UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-K

(Mark One)

 

[x]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended January 3, 2014

OR

[ ]TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ___ to ___

Commission file number 000-29617

INTERSIL CORPORATION

(Exact name of Registrant as specified in its charter)

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. [x] Yes   [ ] No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. [ ] Yes   [ x] No

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. [x] Yes   [ ] No

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

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  [ ]

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.

 

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

The aggregate market value of our Class A Common Stock, par value $0.01 per share, held by non-affiliates (based upon the closing sale price of $7.64 on the Nasdaq Global Select Market) on July 5, 2013 was approximately $972.5 million.

As of February 12, 2014, there were 127,757,561 shares of our Class A Common Stock, par value $0.01 per share, outstanding.

The information required by Part III of this Annual Report on Form 10-K, to the extent not set forth herein, is incorporated by reference from the Registrant’s definitive Proxy Statement for the Annual Meeting of Shareholders to be held May 6, 2014.

 

 

 

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INTERSIL CORPORATION

FORM 10-K

January 3, 2014

TABLE OF CONTENTS

 

 

 

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PART I

Item 1.Business.

Forward Looking Statements

This Annual Report on Form 10-K contains statements relating to expected future results and business trends of Intersil Corporation (“Intersil,” which may also be referred to as “we,” “us” or “our”) that are based upon our current estimates, expectations, assumptions and projections about our industry, as well as upon certain views and beliefs held by management, that are “forward-looking statements” as defined in the Private Securities Litigation Reform Act of 1995, as amended. Forward-looking statements generally can be identified by words such as “anticipates,” “believes,” “estimates,” “expects,” “intends,” “plans,” “predicts,” “projects,” “will be,” “will continue,” “will likely result,” and similar expressions. In addition, any statements that refer to expectations, projections, or other characterizations of future events or circumstances, including any underlying assumptions, are “forward-looking statements.” These forward-looking statements are based on current expectations and assumptions that are subject to risks and uncertainties, which could cause our actual results to differ materially from those reflected in the forward-looking statements. Factors that might cause or contribute to such differences include, but are not limited to, those discussed in the section entitled “Risk Factors” in Part I, Item 1A of this report. We undertake no obligation to publicly release any revisions to the forward-looking statements or reflect events or circumstances after the date of this document.

Our web address is www.intersil.com. We post all Securities and Exchange Commission (“SEC”) filings on our website, including our annual reports on Form 10-K, our quarterly reports on Form 10-Q, our current reports on Form 8-K, the filings of our officers and directors pursuant to Section 16(a) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), our proxy statements on Schedule 14A related to our annual shareholders’ meeting and any amendments to these reports or statements filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act.

We have adopted a Corporate Code of Ethics, which is available on our website. The content on any website referred to in this filing is not incorporated by reference into this filing unless expressly noted otherwise.

The SEC maintains an internet site that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC at www.sec.gov. You may also read and copy any materials filed by us with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549 and may obtain information on the operation of the Public Reference Room by calling the SEC at (202) 551-8090.

Company Overview

We design and develop innovative power management and precision analog integrated circuits (ICs). We were formed in August 1999 when we acquired the semiconductor business of Harris Corporation and began operating as Intersil Corporation. That semiconductor business included product portfolios and intellectual property dating back to 1967 when semiconductor companies were just emerging in Silicon Valley. We are now an established supplier of power management and precision analog technology for many of the most rigorous applications in the computing, consumer and industrial markets. We supply a full range of power IC solutions including battery management, computing power, display power, regulators and controllers and power modules; as well as precision analog components such as amplifiers and buffers, proximity and light sensors, data converters, optoelectronics and interface products. As a major supplier to the military and aerospace industries, our product development methodologies reflect experience designing products to meet the highest standards for reliability and performance in challenging environments.

Business Strategy

In fiscal 2013, we refocused our strategy to target the $10 billion power management opportunity. We are aiming our diverse portfolio at markets where our unique capability and the size of the opportunity will enable sustained growth. We are investing our research and development (“R&D”) resources in next generation solutions that expand our offerings in these target markets, leverage our differentiated technology and offer significant competitive advantages. We are focused in three main areas:

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•Expand our presence in power management for industrial and infrastructure applications. Our advanced analog and digital power management products position us to benefit from growth in data centers, communications infrastructure build-outs and a continued trend towards improved energy efficiency across industrial applications.

•Establish leadership in power management for mobile applications. Our heritage in computing, our unique modulation capability and established relationships with the leading suppliers of mobile devices are driving a comprehensive strategy to target the explosive growth in the mobile computing market.

•Extend our leadership in target applications in the automotive and aerospace markets. We have recognized capability and market leadership in radiation hardened commercial satellite applications. We also have a growing presence in both video and power applications targeted at the automotive market.

 

Products and Technology

We have a number of core technologies that allow us to deliver differentiated products to the market place. These products address opportunities in the Industrial and Infrastructure, Consumer and Personal Computing markets.

Industrial & Infrastructure

Industrial & infrastructure products represented 59.0% of revenue during fiscal year 2013. The largest components of this revenue are products for power, automotive, aerospace, security and broad-line industrial applications. Power products include many of our most promising industrial and infrastructure products – digital power controllers, modules and switching regulators as well as other general purpose power devices. In automotive we are targeting both infotainment and power applications. Our video decoders form a primary building block for console displays and rear view camera display that are becoming a common safety feature in mid- to high-end vehicles. We are applying our power management technology to address the growing market for electric vehicles. Our radiation hardened products offer advantages for the most rigorous applications, including commercial aerospace, and make up another large component of the company’s industrial revenue. Our computing heritage has resulted in a leading suite of products for analog and digital power management addressing the rapid expansion of cloud computing and communications infrastructure. Our products in this category also enable multiple functions in hundreds of other industrial systems from factory automation to test and measurement equipment.

Consumer

Consumer products represented 20.4% of revenue during fiscal year 2013. This is the most competitive of our end markets and is characterized by high volumes and short life cycles. We have proven over the years that our technology leadership particularly in power management and optical sensors can enable us to win designs in the industry’s highest profile consumer devices. This year, new wins in gaming consoles, handsets and tablets propelled growth. As we continue to develop higher value and more integrated solutions for the consumer market, we believe we can maintain a strong presence among the most innovative consumer electronics customers.

Personal Computing

Personal computing power management products represented 20.6% of revenue during fiscal year 2013. Our products provide the power management functions for all types of personal computers, including ultrabooks®, notebooks and desktops. These functions include power management for the central processing unit (“CPU”), battery charging, display power and other types of power related functions within a personal computer.

The traditional personal computer (“PC”) market has been in decline and will continue to decline as mobile devices become more capable and affordable. We intend to leverage our core intellectual property (“IP”) and strong relationships in the PC market to introduce products directed at both high-end servers for cloud computing and integrated power for mobile consumer devices while continuing to develop next generation power management products for the evolving mobile PC market.

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Geographic Financial Summary

We operate exclusively in the semiconductor industry and primarily the power management and high-performance analog sector of that industry. Substantially all revenue results from the sale of semiconductor products. All intercompany revenue and balances have been eliminated. The revenue noted in this section is based on shipping destination.

A summary of the operations by geographic area is below (in thousands):

 

 

We market our products for sale to customers, including distributors, primarily in China, the U.S., South Korea, Japan, Germany, Singapore, and Taiwan. A summary of percentage of revenue by country is below and shows countries where values exceeded 10% in any one year presented:

 

 

One distributor, Avnet, Inc (“Avnet”) represented 17.0%, 14.9%, and 11.4% of revenue during fiscal years 2013, 2012 and 2011 respectively and 24.6% and 19.2% of trade receivables as of January 3, 2014 and December 28, 2012 respectively. Another distributor, WPG Holdings Ltd. (“WPG”) represented 12.2%, 12.8% and 11.4% of revenue during fiscal years 2013, 2012 and 2011 respectively and 13.8% and 18.3% of accounts receivable as of January 3, 2014 and December 28, 2012 respectively. The loss of any one or more of these customers could result in a materially negative impact on our business.

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Sales, Marketing and Distribution

We sell our products through our direct sales force and a network of distributors. Our sales team focuses on those major accounts that are strategic to our marketing and product strategies. Our direct geographical sales organizations sell products in regions throughout the world. The geographical sales force works closely with a network of distributors, value-added resellers and manufacturers’ representatives, creating a worldwide selling network. Dedicated direct sales organizations operate in North American, European, Japanese and Asia/Pacific markets. We strategically locate sales offices near major original equipment manufacturers (“OEMs”), original design manufacturer (“ODMs”) and contract manufacturers throughout the world. The technical applications organization is deployed alongside the direct sales force, ensuring both applications and product/customer focus. Our dedicated marketing organization supports field sales and is aligned by specific product group.

Distributors and value-added resellers handle a wide variety of products, including products sold by other companies that compete with our products. Most of our sales to distributors include agreements allowing for market price fluctuations and/or the right to return some unsold products. Some of our distribution agreements contain an industry-standard stock rotation provision allowing for minimum levels of inventory returns or scrap. In 2013 we derived 60.4% of our revenue through distributors and value-added resellers.

Our sales organization is supported by customer service and logistics organizations throughout the world. Product orders flow to our fabrication facility or to foundries where the semiconductor wafers are made. Most of our semiconductors are assembled and tested at the facilities of independent subcontractors. Finished products are then shipped to customers either indirectly via third-parties or directly via company-managed warehouses.

Research and Development 

We believe that the continued introduction of new products in our target markets is essential to our growth. R&D expenses were $130.5 million, $166.9 million and $185.5 million in fiscal 2013, 2012 and 2011, respectively. We believe that we must continue to innovate, enhance and expand our products and services to maintain our leadership position, and we intend to achieve this through in-house R&D, licensed technology and selective acquisitions. As of January 3, 2014, we had approximately 450 employees engaged in R&D.

Manufacturing

Our products utilize ICs manufactured using silicon wafers. Our business is dependent upon reliable fabrication, packaging and testing of these wafers. We fabricate wafers of ICs in our Florida manufacturing facility. We also have wafers of ICs manufactured by leading foundry suppliers such as IBM Microelectronics, Taiwan Semiconductor Manufacturing Company and United Microelectronics Corporation. We believe that our strategy of employing internal and foundry suppliers provides an increased level of flexibility and capacity to meet production demand. During 2013, we internally produced 11.6% of our wafers and outsourced the remaining 88.4% to our foundry partners

Following fabrication, wafers are subject to packaging and testing processes. The majority of these processes are performed by independent subcontractors located in Malaysia, Taiwan, China and Singapore. However, we maintain internal assembly and test capabilities for certain products in Florida. During 2013, we were notified by one of our subcontractors that it would be closing its Malaysia plant by the end of 2014. We are working closely with this subcontractor to ensure a smooth transition of our products to other facilities.

In fiscal 2013, we did not experience delays in obtaining raw materials. However, our reliance on foundry suppliers for silicon wafers, the building block of our products, is critical and the relative importance of this part of the supply chain continues to increase, increasing our risk of incurring a production-limiting shortfall. As is typical in the industry, we must allow for significant lead times in delivery of certain materials. The production of ICs, from wafer fabrication through packaging and final testing, may take from eight to sixteen weeks. We manufacture thousands of product types and our customers often require delivery within a short period of time following their order. To consistently meet these requirements, we maintain a substantial work-in-process and finished goods inventory. Manufacture, assembly and testing of ICs is a complex process. Normal risks include errors and interruptions in the production process, defects and shortages in raw materials, disruptions at supplier locations, unexpected demand, as well as other risks, all of which can have an unfavorable impact to production costs, gross margins and our ability to meet customer demand.

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Backlog

Our product sales are made pursuant to purchase orders that are generally booked up to six months in advance of delivery. Our standard terms and conditions of sale provide that these orders may not be cancelled or rescheduled thirty days prior to the most current customer request date (“CRD”) for standard products and ninety days prior to CRD for semi-custom and custom products. Backlog is influenced by several factors, including end market demand, pricing and customer order patterns in reaction to product lead times. Additionally, we believe backlog can fall faster than consumption rates in periods of weak end market demand since production lead times can be shorter. Conversely, we believe backlog can grow faster than consumption in periods of strong end market demand as production and delivery times increase and some customers may increase orders in excess of their current consumption to reduce their own risk of production disruptions. The majority of our backlog for sales to distributors is valued at list price, which can be substantially higher than the prices ultimately recognized as revenue. Considering these practices and our experience, backlog alone cannot be consistently relied on to predict actual revenue for future periods.

Our six month backlog as of January 3, 2014, was $127.7 million compared to the six-month backlog as of December 28, 2012, of $114.6 million.

Seasonality

The consumer and personal computing markets have historically experienced weaker demand in the first half of the year than in the second half of the year in the semiconductor industry.

Competition

The power management and high-performance analog market is extremely competitive. We compete in our target markets with many companies that may have significantly greater resources than us, including but not limited to Analog Devices, Linear Technology, Maxim Integrated Products, ON Semiconductor, and Texas Instruments. We compete on the basis of technical performance, product features, customized design, price, availability, quality, reliability, sales and technical support.

Trademarks and Patents

We own rights in trademarks, trade secrets, and patents that are important to our business. Intersil procures trademark rights through registration applications or trademark usage. We use trademarks to identify Intersil products and build brand awareness, including through periodic advertising. We seek to maintain our trade secrets through security measures, policies and the use of confidentiality agreements. We also file patent applications to secure exclusive patent rights to potentially valuable inventions in the United States and in select foreign countries where we believe filing for such protection is appropriate. We may, however, elect, in certain cases, not to seek patent protection for potentially valuable inventions, if we determine other protection, such as maintaining the invention as a trade secret, to be more advantageous. The expiration dates of our patents range from 2014 to 2032. While our patents, trademarks and trade secrets benefit us, we believe that our competitive position and future success is largely determined by other factors including our innovative skills, technical expertise, and management ability; the success of new products being developed by us; and customer support.

Employees

Our worldwide workforce consisted of 1,017 employees (full and part-time) as of January 3, 2014. None of our employees are subject to a collective bargaining agreement.

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Environmental Matters

We believe that our operations are substantially in compliance with applicable environmental requirements. Our costs and capital expenditures to comply with environmental regulations have been immaterial during the last three years. However, we are subject to numerous federal, state and international environmental laws and regulatory requirements. From time to time, we become involved in investigations or litigations of various potential environmental issues concerning activities at our facilities or former facilities or remediation as a result of past activities (including past activities of companies we have acquired). Further, we may receive notices from the U.S. Environmental Protection Agency or equivalent state or international environmental agencies that we are a potentially responsible party under the Comprehensive Environmental Response, Compensation and Liability Act (commonly known as the “Superfund Act”) and/or equivalent laws. Such notices assert potential liability for cleanup costs at various sites, which may include sites owned by us, sites we previously owned and treatment or disposal sites not owned by us, allegedly containing hazardous substances attributable to us from past operations. While it is not feasible to predict the outcome of many of these proceedings, in the opinion of our management, any payments we may be required to make as a result of such claims in existence will not have a material adverse effect on our financial condition, results of operations or cash flows. To the extent any known contamination was caused prior to August 1999, we are indemnified against any associated environmental liabilities. This indemnification does not expire, nor does it have a maximum amount.

Item 1A.Risk Factors.

You should carefully consider and evaluate all of the information in this Annual Report on Form 10-K, including the risk factors listed below. In addition to these risks, other risks not now known to us or that we currently deem immaterial may also impair our business operations. If any of these risks occur, our business could be materially harmed. If our business is harmed, the trading price of our Class A common stock could decline.

