fair value hierarchy because they are valued using quoted prices for identical instruments in active markets. Investments in money market funds utilizing Level 3 inputs consisted of the Company's investment in the Reserve International Liquidity Fund which amounted to $0.2 million as of January 2, 2011. The Company had estimated the value of its investment in the Reserve International

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Liquidity Fund to be $0.2 million based on information publicly disclosed by the Reserve International Liquidity Fund relative to its holdings and remaining obligations. On March 3, 2011, the Company recovered $0.3 million from the Reserve International Liquidity Fund. The recovery was $0.1 million in excess of the recorded fair value and was reflected as a gain within "Other, net" in the Condensed Consolidated Statement of Operations for the nine months ended October 2, 2011. The Company had no remaining investments with Level 2 or Level 3 measurements as of October 2, 2011.

Debt Securities

Investments in debt securities classified as held-to-maturity as of October 2, 2011 consist of Philippine government bonds purchased in the third quarter of fiscal 2011 which are maintained as collateral for present and future business transactions within the country. These bonds have maturity dates of up to 5 years and are classified as "Restricted long term investments" on the Company's Condensed Consolidated Balance Sheets. The Company records such held-to-maturity investments at amortized cost based on its ability and intent to hold the securities until maturity. The Company monitors for changes in circumstances and events which would impact its ability and intent to hold such securities until the recorded amortized cost is recovered. The Company incurred no other-than-temporary impairment loss in the three and nine months ended October 2, 2011.

Investments in debt securities classified as available-for-sale, utilizing Level 2 inputs, as of January 2, 2011 consisted of bonds purchased in the fourth quarter of fiscal 2010. The bonds were guaranteed by the Italian government. The Company based its valuation of these bonds on movements of Italian sovereign bond rates since the time of purchase and incurred no other-than-temporary impairment loss in the three and nine months ended October 2, 2011. This valuation is corroborated by comparison to third-party financial institution valuations. The fair value of the Company's investments in bonds totaled €29.5 million as of January 2, 2011. On May 23, 2011, the bonds were sold for net proceeds of €29.3 million which was €0.2 million below the recorded fair value of €29.5 million on the sale date. The €0.2 million difference was reflected as a loss within "Other, net" in the Condensed Consolidated Statement of Operations for the nine months ended October 2, 2011.

Available-for-Sale Securities

Available-for-sale securities are comprised of the fair value of the Company's debt securities, including any other-than temporary impairment loss incurred. The classification of available-for-sale securities and cash and cash equivalents is as follows:
 
 
October 2, 2011
 
January 2, 2011
(In thousands)
 
Available-For-Sale
 
Cash and Cash Equivalents (2)
 
Total
 
Available-For-Sale
 
Cash and Cash Equivalents (2)
 
Total
Cash and cash equivalents
 
$

 
$
374,562

 
$
374,562

 
$

 
$
605,420

 
$
605,420

Short-term restricted cash and cash equivalents (1)
 

 
2,871

 
2,871

 

 
117,462

 
117,462

Short-term investments
 

 

 

 
38,548

 
172

 
38,720

Long-term restricted cash and cash equivalents (1)
 

 
223,639

 
223,639

 

 
138,837

 
138,837

 
 
$

 
$
601,072

 
$
601,072

 
$
38,548

 
$
861,891

 
$
900,439


(1)
Details regarding the Company's cash in restricted accounts are contained in the Company's annual consolidated financial statements and notes thereto for the year ended January 2, 2011 included in the fiscal 2010 Form 10-K.

(2)
Includes money market funds.

Minority Investments in Joint Ventures and Other Non-Public Companies

The Company holds minority investments in joint ventures and other non-public companies comprised of convertible promissory notes, common and preferred stock. The Company monitors these minority investments for impairment, which are included in "Prepaid expenses and other current assets" and “Other long-term assets” in its Condensed Consolidated Balance Sheets, and records reductions in the carrying values when necessary. Circumstances that indicate an other-than-temporary decline include the valuation ascribed to the issuing company in subsequent financing rounds, decreases in quoted market prices and declines in operations of the issuer. As of October 2, 2011 and January 2, 2011, the Company had $191.6 million and

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Index

$116.4 million, respectively, in investments in joint ventures accounted for under the equity method and $12.1 million and $16.4 million, respectively, in investments accounted for under the cost method (see Note 5 and Note 9).

Note 7. RESTRUCTURING

In response to reductions in European government incentives, primarily in Italy, which have had a significant impact on the global solar market, on June 13, 2011, the Company's Board of Directors approved a restructuring plan to realign the Company's resources. The restructuring plan eliminates approximately 85 positions, or 2% of the Company's workforce, in addition to the consolidation or closure of certain facilities in Europe. The Company expects to record restructuring charges of up to $22.0 million, related to the UPP Segment, in the twelve months following the approval and implementation of the plan, of which $0.6 million and $13.9 million has been recognized in the three and nine months ending October 2, 2011, respectively. The Company expects greater than 90% of restructuring related charges to be cash.

Restructuring charges recognized during the three and nine months ended October 2, 2011 in the Condensed Consolidated Statements of Operations consisted of zero and $12.3 million, respectively, of employee severance, benefits and accelerated vesting of promissory notes, zero and $0.7 million, respectively, of lease and related termination costs, and $0.6 million and $0.9 million, respectively, of legal and other related charges.

As of October 2, 2011, $9.7 million associated with the restructuring was recorded in "Accrued liabilities" on the Company's Condensed Consolidated Balance Sheet. The following tables summarize the restructuring reserve activity during the three and nine months ended October 2, 2011:

 
 
Nine Months Ended
(In thousands)
 
Severance Benefits
(1)
 
Lease and Related Termination Costs
 
Other Costs (2)
 
Total
Accrued liability as of January 2, 2011
 
$

 
$

 
$

 
$

Charges
 
10,911

 
713

 
320

 
11,944

Payments
 
(905
)
 

 

 
(905
)
Accrued liability as of July 3, 2011
 
$
10,006

 
$
713

 
$
320

 
$
11,039

Charges
 
$

 
$

 
$
637

 
$
637

Payments
 
$
(1,454
)
 
$

 
$
(536
)
 
$
(1,990
)
Accrued liability as of October 2, 2011
 
$
8,552

 
$
713

 
$
421

 
$
9,686


(1)
Restructuring reserve charges above exclude $1.4 million of charges associated with the accelerated vesting of promissory notes, in accordance with the terms of each agreement, previously issued as consideration for an acquisition completed in the first quarter of fiscal 2010. The $1.4 million charge is separately in "Accrued liabilities" on the Company's Balance Sheet as October 2, 2011, and in "Restructuring charges" on the Company's Condensed Consolidated Statement of Operations for the nine months ended October 2, 2011.