As discussed in “Forward Looking Statements” in Item 1 above, this Annual Report on Form 10-K contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in the forward looking statements, including as a result of the risks described in the cautionary statements in this “Risk Factors” section and elsewhere in this Annual Report on Form 10-K, in our other filings with the SEC, and in material incorporated by reference. We undertake no duty to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

Global economic conditions and uncertainty, as well as the highly cyclical nature of the semiconductor industry, could adversely affect our revenue, operating results, cash flows, collectability of accounts receivable and supplier relationships, and our ability to access capital markets.

Our operations and performance depend significantly on worldwide economic conditions, in which significant uncertainty currently exists. This uncertainty poses a risk as consumers and businesses may postpone spending in response to tighter credit, negative financial news and/or declines in income or asset values, which could have a material negative effect on the demand for our products and services.

The semiconductor industry is highly cyclical. The semiconductor industry has experienced significant downturns, often in connection with product cycles of both semiconductor companies and their customers, but also related to declines in general economic conditions. These downturns have been characterized by volatile customer demand, high inventory levels and accelerated erosion of average selling prices. Any future economic downturns could materially and adversely affect our business from one period to the next relative to demand and product pricing. In addition, the semiconductor industry has experienced periods of increased demand, during which we may experience internal and external manufacturing constraints. We may experience substantial changes in future operating results due to the cyclical nature of the semiconductor industry.

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We may not be able to compete successfully in the highly competitive semiconductor industry. 

The semiconductor industry is intensely competitive and many of our direct and indirect competitors have substantially greater financial, technological, manufacturing, marketing and sales resources. The current level of competition in the semiconductor market is high and may increase in the future. We currently compete directly with companies that have developed similar products, including but not limited to,  Analog Devices, Linear Technology, Maxim Integrated Products, ON Semiconductor, and Texas Instruments. We also compete indirectly with numerous semiconductor companies that offer products based on alternative solutions. These direct and indirect competitors are established, multinational semiconductor companies as well as emerging companies. Our ability to compete successfully in the rapidly evolving and increasingly more complex area of IC technology depends on several factors, including:

•success in designing and manufacturing new products that implement new technologies;

•ability to hire, retain and motivate adequate numbers of engineers and other qualified employees;

•protection of our proprietary products, processes, trade secrets and know-how;

•maintaining high product quality and reliability;

•pricing policies of our competitors;

•performance of competitors’ products;

•ability to deliver in large volume on a timely basis;

•marketing, manufacturing and distribution capability; and

•financial strength.

To the extent that our products achieve market success, competitors typically seek to offer competitive products or lower prices, which, if successful, could harm our business and adversely impact our results of operations.

Our ability to maintain or expand our business depends on the successful development and market acceptance of new products

We operate in a dynamic environment characterized by intense competition, rapid technological change, evolving standards, short product life cycles and continuous erosion of average selling prices. Consequently, our future success will be highly dependent upon our ability to continually develop new products using the latest and most cost-effective technologies, introduce our products in commercial quantities to the marketplace ahead of the competition and have our products selected for inclusion in leading system manufacturers' products. The development of new products will continue to require significant R&D expenditures. 

The introduction of new products presents significant business challenges because product development commitments and expenditures must be made well in advance of the related revenues. The success of a new product depends on accurate forecasts of long-term market demand, future technological developments and a variety of specific implementation factors, including:

•timely and efficient completion of process design and development;

•timely and efficient implementation of manufacturing and assembly processes;

•product performance;

•the quality and reliability of the product; and

•effective marketing, sales and service.

If we are unable to successfully execute these elements of new product development our future results of operations could be adversely affected.

Our competitiveness and future success depend on our ability to achieve design wins for our products with current and future customers and introduce new or improved products that meet customer needs while achieving favorable margins. A failure to develop, produce and market products in a timely manner, or to achieve market acceptance for these products, could have a variety of negative effects on our competitive position and our financial results, such as reducing our revenue, increasing our costs, lowering our gross margin percentage, and ultimately leading to impairment of assets.

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A downturn in the personal computing end market could cause a reduction in demand for our products and limit our ability to maintain revenue levels and operating results.

A significant portion of our revenue (20.6%, 23.2% and 25.2% in fiscal 2013, 2012 and 2011 respectively) is derived from customers participating in the personal computing end market. Any deterioration in this end market or our inability to compete for new solutions within the personal computing end market could lead to a reduction in demand for our products which could adversely affect our revenue and results of operations.

The consumer end market is characterized by rapid product obsolescence and requires that we develop and produce our products at the right time for our customers to fulfill demand for products in the consumer end market. If we are unable to forecast demand for our products, or we are unable to make and deliver products in a timely manner, our financial condition and results may be adversely affected.  

In fiscal 2013, we derived 20.4% of our revenue from the consumer end market. This is the most competitive of our end markets and is characterized by high volumes, short life cycles and rapidly changing market requirements, products and customer demand. Our success in this market will depend principally on our ability to:  

•predict technology and market trends;

•develop products on a timely basis; and

•meet the market windows for consumer products;

 

If we are unable to consistently perform the foregoing activities, our consumer business may not be able to sustain or grow revenues in the consumer end market.

In addition, sudden changes in customer demand requirements, order cancellations or delay in product shipments to consumer end market customers could materially and adversely affect our revenues and results of operations.  

We depend on third-party suppliers, located around the world for raw materials and manufacturing services to manufacture our products, which can result in supply disruptions, sudden cost increases and delays beyond our control in delivering the products to our customers.

Production time and the cost of our products could increase if we were to lose one of our suppliers or if one of those suppliers increased the prices of raw materials. Our operating results could be adversely affected if we were unable to obtain adequate supplies of raw materials in a timely manner or if the costs of raw materials increased significantly. Our manufacturing operations depend upon obtaining adequate supplies of raw materials on a timely basis. We purchase raw materials, such as silicon wafers, from a limited number of suppliers on a just-in-time basis. From time to time, suppliers may extend lead times, limit supplies or increase prices due to capacity constraints or other factors. 

We use both internal wafer fabrication facilities and third-party wafer fabrication suppliers in manufacturing our products. We intend to continue to rely on third-party suppliers and other specialist suppliers for most of our manufacturing requirements. Many of these third-party suppliers are not obligated to supply products to us for any specific period, in any specific quantity or at any specific price. As a result, we cannot directly control semiconductor delivery schedules, which could lead to product shortages, quality assurance problems and increases in the cost of our products. We may experience delays and we cannot be sure that we will be able to obtain semiconductors within the time frames and in the volumes required by us at an affordable cost or at all. Any disruption in the availability of wafers and other semiconductor materials or any problems associated with the delivery, quality or cost of the fabrication, assembly and testing of our products could significantly hinder our ability to deliver our products to our customers and may result in a decrease in sales of our products. If the third-party suppliers we use are unable to provide our products, we may be required to seek new suppliers and we cannot be certain that their services will be available at favorable terms or that sufficient capacity will be available within a reasonable time period.

In addition, the manufacture of our products is a highly complex and precise process, requiring production in a highly controlled environment. Changes in manufacturing processes or the inadvertent use of defective or contaminated materials by a third-party supplier could adversely affect their ability to achieve acceptable manufacturing yields and product reliability. If our suppliers do not achieve adequate yields or product reliability, our customer relationships could suffer. This could ultimately lead to a loss of sales of our products and have a negative effect on our reputation, business, financial condition and/or results of operations.

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If we or our contract manufacturers suffer loss or significant damage to our factories, facilities or distribution system due to catastrophe, our operations could be seriously harmed.

Our factories, facilities and distribution system, and those of our contract manufacturers, are subject to risk of catastrophic loss due to fire, flood, earthquake or other natural or man-made disasters. For example, our internal wafer fabrication facility is located on the east coast of Florida. Operations at this facility may experience disruptions during tropical storms and hurricanes. Further, our corporate headquarters is located near major earthquake fault lines in California and we have been unable to obtain earthquake insurance at reasonable costs and limits. A portion of our facilities and those of our contract manufacturers are located in the Pacific Rim region, a region with above average seismic and severe weather activity. Any catastrophic natural disaster in those regions or catastrophic loss or significant damage to any of our facilities or those of our contract manufacturers in those regions would likely disrupt our operations, delay production, shipments and revenue, and could materially and adversely affect our business. Such events could also result in significant expenses to repair or replace our affected facilities, and in some instances could significantly curtail our research and development efforts in a particular product area or target market.

Delays in production at new facilities, in implementing new production techniques or in curing problems associated with technical equipment malfunctions may lower yields and reduce our revenues and profitability.

Our manufacturing processes are very complex, require advanced and costly equipment and are continuously modified to improve yields and product performance. Impurities or other difficulties in the manufacturing process can lower yields. Our manufacturing efficiency is an important factor in our future profitability and we may not be able to maintain our manufacturing efficiency or increase manufacturing efficiency to the same extent as our competitors.

We may experience difficulty in beginning production at new facilities or in effecting transitions to new manufacturing processes. Resultant delays can be unpredictable and can result in late product deliveries and reduced yields. We may experience manufacturing problems in achieving acceptable yields or experience product delivery delays in the future as a result of, among other things, capacity constraints, construction delays, upgrading or expanding existing facilities or changing our process technologies, any of which could result in a loss of future revenues. Increases in fixed costs and operating expenses related to increases in production capacity may adversely affect our operating results if revenues do not increase proportionately.

If our products contain defects or fail to achieve industry reliability standards, our reputation may be harmed, and we may incur significant unexpected expenses and lose sales opportunities. Our insurance coverage for such events may be insufficient.

Our products may contain undetected errors or defects that may:

•cause delays in product introductions and shipments;

•result in increased costs and diversion of development resources;

•cause us to incur increased charges due to obsolete or unusable inventory;

•require design modifications; or

•decrease market acceptance or customer satisfaction with these products, resulting in product returns, recalls and lost sales.

In addition, we may not find defects or failures timely, which may result in loss or delay in market acceptance and could significantly harm our operating results. Our current or potential customers also might seek to recover from us any losses resulting from defects or failures in our products. Further, such claims might be significantly higher than the revenues and profits we receive from the products involved, as we are usually a component supplier with limited value content relative to the value of a complete system or sub-system. Liability claims could require us to spend significant time and money in litigation or to pay significant damages for which we may have insufficient insurance coverage. Any of these claims, whether or not successful, could seriously damage our reputation and business.

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We use a significant amount of IP in our business. If we are unable to protect this IP, we could lose our right to prevent others from using our key technologies, resulting in decreased revenues.

We rely on IP rights to protect our technology. Our rights include, but not are limited to, rights existing under patent, trade secret, trademark, mask work and copyright law. Some of our technology is not covered by any patent or patent application, and there are risks that our patents may be invalidated, circumvented or challenged.

Competitors may develop technologies that are similar or superior to our technology, duplicate our technology or design around our patents. In addition, effective patent, trademark, copyright, mask work and trade secret protection may be unavailable, limited or not applied for in certain foreign countries.

We also seek to protect our proprietary technology, including technology that may not be patented or patentable, in part by confidentiality agreements and, if applicable, inventors’ rights agreements with our collaborators, advisors, employees and consultants. We cannot assure that these agreements will always be undertaken or will not be breached or that we will have adequate remedies for any breach.

Some of our current licenses to use others’ technology and IP are scheduled to expire periodically over the next several years, unless extended. We will need to negotiate renewals of these agreements or obtain the technology and IP from alternative sources. We may not be able to obtain alternative technology and IP, or renewals on substantially similar terms as those that currently exist or at all.

The failure to protect our IP, to extend its existing license agreements or utilize alternative technology could adversely affect our revenues.

Products we manufacture and sell, or products formerly produced and sold by us and now manufactured and sold by purchasers of business that we have divested, may infringe other parties’ IP rights. We may have to pay others for infringement and misappropriation of their IP rights, suspend the manufacture, use or sale of some affected products, or incur the cost of defending in litigation, resulting in significant expense to us.

The semiconductor industry is characterized by vigorous protection and pursuit of IP rights. We have received, and may receive in the future, notices of claims of infringement and misappropriation of other parties’ proprietary rights. In the event of an adverse decision in a patent, trademark, copyright, mask work or trade secret action, we could be required to withdraw the product or products found to be infringing from the market or redesign products offered for sale or under development. We have, at times, assumed indemnification obligations in favor of our customers that could be triggered upon an allegation or finding of our infringement of other parties’ proprietary rights. We have also, at times, assumed indemnification obligations in favor of the purchasers of businesses that we have divested that could be triggered upon an allegation or finding of infringement of other parties’ proprietary rights by those purchasers.

These indemnification obligations would be triggered for reasons including the sale or supply of a product that was later discovered to infringe another party’s proprietary rights. Whether or not these infringement claims are successfully asserted, we would likely incur significant costs and diversion of our resources with respect to the defense of these claims. To address any potential claims or actions asserted against us or those we have indemnified, we may seek to obtain a license under a third-party’s IP rights. However, in such an instance, a license may not be available on commercially reasonable terms, if at all. Litigation could result in significant expense to us, adversely affecting sales of the challenged product or technology and diverting the efforts of our technical and management personnel, whether or not the litigation is determined in our favor. In the event of an adverse outcome in any litigation, we may be required to:

 

•pay substantial damages, which may include enhanced damages for willful infringement, and incur significant attorneys’ fees;

•indemnify customers for damages they might suffer if the products they purchase from us infringe IP rights of others;

•indemnify purchasers of businesses that we have divested for damages they might suffer if certain of the products they sell infringe IP rights of others;

•stop our manufacture, use, sale or importation of infringing products;

•expend significant resources to develop or acquire non-infringing technology;

•discontinue the use of some processes; or

•obtain licenses to IP rights covering products and technology that may, or may have been found to, infringe or misappropriate such IP rights.

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We are subject to a variety of domestic and international laws and regulations, including Export Control Regulations, U.S. Customs and the Foreign Corrupt Practices Act

As an exporter, we must comply with various laws and regulations relating to the export of products, services and technology from the U.S. and other countries having jurisdiction over our operations. In the U.S., these laws include, among others, the U.S. Export Administration Regulations (EAR) administered by the U.S. Department of Commerce, Bureau of Industry and Security, the International Traffic in Arms Regulations (ITAR) administered by the U.S. Department of State, Office of Defense Trade Controls Compliance (DTCC), and trade sanctions, regulations and embargoes administered by the U.S. Department of Treasury, Office of Foreign Assets Control. Certain of our products have military or strategic applications and are on the munitions list of the ITAR, or represent so-called “dual use” items governed by the EAR. As a result, these products require individual validated licenses in order to be exported to certain jurisdictions. Any failures to properly classify products or otherwise comply with these laws and regulations could result in civil or criminal penalties, fines, investigations, adverse publicity and restrictions on our ability to export our products, and repeat failures could carry more significant penalties. As previously disclosed, in June of 2013, DTCC notified us of potential export licensing compliance violations, which may result in a civil penalty and significant continuing obligations. Any changes in export regulations may further restrict the export of our products. The length of time required by the licensing processes can vary, potentially delaying the shipment of products and the recognition of the corresponding revenue. Any restrictions on the export of our products or product lines could have a material adverse effect on our competitive position, results of operations, cash flows or financial condition.

We are also subject to U.S. Customs Regulations and similar laws, which control import of technologies by companies and various other aspects of the operation of our business and the Foreign Corrupt Practices Act and similar anti-bribery laws, which prohibit companies from making improper payments to government officials for the purposes of obtaining or retaining business. While our policies and procedures mandate compliance with such laws and regulations, we can provide no assurance that our employees and agents will always act in strict compliance. Failure to comply with such laws and regulations may result in civil and criminal enforcement, including monetary fines and possible injunctions against shipment of our products or other activities, which could have a material adverse impact on our results of operations and financial condition.

We may not be able to recruit and retain highly skilled personnel.