(2)
Other costs primarily represent associated legal services.

Note 8. COMMITMENTS AND CONTINGENCIES

Operating Lease Commitments

The Company leased its San Jose, California facility under a non-cancellable operating lease from Cypress Semiconductor Corporation ("Cypress") which expired in May 2011. In May 2011 the Company moved to new offices in San Jose, California under a non-cancellable operating lease from an unaffiliated third party through April 2021. In addition, the Company leases its Richmond, California facility under a non-cancellable operating lease from an unaffiliated third party, which expires in December 2018. The Company also has various lease arrangements, including for its European headquarters located in Geneva, Switzerland under a lease that expires in September 2012, as well as sales and support offices in Southern California, New Jersey, Oregon, Australia, England, France, Germany, Greece, Israel, Italy, Malta, Spain and South Korea, all of which are leased from unaffiliated third parties. In addition, in the first quarter of fiscal 2010, the Company acquired a lease arrangement in London, England, which was leased from a party affiliated with the Company and expired on August 7, 2011.

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Index

In August 2011, the Company entered into a non-cancellable operating lease agreement for its solar module facility in Mexicali, Mexico from an unaffiliated third party through August 2021.

In fiscal 2009, the Company signed a commercial project financing agreement with Wells Fargo to fund up to $100 million of commercial-scale solar power system projects through December 31, 2010. On July 16, 2011, the Company and Wells Fargo amended the agreement to extend through June 30, 2012. As of October 2, 2011, the Company leases six solar power systems from Wells Fargo over minimum lease terms of up to 20 years that it had previously sold to Wells Fargo, of which two of these sales occurred during the nine months ended October 2, 2011. Separately, the Company entered into power purchase agreements ("PPAs") with end customers, who host the leased solar power systems and buy the electricity directly from the Company under PPAs with a duration of up to 20 years. At the end of the lease term, the Company has the option to purchase the systems at fair value or remove the systems. The deferred profit on the sale of the systems to Wells Fargo is recognized over the minimum term of the lease.

Future minimum obligations under all non-cancellable operating leases as of October 2, 2011 are as follows:
(In thousands)
 
Amount
Year
 
 
2011 (remaining three months)
 
$
4,125

2012
 
13,323

2013
 
12,935

2014
 
11,516

2015
 
10,100

Thereafter
 
51,265

 
 
$
103,264


Purchase Commitments
 
The Company purchases raw materials for inventory and manufacturing equipment from a variety of vendors. During the normal course of business, in order to manage manufacturing lead times and help assure adequate supply, the Company enters into agreements with contract manufacturers and suppliers that either allow them to procure goods and services based on specifications defined by the Company, or that establish parameters defining the Company's requirements. In certain instances, these agreements allow the Company the option to cancel, reschedule or adjust the Company's requirements based on its business needs prior to firm orders being placed. Consequently, only a portion of the Company's disclosed purchase commitments arising from these agreements are firm, non-cancellable and unconditional commitments.

The Company also has agreements with several suppliers, including some of its non-consolidated joint ventures, for the procurement of polysilicon, ingots, wafers, solar cells, solar panels and Solar Renewable Energy Credits which specify future quantities and pricing of products to be supplied by the vendors for periods up to 10 years and provide for certain consequences, such as forfeiture of advanced deposits and liquidated damages relating to previous purchases, in the event that the Company terminates the arrangements. Where pricing is specified for future periods, in some contracts, the Company may reduce its purchase commitment under the contract if the Company obtains a bona fide third party offer at a price that is a certain percentage lower than the applicable purchase price in the existing contract. If market prices decrease, the Company intends to use such provisions to either move its purchasing to another supplier or to force the initial supplier to reduce its price to remain competitive with market pricing.

As of October 2, 2011, total obligations related to non-cancellable purchase orders totaled $0.2 billion and long-term supply agreements with suppliers totaled $4.6 billion. Of the total future purchase commitments of $4.8 billion as of October 2, 2011, $2.0 billion are for commitments to its non-consolidated joint ventures. Future purchase obligations under non-cancellable purchase orders and long-term supply agreements as of October 2, 2011 are as follows:

18

Index

(In thousands)
 
Amount
Year
 
 
2011 (remaining three months)
 
$
499,777

2012
 
515,957

2013
 
585,552

2014
 
781,316

2015
 
839,685

Thereafter
 
1,548,809

 
 
$
4,771,096


Total future purchase commitments of $4.8 billion as of October 2, 2011 included tolling agreements with suppliers in which the Company provides polysilicon required for silicon ingot manufacturing and procures the manufactured silicon ingots from the supplier. Annual future purchase commitments in the table above are calculated using the gross price paid by the Company for silicon ingots and are not reduced by the price paid by suppliers for polysilicon. Total future purchase commitments as of October 2, 2011 would be reduced by $1.4 billion to $3.4 billion had the Company's obligations under such tolling agreements been disclosed using net cash outflows.

The Company expects that all obligations related to non-cancellable purchase orders for manufacturing equipment will be recovered through future cash flows of the solar cell manufacturing lines and solar panel assembly lines when such long-lived assets are placed in service. Factors considered important that could result in an impairment review include significant underperformance relative to expected historical or projected future operating results, significant changes in the manner of use of acquired assets and significant negative industry or economic trends. Obligations related to non-cancellable purchase orders for inventories match current and forecasted sales orders that will consume these ordered materials and actual consumption of these ordered materials are compared to expected demand regularly. The Company anticipates total obligations related to long-term supply agreements for inventories will be recovered because quantities are less than management's expected demand for its solar power products. However, the terms of the long-term supply agreements are reviewed by management and the Company establishes accruals for estimated losses on adverse purchase commitments as necessary, such as lower of cost or market value adjustments, forfeiture of advanced deposits and liquidated damages. Such accruals will be recorded when the Company determines the cost of purchasing the components is higher than the estimated current market value or when it believes it is probable such components will not be utilized in future operations. During the three and nine months ended October 2, 2011, the Company recorded charges amounting to zero and $32.5 million, respectively, related to the write-down of third-party inventory and costs associated with the termination of third-party solar cell supply contracts after reductions in European government incentives drove down demand and average selling price in certain areas of Europe.

Advances to Suppliers

As noted above, the Company has entered into agreements with various polysilicon, ingot, wafer, solar cell and solar panel vendors that specify future quantities and pricing of products to be supplied by the vendors for periods up to 10 years. Certain agreements also provide for penalties or forfeiture of advanced deposits in the event the Company terminates the arrangements. Under certain agreements, the Company is required to make prepayments to the vendors over the terms of the arrangements. During the three and nine months ended October 2, 2011, the Company paid advances totaling zero and $26.9 million, respectively, in accordance with the terms of existing long-term supply agreements. As of October 2, 2011 and January 2, 2011, advances to suppliers totaled $296.5 million and $287.1 million, respectively, the current portion of which is $37.1 million and $31.7 million, respectively. Two suppliers accounted for 76% and 23% of total advances to suppliers as of October 2, 2011, and 83% and 13% as of January 2, 2011.