Our success depends upon our ability to recruit and retain highly-skilled technical, managerial, marketing and financial personnel. Highly-skilled employees are difficult to attract and retain in the highly-competitive semiconductor industry, and the failure to attract and retain such personnel could negatively impact our ability to keep pace with our competitors. Further, we have in the past several years announced certain cost reductions that included reductions in work force. These reductions in personnel, as well as any future cost reduction measures, could negatively impact morale, leading to unintended employee attrition and difficulty in recruiting personnel.

Most of our distributors and value-added resellers, can terminate their contract with us with little or no notice. The termination by a distributor or value-added reseller could result in a materially negative impact on our business, including revenue and accounts receivable.

In fiscal 2013, our distributors and value-added resellers accounted for 60.4% of our revenue. Our distributors can terminate their agreement with us with minimal notice. Two distributors each accounted for greater than 10% of our revenue in fiscal 2013. The termination of a significant distributor or reseller could impact our revenue and limit our access to certain end-customers. It could also result in the return of excess inventory. Since many distributors simply resell our products, they generally operate on low profit margins. If a distributor or reseller were to terminate their agreement or go out of business, our accounts receivable from them could be subject to collection risk.

Our distribution channels recently have experienced consolidation due to merger and acquisition activity in that business sector. Consolidation may result in our distributors allocating fewer resources to the distribution and sale of our products, which could adversely affect our financial results. At times, our sales are concentrated in a small number of distributors, which are in various international locations and of various financial strengths. Financial difficulties, inability to access capital markets, or other reasons may affect our distributors' performance, which could materially harm our business and our operating results.

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Our financial results may be adversely impacted by higher than expected tax rates, exposure to additional income tax liabilities or adverse outcomes resulting from examination of our income or other tax returns

As a global company, our effective tax rate is highly dependent upon the geographic composition of worldwide earnings and tax regulations. We are subject to income taxes in the United States and many foreign jurisdictions and significant judgment is required to determine worldwide tax liabilities. Our effective tax rate, as well as our actual taxes payable, could be adversely affected by changes in the mix of earnings between countries with differing tax rates. Our primary foreign operations are in Malaysia where we currently have a tax holiday resulting in a tax rate of 0%. This tax holiday began on July 1, 2009 and terminates on July 1, 2019. In order to retain this holiday in Malaysia, we must meet certain operating conditions, including compliance with warehouse and shipping quotas and specified manufacturing activities in Malaysia. Absent such tax incentives, the corporate income tax rate in Malaysia that would otherwise apply to us would be 25%. If we cannot or elect not to comply with these conditions, we could lose the related tax benefits. In such event, we may be required to modify our operational structure and tax strategy. Any such modified structure or strategy may not be as beneficial as the benefits provided under the present tax concession arrangement.  In addition, we are subject to the continuous examination of our income tax returns by the Internal Revenue Service (“IRS”) and other tax authorities. We regularly assess the likelihood of adverse outcomes resulting from these examinations to determine the adequacy of our provision for income taxes. There can be no assurance that the outcomes from these continuous examinations will not have an adverse effect on our business, financial condition, and results of operations. 

New regulations related to “conflict minerals” may force us to incur additional expenses, may make our supply chain more complex and may result in damage to our reputation with customers.

Pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, or the Dodd-Frank Act, the SEC has adopted new requirements for companies that use certain minerals and metals, known as conflict minerals, in their products, whether or not these products are manufactured by third parties. These requirements will require companies to diligence, disclose and report whether or not such minerals originate from the Democratic Republic of Congo and adjoining countries. The implementation of these new requirements could adversely affect the sourcing, availability and pricing of minerals used in the manufacture of semiconductor devices, including our products. In addition, we will incur additional costs to comply with the disclosure requirements, including costs related to determining the source of any of the relevant minerals and metals used in our products. Since our supply chain is complex, we may not be able to sufficiently verify the origins for these minerals and metals used in our products through the due diligence procedures that we implement, which may harm our reputation. In such event, we may also face difficulties in satisfying customers who require that all of the components of our products are certified as conflict mineral free.

Our business, financial condition and results of operations could be adversely affected by the political and economic conditions of the countries in which we conduct business and other factors related to our international operations.

Non-U.S. sales accounted for 84% of our revenue in fiscal 2013. We expect that international sales will continue to account for a significant majority of our total revenue in future years. We are subject to various challenges related to the management of global operations, and international sales are subject to risks including, but not limited to:

•increases in taxes, tariffs and governmental royalties,

•changes in laws and policies governing operations of foreign-based companies,

•loss of revenue, equipment and property as a result of expropriation, acts of terrorism, war, civil unrest, boycotts, trade restrictions and other political risks,

•unilateral or forced renegotiation, modification or nullification of existing contracts with governmental entities;

•difficulties enforcing our rights against a governmental agency because of the doctrine of sovereign immunity and foreign sovereignty over international operations ;

•currency restrictions and exchange rate fluctuations;

•trade balance issues;

•differences in our ability to acquire and enforce our IP and contract rights in varying jurisdictions; and

•the need for technical support resources in different locations.

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Many of the challenges noted above are applicable in China, which is a large and fast growing market for semiconductors and therefore an area of additional and continued growth for our business. As the business volume between China and the rest of the world grows, there is inherent risk, based on the complex relationships between China, Taiwan, Japan, and the United States, that political and diplomatic influences might lead to trade disruptions which would adversely affect our business with China and/or Taiwan and perhaps the entire Asia/Pacific region. A significant trade disruption in these areas could have a material, adverse impact on our future revenue and profits.

Our international operations may also be adversely affected by United States laws and policies affecting foreign trade and taxation. The realization of any of these factors could materially and adversely affect our business, financial condition and results of operations

Restrictions in our revolving credit facility may limit our activities.

Our current revolving credit facility may impose restrictions that limit our ability to engage in certain activities including our ability to enter into certain transactions, make investments or other specified restricted payments, pay certain dividends or repurchase our capital stock, create certain liens on our assets and incur certain subsidiary indebtedness. Our credit facility requires us to maintain compliance with specified financial ratios. These covenants could restrict our ability to finance future operations or capital needs, respond to changing business and economic conditions or engage in other transactions or business activities that may be important to our growth strategy or otherwise important to us. Our ability to comply with these financial restrictions and covenants is dependent on our future performance, which is subject to prevailing economic conditions and other factors, including factors that are beyond our control such as foreign exchange rates, interest rates, changes in technology and changes in the level of competition. If we breach any of the covenants under our credit facility or the indenture governing our outstanding notes and do not obtain appropriate waivers, then, subject to applicable cure periods, our outstanding indebtedness, if any, could be declared immediately due and payable. In addition, the lenders under our credit facility could institute foreclosure proceedings against the U.S. assets used to secure the borrowing under such facility.

We are subject to litigation risks.

From time to time, we are subject to legal claims and are involved in a variety of routine legal matters that arise in the normal course of business. We believe it is unlikely that the final outcome of these legal claims will have a material adverse effect on our consolidated financial position or results of operation. However, the claims process, and any ensuing litigation is inherently uncertain, unpredictable and expensive. An unfavorable resolution of any particular legal claim or proceeding could have a material adverse effect on our consolidated financial position or results of operations.

Environmental liabilities and other governmental regulatory matters could force us to expend significant capital and incur substantial costs.

We are subject to various environmental laws relating to the management, disposal and remediation of hazardous materials and the discharge of pollutants into the environment. We are also subject to laws relating to workplace safety and worker health which, among other things, regulate employee exposure to hazardous substances. Harris has agreed to indemnify us for all environmental liabilities related to events or activities occurring before our acquisition of their semiconductor business. This indemnification does not expire, nor is it subject to a dollar limitation.

Based on our experience, we believe that the future cost of compliance with existing environmental and health and safety laws (and liability for known environmental conditions) even without the indemnification from Harris will not have a material adverse effect on our business, financial condition or results of operations. However, we cannot predict:

•what environmental or health and safety legislation or regulations will be enacted in the future;

•how existing or future laws or regulations will be enforced, administered or interpreted;

•the amount of future expenditures which may be required to comply with these environmental or health and safety laws or to respond to future cleanup matters or other environmental claims; or

•the extent of our obligations to the purchasers of our environmentally challenged sites.

 

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Item 1B.Unresolved Staff Comments.

None.

Item 2.Properties.

In the United States, we lease 154,000 square feet for our corporate headquarters in Milpitas, California, which also includes facilities for sales, design and testing functions. Additional manufacturing, warehouse and office facilities are housed in 529,000 square feet of owned facilities on 118 acres of land in Palm Bay, Florida. Additionally, we conduct engineering activity and maintain regional sales offices aggregating 220,000 square feet in various locations throughout the world including the United States, Asia and Europe. Except for our Florida facilities, which we own, all of our offices are leased and lease periods vary but all expire by 2021.

We believe that our current facilities are suitable and adequate for our present purposes.

Item 3.Legal Proceedings.

Texas Advanced Optoelectronic Solutions, Inc. (“TAOS”) named Intersil as a defendant in a lawsuit filed on November 25, 2008 in the United States District Court for the Eastern District of Texas. In this action, TAOS alleges patent infringement, breach of contract, trade secret misappropriation, and tortuous interference with a business relationship pertaining to optical sensors, seeking damages and injunctive relief. We dispute TAOS’ claims and are defending ourselves vigorously. The judge issued a claim construction order in June 2013. Subsequently, there will be further discovery and pre-trial motion practice.  A trial has yet to be scheduled.

A portion of our activities are subject to export control regulations by the U.S. Department of State (DOS) under the U.S. Arms Export Control Act (AECA) and International Traffic in Arms Regulations (ITAR 22 CFR 120-130). In September 2010, in response to a request for information, we disclosed to the Directorate of Defense Trade Controls (DDTC) information concerning export activities for the time frame 2005 through 2010. The DOS administers DDTC authority under ITAR 22 CFR 120-130 to impose civil penalties and other administrative sanctions for violations, including debarment from engaging in the exporting of defense articles. In June of 2013, DDTC notified us of potential violations of the ITAR and that it is considering pursuing administrative proceedings under Part 128 of the ITAR. We are currently in the process of negotiating the terms of a Consent Agreement with the DDTC for purposes of settling this matter. The Consent Agreement would include, among other things, a penalty estimated to be between $6.0 million and $12.0 million, a portion of which would be suspended and eligible for credit based on qualified expenditures and investments made by Intersil. The qualified expenditures are subject to the approval of the DDTC. During the quarter ended October 4, 2013, we recorded a charge of $6.0 million relating to this matter. The resolution of this matter will not result in debarment from engaging in the exporting of defense articles and will not impact our ability to transact business internationally.

Item 4.Mine Safety Disclosures.

Not applicable.

PART II

Item 5.Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.

(a) Market Information

Our Class A Common Stock has been traded on the NASDAQ Stock Market since February 2000 under the symbol ISIL. We currently have the Global Select Market listing status on the NASDAQ Stock Market. Prior to February 2000, there was no public market for our common stock. The following table sets forth, for the periods indicated, the high and low closing prices per share of our Class A Common Stock as reported in NASDAQ Stock Market trading.

 

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(b) Holders

On February 12, 2014, the last reported sale price for our Class A Common Stock was $11.43 per share. As of the same date, there were 261 record holders of our Class A Common Stock.

(c) Dividends

In fiscal years 2013 and 2012, we declared and paid quarterly dividends totaling $0.48 per share annually. The first quarter dividend in fiscal 2014 has been declared by our Board of Directors at $0.12 per share, to be paid February 28, 2014, which if annualized equates to $0.48 per share.

Our dividend policy is impacted by, among other items, our views on potential future capital requirements relating to R&D, creation and expansion of sales distribution channels, investments and acquisitions, share dilution, our stock repurchase program, legal risks, liquidity and profitability. The terms of our revolving credit facility also restrict us from paying excessive dividends and making excessive investments in capital expenditures during the term of the revolving credit facility. Determination to declare and pay a dividend will be made in a timely manner by our Board of Directors in light of these and other factors the Board of Directors deems relevant.

(d) Equity compensation plan information

For important information regarding our equity compensation plans, please see Note 16, "Equity-Based Compensation," in the Notes to the Consolidated Financial Statements included in this Annual Report.

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(e) Performance Graph

The following graph presents a comparison of the cumulative total shareholder return, assuming dividend reinvestment, on our stock with the cumulative total return of the NASDAQ Market Index and the Philadelphia Semiconductor Index for the period of five years commencing January 2, 2009 and ending January 3, 2014. The graph assumes that $100 was invested on January 2, 2009 in each of Intersil common stock, the NASDAQ Market Index, and the Philadelphia Semiconductor Index, and that all dividends were reinvested.

 

(f) Recent Sales of Unregistered Securities

We did not sell unregistered securities during fiscal 2013.

 

(g) Issuer Purchases of Equity Securities

We did not repurchase any shares during fiscal 2013.

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Item 6.Selected Financial Data.

The following table sets forth our selected financial data. The historical financial data for each year in the five year period ended January 3, 2014 is derived from our audited consolidated financial statements. 2013 is a 53 week year. All other periods presented are fiscal years and include 52 weeks. Additional information regarding 2009 and 2010 can be found in our 2009 and 2010 annual reports on form 10-K filed with the SEC. This information should be read in conjunction with the consolidated financial statements included elsewhere in this report and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

 

The following transactions affect the comparability of the results between the periods above:

Item 7.Management’s Discussion and Analysis of Financial Condition and Results of Operations.

You should read the following discussion in conjunction with our accompanying consolidated financial statements, including the related notes. This discussion generally refers to elements within our accompanying consolidated financial statements on a pre-tax basis unless otherwise stated. Except for historical information, the discussions in this section contain forward-looking statements that involve risks and uncertainties. Actual results could differ materially from those discussed below. For further information regarding risks and uncertainties, see Item 1A. “Risk Factors” in this Annual Report on Form 10-K.

Overview

We design and develop innovative power management and precision analog integrated circuits (ICs). We were formed in August 1999 when we acquired the semiconductor business of Harris Corporation and began operating as Intersil Corporation. That semiconductor business included product portfolios and intellectual property dating back to 1967 when semiconductor companies were just emerging in Silicon Valley. We are now an established supplier of power management and precision analog technology for many of the most rigorous applications in the computing, consumer and industrial markets. We supply a full range of power IC solutions including battery management, computing power, display power, regulators and controllers and power modules; as well as precision analog components such as amplifiers and buffers, proximity and light sensors, data converters, optoelectronics and interface products. As a major supplier to the military and aerospace industries, our product development methodologies reflect experience designing products to meet the highest standards for reliability and performance in challenging environments.

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We utilize a 52/53 week fiscal year, ending on the nearest Friday to December 31. Fiscal year 2013 is a 53 week period with an extra week included in our second quarter. All other years presented are fiscal years and contain 52 weeks. Quarterly or annual periods vary from exact calendar quarters or years.

Statement of Operations ($ in thousands and % of revenue):

 

 

 

Revenue, Cost of Revenue and Gross Margin

Revenue

Our three end markets are industrial & infrastructure, personal computing and consumer. Our revenue by end market was as follows ($ in thousands and % of revenue)

 

Our revenue for fiscal 2013 was $575.2 million, a decrease of $32.7 million or 5.4% from 2012. Revenue in the industrial & infrastructure market and consumer market decreased slightly from fiscal 2012 by 2.1% and 1.8% respectively while revenue in the personal computing market decreased 16.4%. In the industrial & infrastructure market, growth in products targeted at the automotive market was offset by decline in revenue from products targeted at the security market. The decrease in revenue from the personal computing market was due to unfavorable PC trends and our reduced market share in the next generation Intel-based PC platforms.