The Company's future prepayment obligations related to these agreements as of October 2, 2011 are as follows:
(In thousands)
 
Amount
Year
 
 
2011 (remaining three months)
 
$
110,493

2012
 
102,883

2013
 
7,350

 
 
$
220,726


In January 2008, the Company entered into an Option Agreement with NorSun AS ("NorSun"), a manufacturer of silicon

19

Index

ingots and wafers, under which the Company would deliver cash advance payments to NorSun for the purchase of polysilicon under a long-term polysilicon supply agreement. The Company paid a cash advance of $5.0 million to NorSun during the fourth quarter of fiscal 2009. The Option Agreement provided NorSun an option to sell a 23.3% equity interest in a joint venture to the Company at a price equal to the $5.0 million cash advance. On December 3, 2010, NorSun entered into an agreement with a third party to sell its equity interest in the joint venture at cost, including the Company's indirect equity interest of 23.3% at $5.0 million. That agreement became effective in the first quarter of fiscal 2011 and accordingly the Option Agreement was terminated. In connection with the termination of the Option Agreement, on March 31, 2011, the $5.0 million cash advance was returned to the Company.

Product Warranties
 
The Company generally warrants or guarantees the performance of the solar panels that it manufactures at certain levels of power output for 25 years. In addition, the Company passes through to customers long-term warranties from the original equipment manufacturers ("OEM") of certain system components, such as inverters. Warranties of 25 years from solar panels suppliers are standard in the solar industry, while inverters typically carry warranty periods ranging from 5 to 10 years. In addition, the Company generally warrants its workmanship on installed systems for periods ranging up to 10 years. The Company maintains reserves to cover the expected costs that could result from these warranties. The Company's expected costs are generally in the form of product replacement or repair. Warranty reserves are based on the Company's best estimate of such costs and are recognized as a cost of revenue. The Company continuously monitors product returns for warranty failures and maintains a reserve for the related warranty expenses based on various factors including historical warranty claims, results of accelerated lab testing, field monitoring, vendor reliability estimates, and data on industry averages for similar products. Historically, warranty costs have been within management's expectations.

Provisions for warranty reserves charged to cost of revenue were $6.4 million and $24.8 million during the three and nine months ended October 2, 2011, respectively, and $8.6 million and $18.3 million during the three and nine months ended October 3, 2010, respectively. Activity within accrued warranty for the three and nine months ended October 2, 2011 and October 3, 2010 is summarized as follows:
 
 
Three Months Ended
 
Nine Months Ended
(In thousands)
 
October 2, 2011
 
October 3, 2010
 
October 2, 2011
 
October 3, 2010
Balance at the beginning of the period
 
$
79,261

 
$
51,991

 
$
63,562

 
$
46,475

Accruals for warranties issued during the period
 
6,435

 
8,604

 
24,803

 
18,309

Settlements made during the period
 
(2,031
)
 
(1,162
)
 
(4,700
)
 
(5,351
)
Balance at the end of the period
 
$
83,665

 
$
59,433

 
$
83,665

 
$
59,433


Contingent Obligations

Projects often require the Company to undertake customer obligations including: (i) system output performance guarantees; (ii) system maintenance; (iii) penalty payments or customer termination rights if the system the Company is constructing is not commissioned within specified timeframes or other milestones are not achieved; (iv) guarantees of certain minimum residual value of the system at specified future dates; and (v) system put-rights whereby the Company could be required to buy-back a customer's system at fair value on specified future dates if certain minimum performance thresholds are not met. To date, no such repurchase obligations have been required.

Future Financing Commitments

As specified in the Company's joint venture agreement with AU Optronics Singapore Pte. Ltd. ("AUO"), both the Company and AUO contributed certain funding to the AUO SunPower Sdn. Bhd. ("AUOSP") joint venture during fiscal 2010 and the nine months of fiscal 2011. The Company and AUO are required to each contribute additional amounts to the joint venture in fiscal 2012 through 2014 amounting to $241.0 million, or such lesser amount as the parties may mutually agree. In addition, if the Company, AUO, or the joint venture requests additional equity financing to the joint venture, then both the Company and AUO will be required to make additional cash contributions of up to $50.0 million in the aggregate(see Note 9).

On September 28, 2010, the Company invested $0.2 million in a non-public company accounted for under the cost method. The Company will be required to provide additional financing of up to $4.9 million, subject to certain conditions.

The Company's future financing obligations related to these agreements as of October 2, 2011 are as follows:

20

Index

(In thousands)
 
Amount
Year
 
 
2011 (remaining three months)
 
$
900

2012
 
46,870

2013
 
101,400

2014
 
96,770

 
 
$
245,940


Liabilities Associated with Uncertain Tax Positions
 
Total liabilities associated with uncertain tax positions were $27.1 million and $24.9 million as of October 2, 2011 and January 2, 2011, respectively, and are included in "Other long-term liabilities" in the Company's Condensed Consolidated Balance Sheets as they are not expected to be paid within the next twelve months. Due to the complexity and uncertainty associated with its tax positions, the Company cannot make a reasonably reliable estimate of the period in which cash settlement will be made for its liabilities associated with uncertain tax positions in other long-term liabilities (see Note 13).

Indemnifications
 
The Company is a party to a variety of agreements under which it may be obligated to indemnify the other party with respect to certain matters. Typically, these obligations arise in connection with contracts and license agreements or the sale of assets, under which the Company customarily agrees to hold the other party harmless against losses arising from a breach of warranties, representations and covenants related to such matters as title to assets sold, negligent acts, damage to property, validity of certain intellectual property rights, non-infringement of third-party rights and certain tax related matters. In each of these circumstances, payment by the Company is typically subject to the other party making a claim to the Company under the procedures specified in the particular contract. These procedures usually allow the Company to challenge the other party's claims or, in case of breach of intellectual property representations or covenants, to control the defense or settlement of any third party claims brought against the other party. Further, the Company's obligations under these agreements may be limited in terms of activity (typically to replace or correct the products or terminate the agreement with a refund to the other party), duration and/or amounts. In some instances, the Company may have recourse against third parties and/or insurance covering certain payments made by the Company.