In aggregate, lower overall unit demand in 2013 decreased revenue by $12.5 million from 2012 levels and a decrease in average selling price (“ASPs”) for the related product mix decreased revenue from 2012 levels by $20.2 million. Of this revenue decrease, $39.0 million came from our sales to customers in the Asia/Pacific region, offset by an increase of $5.4 million from sales to customers in North America and $1.0 million from sales to customers in Europe and other countries.

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Our revenue for fiscal 2012 was $607.9 million, a decrease of $152.6 million or 20.1% from fiscal 2011. The fiscal 2012 revenue decrease was primarily due to broad-based declines across all end markets. Revenue in the industrial & infrastructure market decreased 13.8% from fiscal 2011 levels, revenue in the personal computing market decreased 26.2% and revenue in the consumer market decreased 28.2% from fiscal 2011 levels. 

In aggregate, lower overall unit demand in 2012 decreased revenue by approximately $138.3 million from 2011 levels and a decrease in ASPs decreased revenue from 2011 levels by approximately $14.3 million. Of this revenue decrease, $117.0 million came from our sales to customers in the Asia/Pacific region, $20.6 million came from sales to customers in North America and $15.0 million came from sales to customers in Europe and other countries.

Geographical revenue ($ in thousands and % of revenue)

 

Cost of Revenue and Gross Margin

Cost of revenue consists primarily of purchased materials and services, labor, overhead and depreciation associated with manufacturing pertaining to products sold.

Our gross margin increased by 70 basis points in fiscal 2013 from fiscal 2012. The increase was primarily due to product sales mix changes at the product family level. 

Our gross margin decreased by 320 basis points in fiscal 2012 from fiscal 2011. The decrease was primarily due to product sales mix changes at the product family level along with lower production volume when compared to fixed overhead costs charged to cost of revenue.

Generally, our personal computing and consumer products have lower gross margins than our industrial and infrastructure products. We strive to improve gross margins from their present levels by introducing new high-margin products and cost saving opportunities in our manufacturing chain.

Operating Costs and Expenses

Research and Development

R&D expenses consist primarily of salaries and expenses of employees engaged in product/process research, design and development activities, as well as related subcontracting activities, masks, design automation software, engineering wafers, and technology license agreement expenses.

Our R&D expenses decreased by 21.8% or $36.3 million to $130.5 million in 2013 compared to $166.9 million for 2012. In the first and third quarters of fiscal 2013, we implemented efforts to refocus our investments in target areas that we believe can sustain high quality revenue growth, reducing our exposure to areas with low returns. The lower R&D expenses in 2013 are primarily the result of reduced headcount and other cost reductions related to our restructuring actions.

Our R&D expenses decreased by 10.0% or $18.6 million to $166.9 million in 2012 compared to $185.5 million for 2011.  During the last two quarters of 2011 and throughout 2012, we implemented substantial cost saving initiatives to optimize and integrate acquired companies and to reduce R&D spending. We realigned our resources to focus on our primary future growth drivers while continuing to invest in products aimed at the broad industrial market.

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We believe that a continued commitment to R&D is essential to maintain product leadership and provide innovative new product offerings, and therefore we expect to continue to make significant future investments in R&D. As we continue to move to more advanced process technologies, our mask and engineering wafer costs are becoming more complex and expensive, and will therefore increasingly represent a greater proportion of total R&D expenses. 

Selling, General and Administrative (“SG&A”)

SG&A expenses consist primarily of salaries and expenses of employees engaged in selling and marketing our products as well as the salaries and expenses required to perform our human resources, finance, legal, executive and other administrative functions.

Our SG&A expenses decreased by 15.6% or $21.0 million to $113.3 million in 2013 compared to $134.3 million for 2012. The decrease in 2013 was primarily due to lower labor costs related to our restructuring activities in fiscal 2013 and stricter spending controls.

Our SG&A expenses decreased by 4.3% or $6.0 million to $134.3 million in 2012 compared to $140.3 million for 2011. The decrease in 2012 was primarily due to lower labor costs.

Amortization of Purchased Intangibles

Our amortization of purchased intangibles was $24.6 million in 2013, $29.2 million in 2012 and $26.8 million in 2011. The decrease in 2013 was primarily due to certain intangibles that became fully amortized during 2012 and 2013 and the write-off of certain intangible assets to restructuring and related cost during the second quarter of fiscal 2013. The increase in fiscal 2012 from fiscal 2011 was primarily due to additional amortization on in-process R&D projects acquired from Techwell, Inc. (“Techwell”) and completed during the first quarter of 2012.

Income from Intellectual Property Agreements

Income from intellectual property agreements was $14.4 million, net of costs, in fiscal 2012 and relate to a $13.4 million settlement of a trade secret misappropriation and patent infringement dispute with another semiconductor company and a $1.0 million sale of several patents. 

Provision for Export Compliance Settlement

We recorded a provision of $6.0 million during fiscal 2013 related to alleged violations associated with ITAR proceedings. See Note 18 to our consolidated financial statements.Restructuring and Related Costs

Our restructuring and related costs were $28.7 million in fiscal year 2013, $10.5 million in fiscal year 2012, and $4.1 million in fiscal year 2011 The 2013 restructuring charges consisted primarily of severance costs and lease exit costs and were part of efforts to better align our operating expenses with strategic growth areas for the purpose of improving competitiveness and execution across our business, realign our internal fabrication operations with existing requirements, prioritize our sales and development efforts, strengthen financial performance and improve cash flow. The 2012 and 2011 restructuring charges consisted primarily of severance costs and were part of our ongoing efforts to optimize operations and conclude the integrations of certain acquired companies. 

Other Income and Expenses

Interest Income

Our interest income decreased to $0.2 million in fiscal 2013 compared to $0.5 million in fiscal 2012 and $2.7 million in fiscal 2011. Interest income decreased in fiscal years 2013 and 2012 due to decreased average cash and investment balances and continued low interest rates. During the fourth quarter of fiscal 2011, we sold our remaining auction rate securities (“ARS”).

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Interest Expense and Fees

Our interest expense and fees decreased to $2.1 million in 2013 compared to $12.8 million in 2012 and $14.5 million in 2011. Included in 2012 interest expense is approximately $5.8 million reclassification of losses on settlement of our interest rate swaps, previously recorded as unrealized loss in other comprehensive income. Excluding these losses, interest expense and fees in 2013 and 2012 decreased from 2011 levels due to lower long-term debt balances.

Loss on Extinguishment of Debt

During the year ended December 30, 2011, we extinguished the remaining portion of our $300.0 million six-year term loan facility and wrote-off $8.4 million in unamortized loan fees. 

Gain (Loss) on Deferred Compensation Investments, net

We have a liability for a non-qualified deferred compensation plan. We maintain a portfolio of $11.6 million in mutual fund investments and corporate owned life insurance under the plan. Changes in the fair value of the asset are recorded as a gain (loss) on deferred compensation investments and changes in the fair value of the liability are recorded as a component of compensation expense. In general, the compensation expense (benefit) is substantially offset by the gains and losses on the investment. During fiscal years 2013 and 2012, we recorded gains on deferred compensation investments of $1.5 million and $0.9 million respectively and compensation expense of $1.7 million and $1.1 million respectively. During fiscal 2011, we recorded a loss on deferred compensation investments of $0.5 million and a decrease in compensation expense of $0.1 million.

Gain (Loss) on Investments

We recognized a gain of $0.9 million in fiscal 2013 related to the recovery of previously recognized losses on ARS. During fiscal 2011, we sold our remaining portfolio of ARS for a net loss of $6.5 million. 

Income Tax Expense (Benefit)

Our income tax expense was $11.0 million for 2013 compared to an income tax expense of $30.0 million in 2012. Income tax for fiscal 2013 included a $2.1 million non-deductible charge related to alleged export violations from 2005 to 2010 with ITAR. Income tax for fiscal 2013 also included benefit of $5.7 million relating to the 2012 federal R&D tax credit which was retroactively reinstated on January 2, 2013, with the enactment of the American Taxpayer Relief ACT of 2012 as well as tax expense of $3.3 million related to tax deficiencies in share based compensation. Excluding these items, the effective tax rate differs from the 35% statutory corporate tax rate primary due to losses in foreign jurisdictions with lower statutory tax rates and permanent non-deductible items, such as stock based compensation associated with our cost sharing arrangement.

Our income tax expense was $30.0 million for fiscal 2012 compared to an income tax benefit of $13.7 million in fiscal 2011. Income tax expense for fiscal 2012 included a $16.8 million charge related to a transfer pricing tax election to repatriate cash in connection with the IRS audit of tax years 2005-2007 and 2008-2009. Excluding these unusual items, the effective tax rate was further increased due to the expiration of the federal R&D tax credit and a greater portion of income in higher tax jurisdictions. Income tax expense (benefit) for fiscal 2011 included a benefit of $10.9 million primarily related to the re-measurement of our unrecognized tax benefits and a tax benefit of $9.7 million related to incremental prior year federal and state R&D credits net of a valuation allowance on the state portion of these credits.

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During fiscal year 2013, we reached final settlement with the IRS in connection with the 2008 – 2009 examination periods. The settlement primarily related to transfer pricing adjustments on the outbound pricing of tangible goods and our cost share arrangement with our Malaysia subsidiary. The settlement resulted in a $23.4 million reduction in unrecognized tax benefits (“UTBs”), which was a component of income taxes payable, comprised of a cash payment of $7.5 million to the IRS and a $15.9 million decrease in deferred tax assets related federal R&D tax credits, federal alternative minimum tax (“AMT”) tax credits, and federal net operating loss (“NOL”) tax attributes. The $7.5 million cash payment consisted of $6.7 million of additional tax due and $0.8 million of interest. We further reduced the UTB balance by $1.2 million for amended returns filed with the state authorities related to the IRS examination settlement. The sum of these items reduced our UTBs by $24.6 million. In connection with the transfer pricing adjustments for the 2008 – 2009 exam periods, we made an election under Section 4 of Revenue Procedure 99-32, 199-2 C.B. 296. This election will allow us to repatriate cash to the U.S. group to the extent of the transfer pricing adjustments agreed to in the settlement, through the establishment of a deemed account receivable from the controlled foreign corporations (“CFCs”). We estimate this election will provide an additional $125.0 million of cash to repatriate to the U.S., of which we repatriated $12.5 million during the quarter ended January 3, 2014.

During fiscal year 2012, we reached a settlement with the IRS in connection with the 2005 – 2007 examination periods. The settlement primarily related to transfer pricing adjustments on the outbound pricing of tangible goods and the valuation of intangible property sold to our CFC. The settlement resulted in a $57.6 million reduction in UTBs, which was a component of income taxes payable, comprised of a cash payment of $46.6 million to the IRS and an $11.0 million decrease in deferred tax assets related federal R&D tax credits. The $46.6 million cash payment consisted of $34.2 million of additional tax due, $11.8 million of interest and $0.6 million of penalties. We further reduced the UTB balance with a $6.0 million payment to the state authorities related to the IRS examination settlement. The sum of these items reduced our UTBs by $63.6 million. In connection with the transfer pricing adjustments for the 2005 – 2007 exam periods, we made an election under Section 4 of Revenue Procedure 99-32, 199-2 C.B. 296. This election allowed us to repatriate cash to the U.S. group to the extent of the transfer pricing adjustments agreed to in the settlement, through the establishment of a deemed account receivable from the CFCs. We recorded an $11.7 million discrete tax charge to income tax expense and increased income taxes payable, of which $7.4 million was a component of our UTBs, for interest based on the election. We repatriated $162.3 million of cash during fiscal 2012 related to the settlement.

As a global company, our effective tax rate is highly dependent upon the geographic composition of worldwide earnings and tax regulations. We are subject to income taxes in the United States and many foreign jurisdictions and significant judgment is required to determine worldwide tax liabilities. Our effective tax rate, as well as our actual taxes payable, could be adversely affected by changes in the mix of earnings between countries with differing tax rates. Our primary foreign operations are in Malaysia where we currently have a tax holiday resulting in a tax rate of 0%. This tax holiday began on July 1, 2009 and terminates on July 1, 2019. In order to retain this holiday in Malaysia, we must meet certain operating conditions, including compliance with warehouse and shipping quotas and specified manufacturing activities in Malaysia. Absent such tax incentives, the corporate income tax rate in Malaysia that would otherwise apply to us would be 25%. If we cannot or elect not to comply with these conditions, we could lose the related tax benefits. In such event, we may be required to modify our operational structure and tax strategy. Any such modified structure or strategy may not be as beneficial as the benefits provided under the present tax concession arrangement.

The impact of income earned in foreign jurisdictions being taxed at rates different than the United States federal statutory rate was an expense of $3.5 million and an increase on the effective tax rate of 25.3% for the year ended January 3, 2014, compared to an expense of $7.3 million and an increase on the effective tax rate of 97.0% for the year ended December 28, 2012, and a benefit of $16.5 million and decrease on the effective tax rate of 30.9% for the year ended December 30, 2011.In determining net (loss) income, we estimate and exercise judgment in the calculation of tax expense and tax liabilities and in assessing the recoverability of deferred tax assets that arise from temporary differences between the tax and financial statement recognition of assets and liabilities.Temporary differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheets. We then assess the likelihood that our deferred tax assets will be recovered from future taxable income and, to the extent we believe that recovery is not likely, establish a valuation allowance. As of January 3, 2014, our net deferred tax asset amounted to $95.3 million compared to $105.5 million as of December 28, 2012.Applicable guidance requires us to record our tax expense based on various estimates of probabilities of sustaining certain tax positions. As a result of this and other factors, our tax expense could be volatile, which contributes to volatility in reported financial results. As of January 3, 2014 and December 28, 2012, our UTBs related to uncertain tax positions were $99.3 million and $112.9 million, respectively.

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Contractual Obligations and Off-Balance Sheet Arrangements

Contractual Obligations and Commitments

The following table sets forth our future contractual obligations as of January 3, 2014 (in thousands):

 

 

Our future minimum lease commitments consist primarily of leases for buildings and other real property. Open capital asset purchase commitments primarily include leasehold improvements, production equipment for the expansion of our Palm Bay facility, and other equipment. Open raw material purchase commitments are for externally produced wafers and includes minimum purchase requirements as part of a guaranteed capacity agreement with one of our wafer suppliers. The UTBs relate primarily to the intercompany pricing of goods and services between different tax jurisdictions and are recorded within income taxes payable on our consolidated financial statements.

Off-Balance Sheet Arrangements

As of January 3, 2014 , we did not have any off-balance sheet arrangements, as defined under SEC Regulation S-K Item 303(a)(4)(ii).

Liquidity and Capital Resources

Our capital requirements depend on a variety of factors, including but not limited to, the rate of increase or decrease in our existing business base; the success, timing and amount of investment required to bring new products to market; revenue growth or decline; and potential acquisitions. We believe cash flows from operations together with our cash and investment balances and available credit facility will provide the financial resources necessary to meet business requirements for the next 12 months for both our domestic and foreign operations. These requirements include our dividend program, the requisite capital expenditures for the maintenance of worldwide manufacturing capacity, working capital requirements and potential acquisitions or strategic investments.

As of January 3, 2014, approximately $141.4 million of our cash and cash equivalents and short-term investments was held by our foreign subsidiaries. We have provided for federal and state taxation at approximately 37.5% in connection with the Revenue Procedure 99-32 election related to the 2008-2009 IRS examination periods which allows for the repatriation of $125.0 million. During fiscal 2013, we repatriated $12.5 million of this amount. Therefore, $112.5 million of our cash and cash equivalents held by our foreign subsidiaries as of January 3, 2014 would not be subject to further taxation upon repatriation. As of January 3, 2014, we have $325.0 million of borrowing capacity under our five-year revolving credit facility (the “Facility”). The Facility matures on September 1, 2016 and is payable in full upon maturity. Under the Facility, $25.0 million is available for the issuance of standby letters of credit, $10.0 million is available as swing line loans and $50.0 million is available for multicurrency borrowings. Amounts repaid under the Facility may be re-borrowed. The Facility currently bears interest at 1.75% over one-month LIBOR but is variable based on our leverage ratio as described in the credit agreement in Exhibit 10.1. As of January 3, 2014, we were in compliance with all applicable covenants of the above mentioned credit agreement.

Operating Activities

Cash provided by operating activities consists of net income (loss) adjusted for certain non-cash items and changes in certain assets and liabilities. 

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In fiscal year 2013, our net cash flows from operations were $106.7 million compared to $35.6 million in 2012, an increase of $71.1 million. This increase was mainly due to an increase in net income of $40.5 million and net inflow from changes in operating assets and liabilities of $36.6 million. Trade receivables, net, decreased by $5.2 million, or 9.5%, to $49.5 million as of January 3, 2014 from $54.7 million as of December 28, 2012 primarily due to more linear shipments in the fourth quarter of fiscal 2013 compared to the fourth quarter of fiscal 2012. Inventories decreased by $12.5 million, or 16.6%, to $62.4 million as of January 3, 2014 from $74.9 million as of December 28, 2012 as a result of concerted effort to reduce inventory. In addition, the net increase in trade payables and accrued liabilities of $17.3 million during fiscal 2013 was driven by the timing of payments.

Investing activities

Investing cash flows consist primarily of capital expenditures and net investment purchases and maturities.

Net cash used in investing activities was $13.0 million in fiscal 2013 compared to net cash provided by investing activities of $14.3 million in fiscal 2012. Capital expenditures, net of sales proceeds, were $18.6 million for 2013, $12.2 million for 2012, and $9.8 million for 2011. Capital expenditures have been focused primarily on planned expansion of our Palm Bay facility and increases to test capacity for new product lines. We expect capital expenditures in fiscal 2014 to be $12.0 million to $15.0 million as we upgrade our internal production capability to achieve lower internal production costs. Net proceeds from investment balances were $5.6 million in fiscal 2013 and $26.5 million in fiscal 2012. Investment balances declined in fiscal 2013 due to the maturity of bank time deposits.

Financing activities

Financing cash flows consist primarily of payment of dividends to stockholders, proceeds from issuance of stock under our employee stock purchase plan, repurchases of common stock, and issuance and repayment of long-term debt.

Net cash used in financing activities was $57.6 million in fiscal 2013 compared to $274.4 million in fiscal 2012. We paid dividends of $61.9 million, $62.1 million and $61.5 million during fiscal 2013, 2012 and 2011respectively. We repaid debt of $200.0 million and $376.7 million in fiscal years 2012 and 2011, respectively.  

Our Board of Directors previously authorized the repurchase of up to $50.0 million of our common stock through August 6, 2013. During fiscal 2012, we purchased and retired 1.9 million shares under the program at an average price per share of $8.03. We did not repurchase any of our common stock in fiscal 2013. The plan expired on August 6, 2013 and no further shares may be purchased under the plan.

Dividends on Common Stock

In October 2013, our Board of Directors declared a dividend of $0.12 per share of common stock. We paid dividends of $15.3 million on November 29, 2013 to shareholders of record as of the close of business on November 19, 2013. In January 2014, our Board of Directors declared a dividend of $0.12 per share of common stock. The dividend will be paid on February 28, 2014 to shareholders of record as of the close of business on February 18, 2014.

Transactions with Related and Certain Other Parties

None.

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Critical Accounting Policies and Estimates

Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the U.S. The preparation of such statements requires us to make estimates and assumptions that affect the reported amounts of revenues and expenses during the reporting period and the reported amounts of assets and liabilities as of the date of the financial statements. Our estimates and assumptions are based on historical experience and other factors that we consider to be appropriate in the circumstances. However, actual future results may vary from our estimates and assumptions. Based on this definition, our most critical accounting policies include revenue recognition, which impact the recording of revenues; valuation of inventories, which impacts cost of goods sold and gross margins; assessment of recoverability of intangible assets and goodwill, which impacts write-offs of goodwill and intangible assets; accounting for equity-based compensation, which impacts cost of goods sold, gross margins and operating expenses; accounting for income taxes, which impacts the income tax provision; and assessment of litigation and contingencies, which impacts charges recorded in cost of goods sold, selling, general and administrative expenses and income taxes. These policies and the estimates and judgments involved are discussed further below. We have other significant accounting policies that either do not generally require estimates and judgments that are as difficult or subjective, or it is less likely that such accounting policies would have a material impact on our reported results of operations for a given period. Our significant accounting policies are described in Note 2 to the Consolidated Financial Statements included in this Annual Report.

Receivables allowance and other allowances

Shipments to distributors are made under agreements which provide for certain pricing adjustments (referred to as “ship and debit”) and limited product return privileges, under a stock rotation provision. Many of our sales to distributors are invoiced at list price and the final price is set via ship and debit credits at the time of resale. The distributor may also receive certain price protection on a percentage of unsold inventories they hold. Accordingly, we make estimates of price adjustments based upon inventory held by distributors as of the balance sheet date and record this as a distributor allowance. We rely on historical distributor allowances to estimate these adjustments. Distributors may also receive allowances for certain parts returned under a stock rotation provision of the distributor agreement. We estimate the stock rotation provision based on the percentage of sales made to distributors and historical returns.

Inventory Allowances

We record our inventories at standard costs, which approximates the lower of actual cost or market. As the ultimate market value that we will realize through sales on our inventory cannot be known with exact certainty, we rely on past sales experience and future sales forecasts to project it. In analyzing our inventory levels, we classify certain inventory as either excess or obsolete. These classifications are maintained for all classes of inventory, although raw materials are seldom deemed excess or obsolete. We classify inventory as obsolete if we have withdrawn it from the marketplace or if we have had no sales of the product for the past 18 months and no sales forecasted for the next 24 months. We provide an allowance for 100% of the standard cost of obsolete inventory. We conduct reviews of excess inventory on a quarterly basis and reserve a significant portion of the excess inventory. We classify inventory as excess if we have quantities of product greater than the amounts we have sold in the past 18 months or have forecasted to sell in the next 24 months. We typically retain excess inventory until the inventory is sold or reclassified as obsolete, at which time we may scrap.

For all items identified as excess or obsolete, management reviews the individual facts and circumstances, i.e. competitive landscape, industry economic conditions, product lifecycles and product cannibalization, specific to that inventory. Inventory allowances totaled approximately $46.9 million on gross inventory of $109.3 million as of January 3, 2014 and $45.9 million on gross inventory of $120.8 million as of December 28, 2012.

Product demand estimates are a key element in determining inventory allowances. Our estimate of product demand requires significant judgment and is based in part on historical revenue. Historical sales may not accurately predict future demand. If future demand is ultimately lower than our estimate, we could incur significant additional expenses to provide allowances for and scrap obsolete inventory. If demand is higher than expected, we may sell inventory that had previously been written down as was the case in fiscal years 2013, 2012, and 2011. Our gross margins were positively impacted by the utilization of previously reserved inventory of $2.4 million, $1.5 million, and $1.6 million in fiscal 2013, 2012, and 2011, respectively.

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Assessment of recoverability of goodwill

We perform an annual assessment of goodwill in the fourth quarter of each year, or more frequently if indications of potential impairment exist. Goodwill is tested under a two-step method for impairment at a level of reporting referred to as a reporting unit. Step one is to identify potential impairment. We compare the calculated fair value of each reporting unit with its carrying amount, including goodwill. If the fair value of a reporting unit exceeds its carrying amount, no impairment of the goodwill of the reporting unit is indicated and step two is unnecessary. If the carrying amount of a reporting unit exceeds its fair value, the second step of the goodwill impairment test will be performed to measure the amount of impairment loss, if any. The amount of impairment loss is the excess of carrying amount of goodwill over the implied fair value of the reporting unit goodwill. After a goodwill impairment loss is recognized, the adjusted carrying amount of goodwill will be the new accounting basis.

Significant judgment is involved in the determination of fair value for the above analysis. Our estimates of fair value are based on a combination of the income approach, which estimates the fair value of our reporting units based on the future discounted cash flows, and the market approach, which estimates the fair value of our reporting units based on comparable market prices. The use of future discounted cash flows is based on assumptions that are consistent with our estimates of future growth and the strategic plan used to manage the underlying business. Factors requiring significant judgment include assumptions related to future growth rates, discount factors, market multiples and tax rates, amongst other considerations. Changes in economic and operating conditions that occur after the annual impairment analysis or an interim impairment analysis, and that impact these assumptions, may result in a future goodwill impairment charge. Any such impairment charge could be significant and could have a material adverse effect on our financial position and results of operations.

Accounting for income taxes

As part of the process of preparing our consolidated financial statements, we are required to estimate our income taxes in each of the jurisdictions in which we operate. We are subject to income taxes in the United States and various foreign jurisdictions. Significant judgment is required to determine worldwide income tax liabilities. This process involves estimating our actual current tax liability together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. Our effective tax rate and the actual taxes ultimately payable could be adversely affected by changes in the mix of earnings between countries with differing statutory tax rates, in the valuation of deferred tax assets, in tax laws or by material audit assessments, which could affect our profitability.

Temporary differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheet. We then assess the likelihood that our deferred tax assets will be recovered from future taxable income and, to the extent we believe that recovery is not likely, establish a valuation allowance. As of January 3, 2014, our net deferred tax asset amounted to $95.3 million compared to $105.5 million as of December 28, 2012.

Applicable guidance requires us to record our tax expense based on various estimates of probabilities of sustaining certain tax positions. As a result of this and other factors, our tax expense could be volatile, which contributes to volatility in reported financial results. As of January 3, 2014 and December 28, 2012, our UTBs related to uncertain tax positions were $99.3 million and $112.9 million, respectively

Fair value of equity-based compensation

We generally calculate the fair value of an equity-based compensation grant (compensation cost) on the date of grant.  We use a lattice method for options or, for market-based grants, a Monte-Carlo simulation. The compensation cost is then amortized straight-line over the requisite service period. Calculating fair value requires us to estimate certain key assumptions in the valuation model, including expected stock price volatility, the risk-free interest rate in the market, the expected life of the Option granted, and annualized dividend yield. Volatility is one of the most significant determinants of fair value. We estimate our volatility using the actual historic volatility of our stock price. We estimate our expected risk-free interest rate by using the zero-coupon U.S. Treasury rate at the time of the grant related to the expected life of the grant. Expected forfeitures must be estimated to offset the compensation cost expected to be recorded in the financial statements. We estimate forfeitures based on historical information about turnover for each appropriate employee level. As vesting tiers within an Option are more frequent after the first year until fully vested, forfeitures on options are recorded as they actually occur. We estimate the annualized dividend yield by dividing the current annualized dividend by the closing stock price on the date of grant.

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Loss Contingencies

We use significant judgment and assumptions to estimate the likelihood of loss or impairment of an asset, or the incurrence of a liability, in determining loss contingencies. An estimated loss contingency is accrued when it is probable that an asset has been impaired or a liability has been incurred and the amount of loss can be reasonably estimated. We record a charge equal to the minimum estimated liability for litigation costs or a loss contingency only when both of the following conditions are met:

(i) information available prior to issuance of our consolidated financial statements indicates that it is probable that an asset had been impaired or a liability had been incurred at the date of the financial statements and (ii) the range of loss can be reasonably estimated.

We regularly evaluate current information available to us to determine whether such accruals should be adjusted and whether new accruals are required.

Recent Accounting Pronouncements

For a description of accounting changes and recent accounting guidance, including the expected dates of adoption and estimated effects, if any, on our consolidated financial statements, see Note 2. “Summary of Significant Accounting Policies” to Consolidated Financial Statements of this Annual Report on Form 10-K.

 Item 7A.Quantitative and Qualitative Disclosures about Market Risk.

Global economic conditions pose a risk to the overall economy as consumers and businesses may defer purchases in response to the uncertainty around tighter credit and negative financial news. These conditions could reduce product demand and affect other related matters. Demand could be different from our expectations due to many factors including changes in business and economic conditions, conditions in the credit market that could affect consumer confidence, customer acceptance of our products, changes in customer order patterns including order cancellations and changes in the level of inventory held by vendors.

Moreover, in the normal course of doing business, we are exposed to the risks associated with foreign currency exchange rates and changes in interest rates. We employ established policies and procedures governing the use of financial instruments, entered into for purposes other than trading purposes, to manage our exposure to these risks.

Our cash equivalents and investments are subject to three market risks: interest rate risk, credit risk and liquidity risk. We did not hold any short-term or long-term investments as of January 3, 2014.

A substantial majority of our revenues and liabilities outside the U.S. are billed, collected, and paid in U.S. dollars. Therefore, we do not believe we have material risk to currency rates. As of January 3, 2014, we did not have any open derivative financial instruments to manage our foreign currency risk. Please see Note 5 “Financial Instruments and Derivatives” to Consolidated Financial Statements of this Annual Report on Form 10-K.

Item 8.Financial Statements and Supplementary Data.

The following consolidated financial statements and the related Notes thereto, and the financial statement schedules of Intersil Corporation and the Reports of the Independent Registered Public Accounting Firm are filed as a part of this report.

 

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INTERSIL CORPORATION

 

INDEX TO FINANCIAL STATEMENTS

 

 

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Report of Independent Registered Public Accounting Firm

The Board of Directors and Stockholders

Intersil Corporation:

We have audited the accompanying consolidated balance sheets of Intersil Corporation and subsidiaries (the “Company”) as of January 3, 2014 and December 28, 2012, and the related consolidated statements of operations, comprehensive income (loss), shareholders’ equity, and cash flows for each of the years in the three year period ended January 3, 2014. In connection with our audits of the consolidated financial statements, we also have audited the financial statement schedule as listed in the accompanying index. These consolidated financial statements and the financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements and the financial statement schedule based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Intersil Corporation and subsidiaries as of January 3, 2014 and December 28, 2012, and the results of their operations and their cash flows for each of the years in the three year period ended January 3, 2014, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Intersil Corporation’s internal control over financial reporting as of January 3, 2014, based on criteria established in Internal Control – Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated February 18, 2014 expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.

/s/ KPMG LLP

February 18, 2014

Orlando, Florida

Certified Public Accountants

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Report of Independent Registered Public Accounting Firm

The Board of Directors and Stockholders

Intersil Corporation:

We have audited Intersil Corporation’s (the “Company”) internal control over financial reporting as of January 3, 2014, based on criteria established in Internal Control – Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).  Intersil Corporation’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of January 3, 2014, based on criteria established in Internal Control – Integrated Framework (1992) issued by COSO.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Intersil Corporation and subsidiaries as of January 3, 2014 and December 28, 2012, and the related consolidated statements of operations, comprehensive income (loss), shareholders’ equity, and cash flows for each of the years in the three-year period ended January 3, 2014, and our report dated February 18, 2014 expressed an unqualified opinion on those consolidated financial statements.

/s/ KPMG LLP

February 18, 2014 

Orlando, Florida

Certified Public Accountants

 

 

 

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INTERSIL CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1—ORGANIZATION AND BASIS OF PRESENTATION

Intersil Corporation (“Intersil,” which may also be referred to as “we,” “us” or “our”) is a leading provider of innovative power management and precision analog solutions. Our products address some of the largest markets within the industrial and infrastructure, personal computing and high-end consumer markets.

Basis of Presentation

We utilize a 52/53 week fiscal year, ending on the nearest Friday to December 31. Fiscal year 2013 is a 53 week period with an extra week included in our second quarter. Quarterly or annual periods vary from exact calendar quarters or years.