Legal Matters

Three securities class action lawsuits were filed against the Company and certain of its current and former officers and directors in the United States District Court for the Northern District of California on behalf of a class consisting of those who acquired the Company's securities from April 17, 2008 through November 16, 2009. The cases were consolidated as In re SunPower Securities Litigation, Case No. CV-09-5473-RS (N.D. Cal.), and lead plaintiffs and lead counsel were appointed on March 5, 2010. Lead plaintiffs filed a consolidated complaint on May 28, 2010. The actions arise from the Audit Committee's investigation announcement on November 16, 2009 regarding certain unsubstantiated accounting entries. The consolidated complaint alleges that the defendants made material misstatements and omissions concerning the Company's financial results for 2008 and 2009, seeks an unspecified amount of damages, and alleges violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, and Sections 11 and 15 of the Securities Act of 1933. The Company believes it has meritorious defenses to these allegations and will vigorously defend itself in these matters. The court held a hearing on the defendants' motions to dismiss the consolidated complaint on November 4, 2010. The court dismissed the consolidated complaint with leave to amend on March 1, 2011. An amended complaint was filed on April 18, 2011. Defendants filed motions to dismiss the amended complaint on May 23, 2011. The motion to dismiss the amended complaint was heard by the court on August 11, 2011, and the court took it under submission. The Company is currently unable to determine if the resolution of these matters will have an adverse effect on the Company's financial position, liquidity or results of operations.

Derivative actions purporting to be brought on the Company's behalf have also been filed in state and federal courts against several of the Company's current and former officers and directors based on the same events alleged in the securities class action lawsuits described above. The California state derivative cases were consolidated as In re SunPower Corp. S'holder Derivative Litig., Lead Case No. 1-09-CV-158522 (Santa Clara Sup. Ct.), and co-lead counsel for plaintiffs have been appointed. The complaints assert state-law claims for breach of fiduciary duty, abuse of control, unjust enrichment, gross mismanagement, and waste of corporate assets. Plaintiffs are scheduled to file a consolidated complaint after entry of an order deciding defendants' motion to dismiss the amended class action complaint. The federal derivative complaints were consolidated as In re SunPower Corp. S'holder Derivative Litig., Master File No. CV-09-05731-RS (N.D. Cal.), and lead

21

Index

plaintiffs and co-lead counsel were appointed on January 4, 2010. The complaints assert state-law claims for breach of fiduciary duty, waste of corporate assets, and unjust enrichment, and seek an unspecified amount of damages. Plaintiffs filed a consolidated complaint on May 13, 2011. A Delaware state derivative case, Brenner v. Albrecht, et al., C.A. No. 6514-VCP (Del Ch.), was filed on May 23, 2011. The complaint asserts state-law claims for breach of fiduciary duty and contribution and indemnification, and seeks an unspecified amount of damages. The Company intends to oppose the derivative plaintiffs' efforts to pursue this litigation on the Company's behalf. Defendants moved to stay or dismiss the Delaware derivative action on July 5, 2011. The motion to stay was heard by the court on October 27, 2011, and the court took it under submission. If the court does not stay the action, a hearing on the motions to dismiss will be scheduled for a later date. The Company is currently unable to determine if the resolution of these matters will have an adverse effect on the Company's financial position, liquidity or results of operations.

The Company is also a party to various other litigation matters and claims that arise from time to time in the ordinary course of its business. While the Company believes that the ultimate outcome of such matters will not have a material adverse effect on the Company, their outcomes are not determinable and negative outcomes may adversely affect the Company's financial position, liquidity or results of operations.

Note 9. JOINT VENTURES

Joint Venture with Woongjin Energy Co., Ltd (“Woongjin Energy”)

The Company and Woongjin Holdings Co., Ltd. (“Woongjin”) formed Woongjin Energy in fiscal 2006, a joint venture to manufacture monocrystalline silicon ingots in Korea. The Company supplies polysilicon, services and technical support required for silicon ingot manufacturing to Woongjin Energy. Once manufactured, the Company purchases the silicon ingots from Woongjin Energy under a nine-year agreement through 2016. There is no obligation or expectation for the Company to provide additional funding to Woongjin Energy.

On June 30, 2010, Woongjin Energy completed its initial public offering ("IPO") and the sale of 15.9 million new shares of common stock. The Company did not participate in this common stock issuance and its percentage equity ownership was subsequently diluted. As a result of the completion of the IPO, the Company concluded that Woongjin Energy is no longer a variable interest entity ("VIE"). During the third quarter of fiscal 2011, the Company sold 2.9 million shares of Woongjin Energy on the open market for total proceeds, net of tax, amounting to $24.0 million subsequently reducing the Company's percentage equity in Woongjin Energy and its investment carrying balance. As of October 2, 2011 and January 2, 2011, the Company held 16.5 million and 19.4 million shares, respectively, or a percentage equity ownership of 27% and 31%, respectively. The market value of the Company's equity interest in Woongjin Energy was $81.3 million on September 30, 2011.

As of October 2, 2011 and January 2, 2011, the Company's carrying value of its investment in Woongjin Energy totaled $74.2 million and $76.6 million, respectively, in its Condensed Consolidated Balance Sheets. The Company accounts for its investment in Woongjin Energy using the equity method under which the investment is classified as “Other long-term assets” in the Condensed Consolidated Balance Sheets and the Company's share of Woongjin Energy's income totaling $3.7 million and $10.4 million in the three and nine months ended October 2, 2011, respectively, and $5.7 million and $10.5 million in the three and nine months ended October 3, 2010, respectively, is included in “Equity in earnings (loss) of unconsolidated investees” in the Condensed Consolidated Statements of Operations. The Company recorded a cash gain of $11.0 million in both the three and nine months ended October 2, 2011 in "Gain on sale of equity interest in unconsolidated investee" in the Company's Condensed Consolidated Statement of Operations as a result of the Company's sale of 2.9 million shares of Woongjin Energy in the third quarter of fiscal 2011, which decreased the Company's equity ownership from 31% to 27%. The Company recorded non-cash gains of zero and $0.3 million in the three and nine months ended October 2, 2011, respectively, and zero and $28.3 million in the three and nine months ended October 3, 2010 in "Gain on change in equity interest in unconsolidated investee" in the Company's Condensed Consolidated Statement of Operations due to its equity interest in Woongjin Energy being diluted as a result of Woongjin Energy's IPO and issuance of additional equity to other investors. As of October 2, 2011, the Company's maximum exposure to loss as a result of its involvement with Woongjin Energy was limited to the carrying value of its investment.

As of October 2, 2011 and January 2, 2011, $21.0 million and $18.4 million, respectively, remained due and receivable from Woongjin Energy related to polysilicon the Company supplied to Woongjin Energy for silicon ingot manufacturing. Payments to Woongjin Energy for manufactured silicon ingots totaled $72.6 million and $165.2 million in the three and nine months ended October 2, 2011, respectively, and $44.7 million and $134.0 million in the three and nine months ended October 3, 2010, respectively. As of October 2, 2011 and January 2, 2011, $54.1 million and $32.6 million, respectively, remained due and payable to Woongjin Energy. In addition, the Company conducted other related-party transactions with Woongjin Energy in the first half of fiscal 2010. The Company recognized revenue related to the sale of solar panels to

22

Index

Woongjin Energy of $0.3 million during each of the three and nine months ended October 3, 2010. As of both October 2, 2011 and January 2, 2011, zero remained due and receivable from Woongjin Energy related to the sale of these solar panels.

Woongjin Energy qualified as a "significant investee" of the Company in fiscal 2009 as defined in SEC Regulation S-X Rule 10-01(b)(1). Summarized financial information adjusted to conform to U.S. GAAP for Woongjin Energy for the nine months ended October 2, 2011 and October 3, 2010 is as follows:
Statement of Operations
 
 
Nine Months Ended
(In thousands)
 
October 2, 2011
 
October 3, 2010
Revenue
 
$
223,748

 
$
91,944

Cost of revenue
 
190,013

 
49,895

Gross margin
 
33,735

 
42,049

Operating income
 
22,039

 
37,194

Net income
 
22,353

 
28,413


Joint Venture with First Philec Solar Corporation (“First Philec Solar”)

The Company and First Philippine Electric Corporation (“First Philec”) formed First Philec Solar in fiscal 2007, a joint venture to provide wafer slicing services of silicon ingots to the Company in the Philippines. The Company supplies to First Philec Solar silicon ingots and technology required for slicing silicon. Once manufactured, the Company purchases the completed silicon wafers from First Philec Solar under a five-year wafering supply and sales agreement through 2013. There is no obligation or expectation for the Company to provide additional funding to First Philec Solar.

As of October 2, 2011 and January 2, 2011, the Company's carrying value of its investment in the joint venture totaled $6.8 million and $6.1 million, respectively, in its Condensed Consolidated Balance Sheets which represented a 15% equity investment in both periods. The Company accounts for its investment in First Philec Solar using the equity method since the Company is able to exercise significant influence over First Philec Solar due to its board positions. The Company's investment is classified as “Other long-term assets” in the Condensed Consolidated Balance Sheets and the Company's share of First Philec Solar's income of zero and $0.7 million in the three and nine months ended October 2, 2011, respectively, and $0.1 million and $0.4 million in the three and nine months ended October 3, 2010, respectively, is included in “Equity in earnings (loss) of unconsolidated investees” in the Condensed Consolidated Statements of Operations. As of October 2, 2011, the Company's maximum exposure to loss as a result of its involvement with First Philec Solar was limited to the carrying value of its investment.

As of October 2, 2011 and January 2, 2011, $8.0 million and $3.3 million, respectively, remained due and receivable from First Philec Solar related to the wafer slicing process of silicon ingots supplied by the Company to First Philec Solar. Payments to First Philec Solar for wafer slicing services of silicon ingots totaled $37.8 million and $102.2 million during the three and nine months ended October 2, 2011, respectively, and $23.4 million and $61.6 million during the three and nine months ended October 3, 2010, respectively. As of October 2, 2011 and January 2, 2011, $13.3 million and $9.0 million, respectively, remained due and payable to First Philec Solar related to the purchase of silicon wafers.

The Company has concluded that it is not the primary beneficiary of First Philec Solar since, although the Company and First Philec are both obligated to absorb losses or have the right to receive benefits from First Philec Solar that are significant to First Philec Solar, such variable interests held by the Company do not empower it to direct the activities that most significantly impact First Philec Solar's economic performance. In reaching this determination, the Company considered the significant control exercised by First Philec over the joint venture's Board of Directors, management and daily operations.

Joint Venture with AUOSP

The Company, through its subsidiaries SunPower Technology, Ltd. (“SPTL") and AUOSP, formerly SunPower Malaysia Manufacturing Sdn. Bhd., formed AUOSP with AUO and AU Optronics Corporation, the ultimate parent company of AUO (“AUO Taiwan”) in the third quarter of fiscal 2010. The Company, through SPTL, and AUO each own 50% of the joint venture AUOSP. AUOSP owns a solar cell manufacturing facility ("FAB 3") in Malaysia and manufactures solar cells and sells them on a “cost-plus” basis to the Company and AUO.

In connection with the joint venture agreement, the Company and AUO also entered into licensing and joint

23

Index

development, supply, and other ancillary transaction agreements. Through the licensing agreement, SPTL and AUO licensed to AUOSP, on a non-exclusive, royalty-free basis, certain background intellectual property related to solar cell manufacturing (in the case of SPTL), and manufacturing processes (in the case of AUO). Under the seven-year supply agreement with AUOSP, renewable by the Company for one-year periods thereafter, the percentage of AUOSP's total annual output allocated on a monthly basis to the Company, which the Company is committed to purchase, ranges from 95% in the fourth quarter of fiscal 2010 to 80% in fiscal year 2013 and thereafter. The Company and AUO have the right to reallocate supplies from time to time under a written agreement. As required under the joint venture agreement, on November 5, 2010, the Company and AUOSP entered into an agreement under which the Company will resell to AUOSP polysilicon purchased from a third-party supplier and AUOSP will provide prepayments to the Company related to such polysilicon, which prepayment will then be made by the Company to the third-party supplier.

The Company and AUO are not permitted to transfer any of AUOSP's shares held by them, except to each other and to their direct or indirect wholly-owned subsidiaries. During the second half of fiscal 2010, the Company, through SPTL, and AUO each contributed total initial funding of $27.9 million. Both the Company and AUO each contributed an additional $30.0 million and $80.0 million during the three and nine months ended October 2, 2011, respectively, and will each contribute additional amounts through 2014 amounting to $241.0 million, or such lesser amount as the parties may mutually agree. In addition, if AUOSP, SPTL or AUO requests additional equity financing to AUOSP, then SPTL and AUO will each be required to make additional cash contributions of up to $50.0 million in the aggregate (See Note 8).

The Company has concluded that it is not the primary beneficiary of AUOSP since, although the Company and AUO are both obligated to absorb losses or have the right to receive benefits, the Company alone does not have the power to direct the activities of AUOSP that most significantly impact its economic performance. In making this determination the Company considered the shared power arrangement, including equal board governance for significant decisions, elective appointment, and the fact that both parties contribute to the activities that most significantly impact the joint venture's economic performance. As a result of the shared power arrangement the Company deconsolidated AUOSP in the third quarter of fiscal 2010 and accounts for its investment in the joint venture under the equity method. The Company recognized a non-cash gain of $23.0 million as a result of deconsolidating the carrying value of AUOSP as of July 5, 2010. Under the deconsolidation accounting guidelines, an investor's opening investment is recorded at fair value on the date of deconsolidation. The Company recognized an additional non-cash gain of $13.8 million representing the difference between the initial fair value of the investment and its carrying value. The total non-cash gain of $36.8 million upon deconsolidation is classified as "Other income" in both the three and nine months ended October 3, 2010 within the Company's Condensed Consolidated Statements of Operations.