The consolidated financial statements include the accounts of Intersil and its subsidiaries. All significant intercompany accounts and transactions have been eliminated.

Reclassifications

Certain prior year amounts have been reclassified to conform to current year presentation.

NOTE 2—SIGNIFICANT ACCOUNTING POLICIES

 

Cash Equivalents—Cash equivalents consist of highly liquid investments with original maturities of three months or less at the time of purchase. Investments with original maturities over three months are classified as short-term investments.

Short-term Investments—Our short-term investments are considered available-for-sale. We record the unrealized gains and losses, net of tax, in shareholders’ equity as a component of accumulated other comprehensive income (“OCI”). We determine the cost of securities sold based on the specific identification method. Realized gains or losses are recorded in loss on sale of investments and impairment losses that are determined to be other-than-temporary are recorded in other-than-temporary impairment losses in our consolidated statement of operations.

Non-Marketable Equity Securities—Non-marketable equity securities are accounted for at historical cost or, if we have significant influence over the investee, using the equity method of accounting. These investments are evaluated for impairment quarterly. Such analysis requires significant judgment to identify events or circumstances that would likely have a significant other than temporary adverse effect on the carrying value of the investment.

Deferred Compensation Plan Assets—We have made available a non-qualified deferred compensation plan for certain eligible employees. Participants can direct the investment of their deferred compensation plan accounts from a portfolio of funds from which earnings are measured. Although participants direct the investment of these funds, they are classified as trading securities and are included in other non-current assets because they remain our assets until they are actually paid out to the participants. We maintain a portfolio of $11.6 million in mutual fund investments and corporate-owned life insurance under the plan. Changes in the fair value of the asset are recorded as a gain (loss) on deferred compensation investments and changes in the fair value of the liability are recorded as a component of compensation expense. In general, the compensation expense (benefit) is substantially offset by the gains and losses on the investment. During fiscal 2013, 2012 and 2011, we recorded gains (losses) on deferred compensation investments of $1.5 million, $0.9 million, and ($0.5) million, respectively and compensation expense (benefit) of $1.7 million, $1.1 million, and ($0.1) million, respectively.

Fair Value Measurements—In order to determine the fair value of our assets and liabilities, we utilize three levels of inputs, focusing on the most observable inputs when available. Observable inputs are generally developed based on market data obtained from independent sources, whereas unobservable inputs reflect our assumptions about what market participants would use to value the asset or liability, based on the best information available in the circumstances. The three levels of inputs are as follows:

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Level 1—Quoted prices in active markets which are unadjusted and accessible as of the measurement date for identical, unrestricted assets or liabilities;

Level 2—Quoted prices in markets that are not active or for which all significant inputs are observable, either directly or indirectly;

Level 3—Prices or valuations that require inputs that are unobservable and significant to the overall fair value measurement.

If we use more than one level of input that significantly affects fair value, we include the fair value under the lowest input level used.

Derivatives— We record the fair value of our derivative financial instruments in the consolidated financial statements in other current assets or other accrued expenses, regardless of the purpose or intent for holding the derivative contract. We account for these instruments based on whether they meet the criteria for designation as hedging transactions, either as cash flow or fair value hedges. A hedge of the exposure to variability in the cash flows of an asset or a liability, or of a forecasted transaction, is referred to as a cash flow hedge. A hedge of the exposure to changes in fair value of an asset or a liability, or of an unrecognized firm commitment, is referred to as a fair value hedge. The criteria for designating a derivative as a hedge include the instrument’s effectiveness in risk reduction and, in most cases, a one-to-one matching of the derivative instrument to its underlying transaction.

Changes in the fair value of derivative instruments designated as a cash flow hedge are recorded in OCI to the extent the derivative instrument is effective. Changes in the fair values of derivatives not designated for hedge accounting and any ineffectiveness measured in designated hedge transactions are reported in earnings as they occur. Gains and losses on derivatives not designated as hedges are recognized currently in earnings and generally offset changes in the values of related assets, liabilities or debt. Hedges on forecasted foreign cash flow commitments do not qualify for deferral, as the hedges are not related to a specific, identifiable transaction. Therefore, gains and losses on changes in the fair market value of the foreign exchange contracts are recognized currently in cost of revenue.

The changes in the fair value of our interest rate swaps are recorded in OCI to the extent that the swap is effective. Any ineffectiveness will be recorded in income. We currently have no outstanding swap contracts in place.

Trade Receivables—The allowance for doubtful accounts reflects our best estimate of probable losses inherent in the accounts receivable balance. We determine the allowance based on the aging of our accounts receivable, historical experience, known troubled accounts, management judgment and other currently available evidence. Collection problems are identified using an aging of receivables analysis based on invoice due dates and other information. When items are deemed uncollectible, we charge them against the allowance for collection losses. We provide for estimated losses from collection problems in the current period, as a component of sales. We utilize credit limits, ongoing evaluation and trade receivable monitoring procedures to reduce the risk of credit loss. Credit is extended based on an evaluation of the customer’s financial condition and collateral is generally not required. Accounts receivable are also recorded net of sales returns and distributor allowances. These amounts are recorded when it is both probable and estimable that discounts will be granted or products will be returned. Aggregate accounts receivable allowances at January 3, 2014 and December 28, 2012 were $14.3 million and $14.9 million, respectively. Please see “Revenue Recognition” for further details.

Inventories—Inventories are carried at the lower of standard cost (which approximates actual cost, determined by the first-in-first-out method) or market. The total carrying value of our inventories is reduced for any difference between cost and estimated market value of inventories that is determined to be obsolete or unmarketable, based upon assumptions about future demand and market conditions. Inventory adjustments establish a new cost basis and are considered permanent even if circumstances later suggest that increased carrying amounts are recoverable. If demand is higher than expected, we may sell inventory that had previously been reserved

Property, Plant and Equipment—Buildings, machinery and equipment are carried at cost, less accumulated depreciation and impairment charges, if any. We expense repairs and maintenance costs that do not extend an asset’s useful life or increase an asset’s capacity. Depreciation is computed using the straight-line method over the estimated useful life of the asset. The estimated useful lives of buildings, which include leasehold improvements, range between 10 and 30 years, or over the lease period, whichever is shorter. The estimated useful lives of machinery and equipment range between three and eight years. We lease certain facilities under operating leases and record the effective rental expense in the appropriate period on the straight-line method.

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Asset Impairment—We recognize impairment losses on long-lived assets when indicators of impairment exist and our estimate of undiscounted cash flows generated by those assets is less than the assets’ carrying amounts. The impairment loss is measured by comparing the fair value of the asset to its carrying amount. Fair value is estimated based on discounted future cash flows or market value, if available. Assets that qualify as held for sale are stated at the lower of the assets’ carrying amount or fair value and depreciation is no longer recognized.

Goodwill— Goodwill is an indefinite-lived intangible asset that is not amortized, but instead is tested for impairment annually or more frequently if indicators of impairment exist. We perform a goodwill impairment analysis using the two-step method on an annual basis and whenever events or changes in circumstances indicate that the carrying value may not be recoverable. The recoverability of goodwill is measured at the reporting unit level by comparing the reporting unit’s carrying amount, including goodwill, to the fair market value of the reporting unit

The first step of the goodwill impairment test (“Step One”) is to identify potential impairment. This involves comparing the fair value of each reporting unit with its carrying amount, including goodwill. If the fair value of a reporting unit exceeds the carrying amount, the goodwill of the reporting unit is considered not impaired and the second step of the impairment test is unnecessary. If the carrying amount of a reporting unit exceeds its fair value, the second step of the impairment test (“Step Two”) is performed to measure the amount of impairment loss, if any.

Step Two involves comparison of the implied fair value of the reporting unit goodwill with the carrying amount of that goodwill. If the carrying amount of the reporting unit’s goodwill exceeds the implied fair value of that goodwill, an impairment loss would be recognized in an amount equal to that excess. The loss recognized cannot exceed the carrying amount of the goodwill. Once a goodwill impairment loss is recognized, the adjusted carrying amount becomes the new accounting basis.

Purchased Intangibles—Purchased intangibles are definite-lived intangible assets which are amortized on a straight-line basis over their estimated useful lives. Purchased intangibles include intangible assets subject to amortization, which are our developed technologies, backlog, customer relationships and intellectual property. We review long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. We measure recoverability of long-lived assets by comparing the carrying amount of the asset group to the future undiscounted net cash flows expected to be generated by those assets. If such assets are considered to be impaired, we recognize an impairment charge for the amount by which the carrying amounts of the assets exceeds the fair value of the assets.

Income Taxes—We follow the liability method of accounting for income taxes. Current income taxes payable and receivable and deferred income taxes resulting from temporary differences between the financial statements and the tax basis of assets and liabilities are separately classified on the consolidated balance sheets.

Uncertain tax positions and unrecognized tax benefits (“UTBs”)—We record our tax expense based on various probabilities of sustaining certain tax positions, using a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. We record our UTBs as a component of non-current income taxes payable, unless resolution is expected within one year.

Applicable guidance requires us to record our tax expense based on various estimates of probabilities of sustaining certain tax positions. As a result of this and other factors, our estimate of tax expense could change.

We classify accrued interest and penalties on income tax matters in the liabilities section of the balance sheet as income taxes payable. When the interest and penalty portions of such uncertain tax positions are adjusted, it is classified as income tax expense. All of the uncertain tax positions and UTBs as of January 3, 2014 would impact our effective tax rate should they be recognized.

In the ordinary course of business, the ultimate tax outcome of many transactions and calculations is uncertain, as the calculation of tax liabilities involves the application of complex tax laws in the United States, Malaysia and other jurisdictions. We recognize liabilities for additional taxes that may be due on tax audit issues based on an estimate of the ultimate resolution of those issues. Although we believe the estimates are reasonable, the final outcome may be different than amounts we estimate. Such determinations could have a material impact on the income tax expense (benefit), effective tax rate and operating results in the period they occur. In addition, the effective tax rate reflected in our forward-looking statements is based on current enacted tax laws in the jurisdictions in which we do business. Significant changes in enacted tax law could materially impact our estimates.

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Restructuring— We record restructuring charges when severance obligations are probable, reasonably estimable and the vested right attributable to the employees’ service is already rendered. We recognize a liability for costs associated with exit or disposal activities when a liability is incurred rather than when an exit or disposal plan is approved. We continually evaluate the adequacy of the remaining liabilities under our restructuring initiatives. Although we believe that these estimates accurately reflect the costs of our restructuring plans, actual results may differ, thereby requiring us to record additional provisions or reverse a portion of such provisions.

Revenue Recognition—Revenue is generally recognized when a product is shipped, provided that persuasive evidence of a sales arrangement exists, the price is fixed or determinable, title and risk has transferred, collection of resulting receivables is reasonably assured, there are no customer acceptance requirements and there are no remaining significant obligations. Customers typically provide a customer request date (“CRD”) which indicates the preferred date for receipt of the ordered products. Based on estimated transit time and other logistics, we may deliver products to the carrier in advance of the CRD and recognize revenue from the sale of such products at the time of shipment. Generally, we defer revenue recognition when the shipment occurs more than 10 days in advance of the CRD.

Shipments to distributors are made under agreements which provide for certain pricing adjustments (referred to as “ship and debit”) and limited product return privileges, under a stock rotation provision. The distributor may also receive additional price protection on a percentage of unsold inventories they hold. Accordingly, we make estimates of price adjustments based upon inventory reported by distributors as of the balance sheet date and record this as a distributor allowance. We rely on historical distributor allowances to estimate these adjustments. Distributors may also receive allowances for certain parts returned under a stock rotation provision of the distributor agreement. We estimate the stock rotation provision based on the percentage of sales made to distributors and historical returns.

For certain distributors, we defer recognition until the distributors resell the products to their end customer (“sell-through distributor”). Revenue at published list price and cost of revenue to sell-through distributors are deferred until either the product is resold by the distributor or, in certain cases, return privileges terminate, at which time revenue and cost of revenue are recorded in the statement of operations. The final price is also subject to ship and debit credits, reducing the final amount recorded in revenue at resale.

 

The following table summarizes the deferred income balance, primarily consisting of sell-through distributors (in thousands):

 

 

The following table summarizes the relationship between shipments, allowances and reported revenue (in thousands):

 

 

In fiscal years 2012 and 2011, we entered into price protection agreements with additional international distributors to solidify our relationships and stabilize prices across geographic regions, which resulted in increased allowances and deferrals from 2011 levels due primarily to increased ship and debit and stock rotation returns.

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Distributors provide us periodic data regarding the product, price, quantity, and end customer when products are resold as well as the quantities of our products they still have in stock. We must use estimates and apply judgment to reconcile distributors' reported inventories to their activities. Any error in our judgment could lead to inaccurate reporting of our revenue, cost of revenue, trade receivable, deferred income, and net income (loss).

Warranty—We provide for the estimated cost of product warranties at the time revenue is recognized. While we engage in extensive product quality programs and processes, including actively monitoring and evaluating the quality of our suppliers, the estimated warranty obligation is affected by ongoing product failure rates and material usage costs incurred in correcting a product failure. Actual product failure rates or material usage costs that differ from estimates result in revisions to the estimated warranty liability. We warrant for a limited period of time that our products will be free from defects in material workmanship and possess the electrical characteristics to which we have committed. We estimate warranty allowances based on historical warranty experience. Historically, warranty expenses were not material to our consolidated financial statements.

Research and Development—Research and development costs consist of the cost of designing, developing and testing new or significantly enhanced products and are expensed as incurred.

Advertising Expense—Advertising costs are expensed in the period incurred. Advertising expense was $3.4 million, $6.3 million and $6.7 million in 2013, 2012 and 2011, respectively.

Equity-based Compensation—Our equity based compensation plans allow several forms of equity compensation including stock options (“Options”), restricted and deferred stock awards (“Awards”) and employee stock purchase plans (“ESPPs”). The 2008 Equity Compensation Plan (“2008 Plan”) includes several available forms of stock compensation of which only Options and Awards have been granted to date. Awards issued consist of deferred stock units and restricted stock units, which may differ in regard to the timing of the related prospective taxable event to the recipient.

We also have the 2000 ESPP whereby eligible employees can purchase shares of Intersil common stock through payroll deductions at a price not less than 85% of the market value of the stock on specified dates, with no lookback provision.

Stock-based compensation cost is measured at the grant date, based on the fair value of the awards ultimately expected to vest, and is recognized as an expense, on a straight-line basis, over the requisite service period. We use a binomial lattice model to measure the fair value of Options and a Monte-Carlo simulation to estimate the fair value of Options and Awards that include market conditions. Both models utilize various inputs with respect to expected lives, risk-free interest rates, historical volatility and dividend yield. The assumptions we use in the valuation model are based on subjective future expectations combined with management judgment. Volatility is one of the most significant determinants of fair value. We estimate our volatility using the actual historic volatility of our stock price. We estimate our expected risk-free interest rate by using the zero-coupon U.S. Treasury rate at the time of the grant related to the expected life of the grant. Expected forfeitures must be estimated to offset the compensation cost expected to be recorded in the financial statements. We estimate forfeitures based on historical information about turnover for each appropriate employee level. As vesting tiers within an Option are more frequent after the first year until fully vested, forfeitures on options are recorded as they actually occur. We estimate the annualized dividend yield by dividing the current annualized dividend by the closing stock price on the date of grant. If any of the assumptions used in the model changes, stock-based compensation for future awards may differ materially compared to the awards granted previously.

Forfeitures are estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from initial estimates. Stock-based compensation expense is recorded net of estimated forfeitures such that expense is recorded only for those stock-based awards that are expected to vest. Previously recognized expense is reversed for the portion of awards forfeited prior to vesting as and when forfeitures occurred.