As of October 2, 2011 and January 2, 2011, the Company's carrying value of its investment (which represents its 50% equity investment) totaled $110.6 million and $33.7 million, respectively, in its Condensed Consolidated Balance Sheets. The Company accounts for its investment in AUOSP using the equity method in which the investment is classified as “Other long-term assets” in the Condensed Consolidated Balance Sheets. The Company's share of AUOSP's net loss for the three and nine months ended October 2, 2011 totaled $2.7 million and $3.1 million, respectively, which is included in “Equity in earnings (loss) of unconsolidated investees” in the Condensed Consolidated Statement of Operations. The Company accounts for its share of AUOSP's net loss with a quarterly lag in reporting.

As of October 2, 2011 and January 2, 2011, $64.5 million and $6.0 million, respectively, remained due and payable to AUOSP and $51.6 million and $7.5 million, respectively, remained due and receivable from AUOSP. Payments to AUOSP for solar cells totaled $44.0 million and $114.7 million during the three and nine months ended October 2, 2011, respectively. As of October 2, 2011, the Company's maximum exposure to loss as a result of its involvement with AUOSP is limited to the carrying value of its investment.
 
Note 10. DEBT AND CREDIT SOURCES

The following table summarizes the Company's outstanding debt as of October 2, 2011 and the related maturity dates:

24

Index

 
 
 
 
Payments Due by Period
(In thousands)
 
Face Value
 
2011
(remaining
three months)
 
2012
 
2013
 
2014
 
2015
 
Beyond
2015
Convertible debt:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
4.50% debentures
 
$
250,000

 
$

 
$

 
$

 
$

 
$
250,000

 
$

4.75% debentures
 
230,000

 

 

 

 
230,000

 

 

1.25% debentures
 
198,608

 

 
198,608

 

 

 

 

0.75% debentures
 
79

 

 

 

 

 
79

 

IFC mortgage loan
 
75,000

 

 

 
12,500

 
15,000

 
15,000

 
32,500

CEDA loan
 
30,000

 

 

 

 

 

 
30,000

Credit Agricole revolving credit facility
 
250,000

 
$

 

 
250,000

 

 

 

 
 
$
1,033,687

 
$

 
$
198,608

 
$
262,500

 
$
245,000

 
$
265,079

 
$
62,500


Convertible Debt

The following table summarizes the Company's outstanding convertible debt (which is additionally reflected in the table above):
 
 
October 2, 2011
 
January 2, 2011
(In thousands)
 
Carrying Value
 
Face Value
 
Fair Value (1)
 
Carrying Value
 
Face Value
 
Fair Value (1)
4.50% debentures
 
$
189,646

 
$
250,000

 
$
215,425

 
$
179,821

 
$
250,000

 
$
230,172

4.75% debentures
 
230,000

 
230,000

 
197,800

 
230,000

 
230,000

 
215,050

1.25% debentures (2)
 
192,913

 
198,608

 
196,622

 
182,023

 
198,608

 
188,429

0.75% debentures
 
79

 
79

 
79

 
79

 
79

 
75

 
 
$
612,638

 
$
678,687

 
$
609,926

 
$
591,923

 
$
678,687

 
$
633,726


(1)
The fair value of the convertible debt was determined based on quoted market prices as reported by an independent pricing source.

(2)
The carrying value of the 1.25% senior convertible debentures ("1.25% debentures") was reclassified from long-term liabilities to short-term liabilities within "Convertible debt, current portion" in the Condensed Consolidated Balance Sheet as of October 2, 2011 as the holders may require the Company to repurchase all of their 1.25% debentures on February 15, 2012.

4.50% Debentures

On April 1, 2010, the Company issued $220.0 million in principal amount of its 4.50% senior cash convertible debentures (“4.50% debentures”). On April 5, 2010, initial purchasers of the 4.50% debentures exercised the $30.0 million over-allotment option in full. Interest is payable semi-annually, on March 15 and September 15 of each year, at a rate of 4.50% per annum. The 4.50% debentures mature on March 15, 2015 unless repurchased or converted in accordance with their terms prior to such date. The 4.50% debentures are convertible only into cash, and not into shares of the Company's class A common stock (or any other securities).

The embedded cash conversion option within the 4.50% debentures and the over-allotment option related to the 4.50% debentures are derivative instruments that are required to be separated from the 4.50% debentures and accounted for separately as derivative instruments (derivative liabilities) with changes in fair value reported in the Company's Condensed Consolidated Statements of Operations until such transactions settle or expire. The over-allotment option was settled on April 5, 2010, however, the embedded cash conversion option continues to require mark-to-market accounting treatment. The initial fair value liabilities of the embedded cash conversion option and over-allotment option were classified within “Other long-term liabilities” and simultaneously reduced the carrying value of “Convertible debt, net of current portion” in the Company's

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Condensed Consolidated Balance Sheets.
 
During the three and nine months ended October 2, 2011, the Company recognized a non-cash gain of $65.8 million and $34.2 million, respectively, recorded in “Gain (loss) on mark-to-market derivatives” in the Company's Condensed Consolidated Statement of Operations related to the change in fair value of the embedded cash conversion option. During the three and nine months ended October 3, 2010, the Company recognized a non-cash loss of $4.0 million and $34.9 million, respectively, recorded in “Gain (loss) on mark-to-market derivatives” in the Company's Condensed Consolidated Statement of Operations related to the change in fair value of the embedded cash conversion option and over-allotment option. The fair value liability of the embedded cash conversion option as of October 2, 2011 and January 2, 2011 totaled $0.7 million and $34.8 million, respectively, and is classified within “Other long-term liabilities” in the Company's Condensed Consolidated Balance Sheets.

The embedded cash conversion option is fair valued utilizing Level 2 inputs consisting of the exercise price of the instrument, the Company's class A common stock price and volatility, the risk free interest rate and the contractual term. Such derivative instruments are not traded on an open market as the banks are the counterparties to the instruments.

Significant inputs for the valuation of the embedded cash conversion option are as follows:

 
As of (1)
 
October 2, 2011
 
January 2, 2011
Stock price
$
8.09

 
$
12.83

Exercise price
$
22.53

 
$
22.53

Interest rate
0.86
%
 
1.63
%
Stock volatility
27.70
%
 
49.80
%
Maturity date
February 18, 2015

 
February 18, 2015


(1)
The valuation model utilizes these inputs to value the right but not the obligation to purchase one share at $22.53. The Company utilized a Black-Scholes valuation model to value the embedded cash conversion option. The underlying input assumptions were determined as follows:
(i)
Stock price. The closing price of the Company's class A common stock on the last trading day of the quarter.
(ii)
Exercise price. The exercise price of the embedded conversion option.
(iii)
Interest rate. The Treasury Strip rate associated with the life of the embedded conversion option.
(iv)
Stock volatility. The volatility of the Company's class A common stock over the life of the embedded conversion option.

Call Spread Overlay with Respect to 4.50% Debentures (“CSO2015”)

Concurrent with the issuance of the 4.50% debentures, the Company entered into privately negotiated convertible debenture hedge transactions (collectively, the "4.50% Bond Hedge") and warrant transactions (collectively, the "4.50% Warrants" and together with the 4.50% Bond Hedge, the “CSO2015”), with certain of the initial purchasers of the 4.50% cash convertible debentures or their affiliates. The CSO2015 transactions represent a call spread overlay with respect to the 4.50% debentures, whereby the cost of the 4.50% Bond Hedge purchased by the Company to cover the cash outlay upon conversion of the debentures is reduced by the sales prices of the 4.50% Warrants. Assuming full performance by the counterparties (and 4.50% Warrants strike prices in excess of the conversion price of the 4.50% debentures), the transactions effectively reduce the Company's potential payout over the principal amount on the 4.50% debentures upon conversion of the 4.50% debentures.

Under the terms of the 4.50% Bond Hedge, the Company bought from affiliates of certain of the initial purchasers options to acquire, at an exercise price of $22.53 per share, subject to customary adjustments for anti-dilution and other events, cash in an amount equal to the market value of up to 11.1 million shares of the Company's class A common stock. Under the terms of the original 4.50% Warrants, the Company sold to affiliates of certain of the initial purchasers of the 4.50% cash convertible debentures warrants to acquire, at an exercise price of $27.03 per share (subject to customary adjustments for anti-dilution and other events), cash in an amount equal to the market value of up to 11.1 million shares of the Company's class A common stock. Each 4.50% Bond Hedge and 4.50% Warrant transaction is a separate transaction, entered into by the Company with each counterparty, and is not part of the terms of the 4.50% debentures. On December 23, 2010, the Company amended and restated the original 4.50% Warrants so that the holders would, upon exercise of the 4.50% Warrants, no longer receive cash but instead would acquire up to 11.1 million shares of the Company's class A common stock. According to the

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counterparties to the warrants, the consummation of the Total Tender Offer triggered their rights to make a downward adjustment to the strike price of the warrants. In the third quarter of fiscal 2011, the Company and the counter parties to the 4.50% Warrants agreed to reduce the exercise price of the 4.50% Warrants from $27.03 to $24.00.

The 4.50% Bond Hedge, which is indexed to the Company's class A common stock, is a derivative instrument that requires mark-to-market accounting treatment due to the cash settlement features until such transactions settle or expire. Similarly, the original 4.50% Warrants was a derivative instrument that required mark-to-market accounting treatment through December 23, 2010. The initial fair value of the 4.50% Bond Hedge was classified as “Other long-term assets” in the Company's Condensed Consolidated Balance Sheets.

The fair value of the 4.50% Bond Hedge as of October 2, 2011 and January 2, 2011 totaled $0.7 million and $34.5 million, respectively, and is classified within "Other long-term assets" in the Company's Condensed Consolidated Balance Sheets. During the three and nine months ended October 2, 2011, the Company recognized a non-cash loss of $65.3 million and $33.8 million, respectively, in “Gain (loss) on mark-to-market derivatives” in the Company's Condensed Consolidated Statement of Operations related to the change in fair value of the 4.50% Bond Hedge. During the three and nine months ended October 3, 2010, the change in fair value of the original CSO2015 resulted in a mark-to-market non-cash gain of $1.0 million and a net non-cash loss of $6.0 million, respectively, in “Gain (loss) on mark-to-market derivatives” in the Company's Condensed Consolidated Statement of Operations.

The 4.50% Bond Hedge derivative instruments are fair valued utilizing Level 2 inputs consisting of the exercise price of the instruments, the Company's class A stock price and volatility, the risk free interest rate and the contractual term. Such derivative instruments are not traded on an open market. Valuation techniques utilize the inputs described above in addition to liquidity and institutional credit risk inputs.

Significant inputs for the valuation of the 4.50% Bond Hedge at the measurement date are as follows:

 
As of (1)
 
October 2, 2011
 
January 2, 2011
Stock price
$
8.09

 
$
12.83

Exercise price
$
22.53

 
$
22.53

Interest rate
0.86
%
 
1.63
%
Stock volatility
27.70
%
 
49.80
%
Credit risk adjustment
2.29
%
 
1.25
%
Maturity date
February 18, 2015

 
February 18, 2015


(1)
The valuation model utilizes these inputs to value the right but not the obligation to purchase one share at $22.53 for the 4.50% Bond Hedge. The Company utilized a Black-Scholes valuation model to value the 4.50% Bond Hedge. The underlying input assumptions were determined as follows:
(i)
Stock price. The closing price of the Company's class A common stock on the last trading day of the quarter.
(ii)
Exercise price. The exercise price of the 4.50% Bond Hedge.
(iii)
Interest rate. The Treasury Strip rate associated with the life of the 4.50% Bond Hedge.
(iv)
Stock volatility. The volatility of the Company's class A common stock over the life of the 4.50% Bond Hedge.
(v)
Credit risk adjustment. Represents the weighted average of the credit default swap rate of the counterparties.

4.75% Debentures

In May 2009, the Company issued $230.0 million in principal amount of its 4.75% senior convertible debentures (“4.75% debentures”), before payment of the net cost for the call spread overlay described below. Interest on the 4.75% debentures is payable on April 15 and October 15 of each year. Holders of the 4.75% debentures are able to exercise their right to convert the debentures at any time into shares of the Company's class A common stock at a conversion price equal to $26.40 per share. The applicable conversion rate may adjust in certain circumstances, including upon a fundamental change, as described in the indenture governing the 4.75% debentures. If not earlier converted, the 4.75% debentures mature on April 15, 2014. Holders may also require the Company to repurchase all or a portion of their 4.75% debentures upon a fundamental change at a cash repurchase price equal to 100% of the principal amount plus accrued and unpaid interest. In the event of

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certain events of default, such as the Company's failure to make certain payments or perform or observe certain obligations thereunder, Wells Fargo, the trustee, or holders of a specified amount of then-outstanding 4.75% debentures will have the right to declare all amounts then outstanding due and payable.

Call Spread Overlay with Respect to 4.75% Debentures (“CSO2014”)

Concurrent with the issuance of the 4.75% debentures, the Company entered into certain convertible debenture hedge transactions (the “4.75% Bond Hedge”) and warrant transactions (the "4.75% Warrants") with affiliates of certain of the underwriters of the 4.75% debentures. The 4.75% Bond Hedge and the 4.75% Warrants described below represent a call spread overlay with respect to the 4.75% debentures (the "CSO2014"), whereby the cost of the 4.75% Bond Hedges purchased by the Company to cover the potential share outlays upon conversion of the debentures is reduced by the sales prices of the 4.75% Warrants).