Most Options granted vest 25% in the first year and quarterly thereafter for three or four years and generally have seven year contract lives. For Awards, the expected life for amortization of the grant date fair value is the vesting term, generally three years in the case of deferred stock units and four years in the case of restricted stock units. We issue new shares of common stock upon the exercise of Options.

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Grants with only a performance condition requirement are evaluated periodically for the estimated number of shares that might be issued when fully vested. The fair value measurement and its effect on income is then adjusted as a result of these periodic evaluations. If our estimate of the number of shares expected to be earned (vested) changes, we will be required to adjust the amount of equity-based compensation recognized for the service provided to the date of the change in estimate, on a cumulative basis, to reflect the higher or lower number of shares expected to vest. Such adjustments could materially increase or decrease the amount of equity-based compensation recognized in any period, particularly the period of the change in the estimate, and in aggregate as compared to the initial fair value measurement. Therefore, the use of performance-based forms of equity-based compensation can cause more volatility in our net income in various periods and in aggregate. We do not currently have any grants that include only a performance condition requirement.

Loss Contingencies—We estimate and accrue loss contingencies at the point that the losses become probable. For litigation, our practice is to include an estimate of legal costs for defense.

Retirement Benefits—We sponsor a 401(K) savings and investment plan that allows eligible U.S employees to participate in making pre-tax contributions to the 401(K). We match the employee contributions on a dollar-for-dollar basis up to a certain predetermined percentage. Employees fully vest in the matching contributions after five years of service. We made matching contributions of $5.4 million, $6.2 million, and $6.8 million during fiscal years 2013, 2012, and 2011 respectively.

We also have voluntary defined contribution plans in various non-U.S. locations. We also maintain a limited number of defined benefit plans for certain non-U.S. locations. Total costs under these plans were $3.6 million, $1.3 million, and $1.3 million during fiscal years 2013, 2012, and 2011 respectively. Accrued liabilities relating to these unfunded plans were $7.5 million and $5.1 million as of January 3, 2014 and December 28, 2012, respectively.

Foreign Currency Translation— For subsidiaries in which the functional currency is the local currency, gains and losses resulting from translation of foreign currency financial statements into U.S. dollars are recorded as a component of accumulated other comprehensive income. Cumulative translation adjustments in accumulated OCI were $2.7 million, $3.2 million and $3.0 million as of January 3, 2014, December 28, 2012 and December 30, 2011, respectively. For subsidiaries where the functional currency is the U.S. dollar, gains and losses resulting from remeasuring transactions denominated in currencies other than the US dollar have not been significant for any period presented.

Segment Information—We report our results in one reportable segment. We design and develop innovative power management and precision analog integrated circuits (“ICs”). Our chief executive officer is our chief operating decision maker.

Use of Estimates—The financial statements have been prepared in conformity with accounting principles generally accepted in the United States and require management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

Recent Adopted Accounting Guidance - In December 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update ("ASU") No. 2011-11 “Disclosures about Offsetting Assets and Liabilities.” The standard requires additional disclosure to enhance the comparability of U.S. GAAP and International Financial Reporting Standards financial statements. In January 2013, the FASB issued Accounting Standards Update 2013-01 "Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities." This standard provided additional guidance on the scope of ASU 2011-11. Retrospective application is required and the guidance concerns disclosure only. The standard was effective for our first quarter of fiscal year 2013 and did not have a material impact on our financial statements.

In February 2013, the FASB issued ASU No. 2013-02, "Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income." Under ASU 2013-02, an entity is required to provide information about the amounts reclassified out of Accumulated OCI by component. In addition, an entity is required to present, either on the face of the financial statements or in the notes, significant amounts reclassified out of Accumulated OCI by the respective line items of net income, but only if the amount reclassified is required to be reclassified in its entirety in the same reporting period. For amounts that are not required to be reclassified in their entirety to net income, an entity is required to cross-reference to other disclosures that provide additional details about those amounts. ASU 2013-02 does not change the current requirements for reporting net income or other comprehensive income in the financial statements. ASU 2013-02 was effective for our first quarter of fiscal year 2013 and did not have a material impact on our financial statements.

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In July 2012, the FASB ASU No. 2012-02, Intangibles—Goodwill and Other (Topic 350)—Testing Indefinite- Lived Intangible Assets for Impairment. ASU 2012-02 permits an entity to first assess qualitative factors to determine whether it is more likely than not that an indefinite-lived intangible asset is impaired as a basis for determining whether it is necessary to perform the quantitative impairment test in accordance with Subtopic 350-30. If an entity concludes that it is not more likely than not that the indefinite-lived intangible asset is impaired, then no further action is required. If an entity concludes otherwise, then it is required to determine the fair value of the indefinite-lived intangible asset and perform the quantitative impairment test. ASU 2012-02 was effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012, with early adoption permitted. The adoption of this ASU did not have a material impact on our financial statements. (See Note 8)

Recent Accounting Guidance Not Yet Adopted - In July 2013, the FASB issued an amendment to the accounting guidance related to the financial statement presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss or a tax credit carryforward exists. The guidance requires an unrecognized tax benefit to be presented as a decrease in a deferred tax asset where a net operating loss, a similar tax loss, or a tax credit carryforward exists and certain criteria are met. This guidance is effective for our first quarter of fiscal year 2014. The adoption of this guidance will not have a significant impact on our results of operations and financial position.

NOTE 3—INVESTMENTS

Our investments are classified as follows (in thousands):

 

 

 

We classify bank time deposits as available for sale (“AFS”) and record them at fair value. We did not have any short-term or long-term investments outstanding on January 3, 2014.

NOTE 4—FAIR VALUE MEASUREMENTS

We determine fair value on the following assets using these input levels (in thousands):

 

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There were no transfers into or out of Level 1 and Level 2 financial assets and liabilities during fiscal years 2013 or 2012.

For actively traded securities and bank time deposits, we generally rely upon the valuations as provided by the third-party custodian of these assets or liabilities.

NOTE 5—FINANCIAL INSTRUMENTS AND DERIVATIVES

We did not have any derivatives designated as hedging instruments outstanding on January 3, 2014 or December 28, 2012.

 

 

In fiscal 2011, we terminated our prior interest rate hedge transaction (the “Old Swap”), and settled the interest rate swap agreement for $3.2 million. As of December 30, 2011, we had approximately $1.8 million, net of tax, remaining in accumulated OCI, to be reclassified into earnings as a component of interest expense commensurate with the forecasted interest payments.

During the third quarter of fiscal 2011, we entered into additional interest rate swap transactions (the “New Swaps”) with a notional value of $150.0 million to hedge a portion of the risk of changes in the benchmark interest rate of the one-month London Interbank Offered Rate (“LIBOR”) related to our new outstanding revolving credit facility. Under the terms of the New Swaps, we effectively converted $150.0 million of our variable-rate revolving credit facility to fixed interest rates through August 8, 2016.

During the fourth quarter of fiscal 2012, we repaid the outstanding balance of our revolving credit facility. As a result, we determined that the forecasted interest payments associated with the original hedge transactions would no longer occur. The remaining balance in OCI, before tax, of $5.8 million, related to the effective portion of the loss on the Old Swap and New Swaps, was reclassified to interest expense and fees. We further settled the New Swaps for $3.7 million during fiscal 2012.

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The effects of derivatives not designated as hedging instruments on the consolidated statements of operations are as follows (in thousands):

 

 

 

The tables below describe total open foreign exchange contracts (all are options to sell foreign currencies) (in thousands):

 

 

 

 

 

NOTE 6—INVENTORIES

Inventories are summarized below (in thousands):

 

 

As of January 3, 2014, Intersil was committed to purchase $17.4 million of raw material inventory from suppliers.

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NOTE 7—PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment are summarized below (in thousands):

 

 

Depreciation expense was $19.0 million, $19.5 million and $22.1 million for fiscal years 2013, 2012 and 2011, respectively. Non-cash accruals for purchases of property, plant and equipment were minimal for fiscal 2013, $1.5 million for fiscal 2012, and $0.4 million for fiscal 2011. As of January 3, 2014, we had open capital asset purchase commitments of $1.2 million.

NOTE 8—GOODWILL AND PURCHASED INTANGIBLES

Goodwill—The following table summarizes changes in net goodwill balances for our one reportable segment (in thousands):

 

 

During the third quarter of fiscal year 2013, we reorganized from three reporting units into four reporting units – specialty, mobile, precision and industrial & infrastructure. We performed a fair value analysis to allocate our goodwill at the time of the reorganization and performed an impairment test of goodwill as of the date of reorganization. Based on our analysis, no impairment was indicated.

During the third quarter of fiscal year 2011, we reorganized our reporting units, increasing from two reporting units to three reporting units – analog & mixed-signal, power management, and consumer. We performed a fair value analysis to allocate our goodwill at the time of the reorganization and performed an impairment test of goodwill as of the date of reorganization. Based on our analysis, no impairment was indicated.

We perform an annual test of goodwill in the fourth quarter of each year. In fiscal years 2013, 2012 and 2011, we recorded no impairment of goodwill based on our analysis. The fair value of the reporting units was significantly in excess of the carrying value as of October 5, 2013, the first day of our fourth quarter and the date at which we performed our test.

If we experience significant declines in our stock price, market capitalization, future expected cash flows, significant adverse changes in the business climate or continuing slower growth rates, we may need to perform additional impairment analysis of our goodwill in future periods prior to our annual test in the fourth quarter. We can provide no assurance that the significant assumptions used in our analysis will not change substantially and any additional analysis could result in additional impairment charges.

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Purchased intangibles—Substantially all of our purchased intangibles consist of multiple elements of developed technology which had estimated useful lives of five years at the time of purchase. Other purchased intangibles consist of other identifiable assets, primarily customer relationships, with estimated useful lives of four to seven years. Purchased intangibles are summarized as follows (in thousands):

 

 

 

We recorded amortization expense as follows (in thousands):

 

Purchased intangibles were evaluated for impairment during fiscal 2013 and we recognized an impairment charge of $1.8 million on certain developed technology intangibles due to cost reduction initiatives included in our February 2013 restructuring plan (See Note 9). The impairment charge is included as a component of restructuring and related costs in our consolidated statements of operations.

Expected amortization expense by year to the end of the current amortization schedule is as follows (in thousands):

 

 

NOTE 9—RESTRUCTURING AND RELATED COSTS

As part of an effort to streamline operations with changing market conditions and to create a more efficient organization, we have undertaken restructuring actions to reduce our workforce and consolidate facilities. Our restructuring costs consist primarily of: (i)

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severance and termination benefit costs related to the reduction of our workforce; and (ii) lease termination costs and costs associated with permanently vacating certain facilities.

In October 2013, we adopted a restructuring plan to realign our internal fabrication facilities with existing requirements, (the “October 2013 Plan”). The October 2013 plan includes a reduction of approximately 1% of our worldwide workforce. The October 2013 plan is expected to be substantially complete by the end of the first quarter of 2014.

In the third quarter of fiscal year 2013, we adopted a rebalancing plan (the “July 2013 plan”) to better align our operating expenses with strategic growth areas for the purpose of improving competitiveness and execution across the business. The July 2013 plan included a reduction in our worldwide workforce of approximately 12%, which we anticipate will be gradually offset by the addition of new hires in design and development over subsequent quarters. The July 2013 plan is expected to be substantially complete by the end of the first quarter of 2014.

In the first quarter of fiscal year 2013, we adopted a restructuring plan (the “February 2013 plan”) to prioritize our sales and development efforts, strengthen financial performance and improve cash flow. The February 2013 plan included a reduction of approximately 18% of our worldwide workforce. The February 2013 restructuring plan was substantially complete at the end of the second quarter of 2013. No further expense related to these plans is anticipated.

During fiscal year 2012, we initiated restructuring plans to reorganize certain operations and reduce our global workforce and other operating costs. The 2012 restructuring plans were substantially completed at the end of the fourth quarter of 2012. No further expense related to these plans is anticipated.

The amounts below relating to the restructuring are included in other accrued expenses (in thousands):

 

 

Non-cash items include certain prepaid, intangible, fixed, and other assets that were written off as a result of the restructuring initiatives.

NOTE 10—INCOME TAXES

We are subject to filing requirements in the United States Federal jurisdiction and in many state and foreign jurisdictions for numerous consolidated and separate entity income tax returns. We are no longer subject to examination in the U.S. for years prior to 2010.

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Income (loss) before income taxes is allocated between domestic and foreign jurisdictions as follows (in thousands):

 

 

Income tax expense (benefit)—The provision for income taxes is summarized below (in thousands):

 

 

As a result of the exercise of non-qualified Options, the disqualifying disposition of incentive Options, the release of Awards and the disqualifying disposition of shares acquired under the ESPP, we realized tax benefits of $1.3 million, $1.6 million and $2.5 million during fiscal years 2013, 2012 and 2011, respectively.

We currently have a tax holiday in Malaysia resulting in a tax rate of 0%. This tax holiday began on July 1, 2009, and terminates on July 1, 2019. The table below summarizes the effects of operating in Malaysia under our tax holiday based on the Malaysian statutory tax rate (in thousands, except per share data).

 

 

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Deferred income taxes—The components of deferred income tax assets and liabilities are as follows (in thousands):

 

 

The table below summarizes the activity in valuation allowances (in thousands):

 

 

 

 

During the year ended January 3, 2014, we reduced our deferred tax assets related to the state R&D tax credits by $1.5 million due to settlement with tax authorities. We also reduced our deferred tax assets by $0.1 million related to capital losses for expirations. The valuation allowances were also adjusted accordingly based on the deferred tax asset adjustments.

We completed an analysis of projected future taxable income and determined that all remaining deferred tax assets, including net operating loss carryforwards (“NOLs”) and tax-credit carryforwards, are more likely than not to be realized in the foreseeable future. Therefore, we have not provided any additional valuation allowances on deferred tax assets as of January 3, 2014.

We have gross NOLs of $42.4 million from acquisitions that expire in tax years 2027 through 2028. The annual utilization of these NOLs is limited pursuant to Internal Revenue Code Section 382. We have gross federal R&D credit carryforwards of $18.8 million that will expire in tax years 2031 through 2033.

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Income tax provision (benefit) reconciliation—A reconciliation of the statutory United States income tax to our effective income tax is as follows ($ in thousands):

 

Uncertain tax positions and UTBs

During fiscal 2013, we recorded an increase of $1.8 million of potential interest on UTBs in the consolidated statement of operations. During fiscal 2012, we recorded a reduction of $6.1 million of potential interest and a reduction of $0.6 million of potential penalties on UTBs in the consolidated statement of operations. During fiscal 2011, we recognized $1.3 million of potential interest and a reduction of $3.3 million of potential penalties on UTBs in the consolidated statement of operations.

The table below summarizes activity in UTBs (in thousands):

 

 

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The increases related to prior year tax positions in fiscal 2013 were primarily due to an audit in Switzerland for tax years 2009-2010 and accrued interest on the UTBs. The increases related to prior year tax positions do not have a material impact on the effective tax rate. The remaining balance in UTBs is primarily related to transfer pricing and a provision related to an IRS examination for tax years 2010 – 2011. The increase in the UTBs for fiscal 2012 was primarily due to the election of Rev. Proc. 99-32 for tax years 2005 – 2009, which resulted in a $12.5 million charge. The additional $9.6 million relates to the re-measurement of transfer pricing adjustments and related interest for the outbound pricing of tangible goods and our cost sharing arrangement for the tax years 2005 – 2011 based on interactions with the IRS.