The 4.75% Bond Hedge allows the Company to purchase up to 8.7 million shares of the Company's class A common stock and are intended to reduce the potential dilution upon conversion of the 4.75% debentures in the event that the market price per share of the Company's class A common stock at the time of exercise is greater than the conversion price of the 4.75% debentures. The 4.75% Bond Hedge will be settled on a net share basis. Each 4.75% Bond Hedge and 4.75% Warrant is a separate transaction, entered into by the Company with each counterparty, and is not part of the terms of the 4.75% debentures. Holders of the 4.75% debentures do not have any rights with respect to the 4.75% Bond Hedges and 4.75% Warrants. The original exercise prices of the 4.75% Bond Hedge are $26.40 per share of the Company's class A common stock, subject to customary adjustment for anti-dilution and other events.

Under the 4.75% Warrants, the Company sold warrants to acquire up to 8.7 million shares of the Company's class A common stock at an exercise price of $38.50 per share of the Company's class A common stock, subject to adjustment for certain anti-dilution and other events. The 4.75% Warrants expire in 2014. According to the counterparties to the warrants, the consummation of the Total Tender Offer triggered their rights to make a downward adjustment to the strike price of the warrants. In the third quarter of fiscal 2011, the Company and the counterparties to the 4.75% Warrants agreed to reduce the exercise price of the 4.75% Warrants from $38.50 to $26.40, which is no longer above the conversion price of the 4.75% debentures.

July 2007 Share Lending Arrangement
 
Concurrent with the offering of the 0.75% senior convertible debentures ("0.75% debentures"), the Company lent 1.8 million shares of its class A common stock to Credit Suisse International ("CSI"), an affiliate of Credit Suisse Securities (USA) LLC ("Credit Suisse"), one of the underwriters of the 0.75% debentures. The loaned shares are to be used to facilitate the establishment by investors in the 1.25% debentures and 0.75% debentures of hedged positions in the Company's class A common stock. The Company did not receive any proceeds from the offerings of class A common stock, but received a nominal lending fee of $0.001 per share for each share of common stock that is loaned under the share lending agreement. As of October 2, 2011 the fair value of the 1.8 million outstanding loaned shares of class A common stock was $14.6 million (based on a market price of $8.09 as of September 30, 2011).
 
Share loans under the share lending agreement terminate and the borrowed shares must be returned to the Company under the following circumstances: (i) CSI may terminate all or any portion of a loan at any time; (ii) the Company may terminate any or all of the outstanding loans upon a default by CSI under the share lending agreement, including a breach by CSI of any of its representations and warranties, covenants or agreements under the share lending agreement, or the bankruptcy or administrative proceeding of CSI; or (iii) either party may terminate if the Company enters into a merger or similar business combination transaction with an unaffiliated third party (as defined in the agreement). In addition, CSI has agreed to return to the Company any borrowed shares in its possession on the date anticipated to be five business days before the closing of certain merger or similar business combinations described in the share lending agreement. Except in limited circumstances, any such shares returned to the Company cannot be re-borrowed.

Any shares loaned to CSI are considered issued and outstanding for corporate law purposes and, accordingly, the holders of the borrowed shares have all of the rights of a holder of the Company's outstanding shares, including the right to vote the shares on all matters submitted to a vote of the Company's stockholders and the right to receive any dividends or other distributions that the Company may pay or make on its outstanding shares of class A common stock. However, CSI agreed that it will not participate in shareholder voting matters and further agreed to pay to the Company an amount equal to any dividends or other distributions that the Company pays on the borrowed shares. The shares are listed for trading on the Nasdaq Global Select Market.


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Index

While the share lending agreement does not require cash payment upon return of the shares, physical settlement is required (i.e., the loaned shares must be returned at the end of the arrangement). In view of this share return provision and other contractual undertakings of CSI in the share lending agreement, which have the effect of substantially eliminating the economic dilution that otherwise would result from the issuance of the borrowed shares, historically the loaned shares were not considered issued and outstanding for the purpose of computing and reporting the Company's basic and diluted weighted average shares or earnings per share.

The shares lent to CSI will continue to be excluded for the purpose of computing and reporting the Company's basic and diluted weighted average shares or earnings per share. If Credit Suisse or its affiliates, including CSI, were to file bankruptcy or commence similar administrative, liquidating, restructuring or other proceedings, the Company may have to consider 1.8 million shares lent to CSI as issued and outstanding for purposes of calculating earnings per share.

Mortgage Loan Agreement with International Finance Corporation (“IFC”)

In fiscal 2010, SunPower Philippines Manufacturing Ltd. ("SPML") and SPML Land, Inc. (“SPML Land”), both subsidiaries of the Company, entered into a mortgage loan agreement with IFC. Under the loan agreement, SPML may borrow up to $75.0 million from IFC after satisfying certain conditions to disbursement. The Company guarantees SPML's obligations under the mortgage loan agreement. On June 9, 2011, SPML borrowed $25.0 million under the loan agreement. As of October 2, 2011 and January 2, 2011, SPML had $75.0 million and $50.0 million, respectively, outstanding under the mortgage loan agreement which is classified as "Long-term debt" in the Company's Condensed Consolidated Balance Sheets. As of October 2, 2011, no additional amounts remained available for borrowing under the loan agreement.

Loan Agreement with California Enterprise Development Authority ("CEDA")

On December 29, 2010, the Company borrowed the proceeds of the $30.0 million aggregate principal amount of CEDA's tax-exempt Recovery Zone Facility Revenue Bonds (SunPower Corporation - Headquarters Project) Series 2010 (the "Bonds") maturing April 1, 2031 under a loan agreement with CEDA. The Company's obligations under the loan agreement are contained in a promissory note dated December 29, 2010 issued by the Company to CEDA, which assigned the promissory note, along with all right, title and interest in the loan agreement, to Wells Fargo, as trustee, with respect to the Bonds for the benefit of the holders of the Bonds. The Bonds initially bore interest at a variable interest rate (determined weekly), but at the Company's option were converted into fixed-rate bonds (which include covenants of, and other restrictions on, the Company). As of January 2, 2011 the $30.0 million aggregate principal amount of the Bonds was classified as "Short-term debt" in the Company's Condensed Consolidated Balance Sheet due to the potential for the Bonds to be redeemed or tendered for purchase on June 22, 2011 under the reimbursement agreement described below. On June 1, 2011, the Bonds were converted to bear interest at a fixed rate of 8.50% to maturity and the holders' rights to tender the Bonds prior to their stated