During fiscal 2013, we reached final settlement with the Internal Revenue Service (“IRS”) in connection with the 2008 – 2009 examination periods. The settlement primarily related to transfer pricing adjustments on the outbound pricing of tangible goods and our cost share arrangement with our Malaysia subsidiary. As a result of the settlement, we reduced our UTB balance by $24.6 million. This reduction included a $7.5 million cash payment to the IRS, consisting of $6.7 million of additional tax and $0.8 million of interest; a $15.9 million decrease in deferred tax assets related federal R&D tax credits, federal alternative minimum tax (“AMT”) tax credits, and federal net operating loss (“NOL”) tax attributes; and $1.2 million cash payments for amended returns filed with state authorities related to the IRS examination settlement. We also reduced our UTB balance by $1.0 million upon settlement of an audit with the State of California related to tax years 2005-2008 for a benefit resulting in a reduction of income tax expense for $1.0 million.

During fiscal 2012, we reached final settlement with the IRS in connection with the 2005 – 2007 examination periods and decreased our UTBs in the amount of $63.6 million. The examination primarily focused on the outbound pricing of tangible goods and valuation of the intangible property sold to our CFC. The settlement resulted in a $57.6 million reduction in UTBs, which was a component of income taxes payable, comprised of a cash payment of $46.6 million to the IRS and an $11.0 million decrease in deferred tax assets related federal R&D tax credits. We further reduced the UTB balance with a $6.0 million payment to the state authorities related to the IRS examination settlement. We also recorded an increase to income tax expense and income taxes payable of $11.7 million related to interest due to the Rev. Proc. 99-32 election, which allowed for the repatriation of $162.3 million of cash during 2012.

We are currently under an IRS tax audit for tax years 2010 and 2011. While the audit covers a number of different issues, the focus is largely due to the intercompany pricing of goods and services between different tax jurisdictions. As the final resolution of the examination process remains uncertain for those years, we continue to provide for the uncertain tax positions based on our best estimate of the ultimate outcome.

Within the next 12 months, we estimate that our UTB balance will be reduced by $0.6 million related to the state tax impact of the settlement with the IRS for tax years 2005 – 2007, $1.2 million related to the state tax impact of the settlement with the IRS for tax years 2008 – 2009, $1.8 million due to the expiration of the statute of limitation on certain items, and $5.7 million for the Switzerland foreign currency transactions for the tax years 2009 – 2010.

Other Income Tax Information

Income taxes paid were $16.6 million, $49.4 million and $11.1 million during fiscal years 2013, 2012 and 2011, respectively. Interest and penalties paid were $0.9 million during fiscal 2013, $13.5 million during fiscal 2012 and a minimal amount in fiscal 2011.

We have not provided U.S. income taxes on $352.4 million of accumulated undistributed earnings of our international subsidiaries because of our demonstrated intention to permanently reinvest these earnings. Should these earnings be remitted to the U.S. we would be subject to additional U.S. taxes and foreign withholding taxes. Determining the unrecognized deferred tax liability related to investments in these international subsidiaries that are permanently reinvested is not practicable and not expected in the foreseeable future.

Hypothetical Additional Paid in Capital (“APIC”) Pool— The hypothetical APIC pool represents the excess tax benefits related to share-based compensation that are available to absorb future tax deficiencies. If the amount of tax deficiencies is greater than the available hypothetical APIC pool, we record the excess as income tax expense in our consolidated statements of operations. During fiscal 2013, we recognized $3.3 million of income tax expense resulting from tax deficiencies related to share-based compensation in our consolidated statements of operations. We did not recognize any tax expense resulting from tax deficiencies during fiscal 2012 or 2011.

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NOTE 11—LONG-TERM DEBT

On September 1, 2011, we established a new five-year, $325.0 million revolving credit facility (the “Facility”). This Facility replaced our previous $300.0 million six-year term-loan facility and $75.0 million revolving credit facility. The Facility matures on September 1, 2016 and is payable in full upon maturity. We may request to increase the Facility by up to $75.0 million. Under the Facility, $25.0 million is available for the issuance of standby letters of credit, $10.0 million is available as swing line loans and $50.0 million is available for multicurrency borrowings. Amounts repaid under the Facility may be re-borrowed.

The Facility is secured by a first priority lien and security interest in (a) all of the equity interests and intercompany debt of our direct and indirect subsidiaries, except, in the case of foreign subsidiaries, to the extent that such pledge would be prohibited by applicable law or would result in adverse tax consequences, (b) all of our present and future tangible and intangible assets and our direct and indirect subsidiaries (other than immaterial subsidiaries and foreign subsidiaries) and (c) all proceeds and products of the property and assets described in clauses (a) and (b) above. Our obligations under the Facility are guaranteed by our direct and indirect wholly-owned subsidiaries (other than immaterial subsidiaries and foreign subsidiaries).

At our option, loans under the Facility will bear stated interest based on the Base Rate or Eurocurrency Rate, in each case plus the Applicable Rate (respectively, as defined in the credit agreement (the “Credit Agreement”), as amended governing the facility in Exhibit 10.1). The Base Rate will be, for any day, a fluctuating rate per annum equal to the highest of (a) 1/2 of 1.00% per annum above the Federal Funds Rate (as defined in the Credit Agreement), (b) Bank of America’s prime rate and (c) the Eurodollar Rate for a term of one month plus 1.00%. Eurodollar borrowings may be for one, two, three or six months (or such period that is 12 months or less, requested by Intersil and consented to by all the Lenders) and will be at an annual rate equal to the period-applicable Eurodollar Rate plus the Applicable Rate. The Applicable Rate for all revolving loans is based on a pricing grid ranging from 0.75% to 1.75% per annum for Base Rate loans and 1.75% to 2.75% for Eurocurrency Rate loans based on Intersil’s Consolidated Leverage Ratio (as defined in the Credit Agreement). 

During the year ended December 28, 2012, we obtained two amendments to the Facility which further revised the requirements of certain debt covenants. We incurred fees related to the amendments of approximately $0.9 million, which have also been capitalized as part of the debt issuance costs.

During the year ended December 30, 2011, we settled our previous term-loan facility for $278.2 million and recorded a loss on extinguishment of debt for the write-off of unamortized loan fees of $8.4 million.

We did not have any outstanding borrowings against the Facility as of January 3, 2014 or December 28, 2012.

 

 

 

Letters of Credit: We issue letters of credit during the ordinary course of business through major financial institutions as required by certain vendor contracts. We had outstanding letters of credit totaling $1.4 million as of January 3, 2014, and $2.2 million as of December 28, 2012. The standby letters of credit are secured by pledged deposits.

NOTE 12—INCOME FROM INTELLECTUAL PROPERTY (“IP”) AGREEMENTS

During the fourth quarter ended December 28, 2012, we recorded income of $1.0 million related to the sale of several patents. During the third quarter of fiscal year 2012, we recorded proceeds of $20.0 million, net of $6.6 million of legal costs, related to an IP agreement settling a trade secret misappropriation and patent infringement dispute with another semiconductor company.  

 

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NOTE 13—COMMON STOCK AND DIVIDENDS

Common Stock—Intersil shareholders approved an Amended and Restated Certificate of Incorporation in 2005 that restated authorized capital stock to consist of 600 million shares of Intersil Class A common stock, par value $0.01 per share, and two million shares of preferred stock. Holders of Class A common stock are entitled to one vote for each share held. The Board of Directors has broad discretionary authority to designate the terms of the preferred stock should it be issued. As of January 3, 2014 and December 28, 2012, no shares of preferred stock were outstanding.

The table below summarizes the Class A common stock activity for all periods presented ($ in thousands, except per share amounts; shares in thousands):

 

 

Dividends—we have paid a quarterly dividend since September 2003. In January 2014, the Board of Directors declared a dividend of $0.12 per share to be paid in the first quarter of 2014, which if annualized equates to $0.48 per share. Dividends in the future will be declared at the discretion of the Board of Directors upon consideration of business conditions, liquidity and outlook.

Share Repurchases—On August 6, 2012, our Board of Directors authorized the repurchase of up to $50.0 million of Intersil’s common stock. The stock repurchase program was for a period of 12 months and expired in August 2013. During fiscal year 2012, we repurchased and retired 1.9 million shares under the program at an average price per share of $8.03. We did not repurchase any shares during fiscal year 2013.

NOTE 14—RISKS AND UNCERTAINTIES

Financial instruments - Financial instruments that potentially subject us to significant concentrations of credit risk consist primarily of cash equivalents, investments, accounts receivable and derivatives. We continually monitor our positions with and the credit quality of the governmental and financial institutions that issue our cash equivalents and investments. By policy, we limit our exposure to long-term investments and mitigate the credit risk through diversification and adherence to a policy requiring the purchase of highly-rated securities. In addition, we limit the amount of investment credit exposure with any one issuer. For foreign exchange contracts, we manage potential credit exposure primarily by restricting transactions with only high-credit quality counterparties.

We market our products for sale to customers, including distributors, primarily in Asia and the United States. We extend credit based on an evaluation of the customer’s financial condition and we generally do not require collateral.

Concentration of Operational Risk—We market our products for sale to customers, including distributors, primarily in Asia and the United States. We extend credit based on an evaluation of the customer’s financial condition and we generally do not require collateral. The table below shows revenue by country where such value exceeded 10% in any one year:

 

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In addition to those in the table above, our customers in each of Korea, Japan, Germany, Singapore, Taiwan, and Thailand, accounted for at least 1% of our total revenue in fiscal year 2013.

One distributor, Avnet, Inc (“Avnet”) represented 17.0%,  14.9%, and 11.4% of revenue during fiscal years 2013, 2012 and 2011 respectively and 24.6% and 19.2% of trade receivables as of January 3, 2014 and December 28, 2012. Another distributor, WPG Holdings Ltd. (“WPG”) represented 12.2%,  12.8% and 11.4% of revenue during fiscal years 2013, 2012 and 2011 respectively and 13.8% and 18.3% of accounts receivable as of January 3, 2014 and December 28, 2012. The loss of any one or more of these customers could result in a materially negative impact on our business.

We rely on external vendors for 88.4% of our wafer supply as measured in units. Additionally, we rely primarily on external vendors for test, assembly and packaging services. The test, assembly and packaging vendors we utilize are mostly located in Asia, where a significant volume of our final product sales are made. 

Geographic Information—The following table presents net revenue and long-lived asset information based on geographic region. Net revenue is based on the geographic location of the distributors, original equipment manufacturers or contract manufacturers who purchased our products, which may differ from the geographic location of the end customers. Long-lived assets include property, plant and equipment and are based on the physical location of the assets (in thousands):

 

Concentration of other risks - The semiconductor industry is characterized by rapid technological change, competitive pricing pressures, and cyclical market patterns. Our results of operations are affected by a wide variety of factors, including general economic conditions; economic conditions specific to the semiconductor industry; demand for our products; the timely introduction of new products; implementation of new manufacturing technologies; manufacturing capacity; the availability and cost of materials and supplies; competition; the ability to safeguard patents and intellectual property in a rapidly evolving market; and reliance on assembly and manufacturing foundries, independent distributors and sales representatives. As a result, we may experience substantial period-to-period fluctuations in future operating results due to the factors mentioned above or other factors.

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NOTE 15—EARNINGS (LOSS) PER SHARE

The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share amounts):

 

NOTE 16—EQUITY-BASED COMPENSATION

Our equity compensation plans are summarized below (in thousands):

 

 

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Grant Date Fair Values and Underlying Assumptions; Contractual Terms

For Options granted in fiscal years 2013 and 2012, we estimated the fair value of each Option as of the date of grant with the following assumptions:

 

The following table represents the weighted-average fair value compensation cost per share of Options and Awards granted:

 

 

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Information Regarding Options and Awards—Information about Options and Awards as of January 3, 2014 and activity for Options and Awards for the three years then ended is presented below:

 

 

 

The weighted-average recognition period for the compensation cost is 1.9 years. The unrecognized compensation cost is expected to be recognized over a period of 4.0 years.

 

 

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The following table is a summary of the number and weighted-average grant date fair values regarding our unexercisable/unvested Options and Awards as of January 3, 2014 and activity during the year then ended (in thousands):

 

 

Financial Statement Effects and Presentation—The following table shows total equity-based compensation expense for the periods indicated that are included in the accompanying Consolidated Statements of Operations (in thousands):

 

Market and Performance-based Grants — As of January 3, 2014, we had Options and Awards outstanding that include the usual service conditions as well as (1) market conditions related to total shareholder return and (2) performance conditions relating to revenue and operating income relative to peer companies. Under the terms of the agreements, participants may receive from 0 - 200% of the original grant. Stock-based compensation cost is measured at the grant date, based on the fair value of the number of shares ultimately expected to vest, and is recognized as an expense, on a straight line basis, over the requisite service period (shares in thousands):

 

 

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NOTE 17—COMMITMENTS AND CONTINGENCIES

Indemnifications—The Harris Corporation (“Harris”) facilities in Palm Bay, Florida, are listed on the National Priorities List (“NPL”) for groundwater clean-up under the Comprehensive Environmental Response, Compensation and Liabilities Act, or Superfund. Intersil’s adjacent facility is included in the listing since it was owned by Harris at the time of the listing. Remediation activities associated with the NPL site have ceased. However, Harris is still obligated to conduct groundwater monitoring on the affected property for an unspecified period of time. Harris has indemnified Intersil against any environmental liabilities associated with this contamination. This indemnification does not expire, nor does it have a maximum amount.

Our former facility in Kuala Lumpur, Malaysia, which we sold in June 2000, has known groundwater contamination from past operations. The contamination was discovered in May 2000 during the closure activities associated with a former waste storage pad. This contamination has been attributed to activities conducted prior to Intersil’s acquisition of the facility from Harris. Harris is conducting additional investigations and some remediation may be required. Harris has indemnified Intersil against any environmental liabilities associated with this contamination, and Intersil likewise is indemnifying the purchaser against those liabilities. Harris’ indemnification of us and our indemnification of purchaser have no expiration date, nor do they have a maximum amount.

A former semiconductor manufacturing site in Taoyuan, Taiwan operated by RCA and/or General Electric allegedly has groundwater contamination and is subject to cleanup and monitoring efforts as well as claims of environmental pollution that allegedly caused adverse health effects. To the extent our Taiwan subsidiary is the successor in interest to any of RCA or General Electric’s activities at that site, Harris has indemnified Intersil against any environmental liabilities associated with the alleged contamination. This indemnification does not expire, nor does it have a maximum amount.

We generally provide customers with a limited indemnification against intellectual property infringement claims related to our products. We accrue for known indemnification issues if a loss is probable and can be reasonably estimated, and accrue for estimated incurred but unidentified issues based on historical activity.

In certain instances when we sell product groups, we may retain certain liabilities for known exposures and provide indemnification to the buyer with respect to future claims arising from events occurring prior to the sale date, including liabilities for taxes, legal matters, intellectual property infringement, environmental exposures and other obligations. The terms of the indemnifications vary in duration, from one to two years for certain types of indemnities, to terms for tax indemnifications that are generally aligned to the applicable statute of limitations for the jurisdiction in which the divestiture occurred, and terms for environmental indemnities that typically do not expire. The maximum potential future payments that we could be required to make under these indemnifications are either contractually limited to a specified amount or unlimited. We believe that the maximum potential future payments that we could be required to make under these indemnifications are not determinable at this time, as any future payments would be dependent on the type and extent of the related claims, and all available defenses, which are not estimable. 

Leases and Commitments—Total rental expense amounted to $8.8 million, $11.0 million and $11.1 million for 2013, 2012 and 2011, respectively. Future minimum lease commitments under non-cancelable operating leases primarily related to land and office buildings amounted to approximately $42.2 million as of January 3, 2014.

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The following table sets forth future minimum lease commitments and non-cancelable purchase commitments as of January 3, 2014 (in thousands):

 

 

 

NOTE 18—LITIGATION MATTERS

A portion of our activities are subject to export control regulations by the U.S. Department of State (DOS) under the U.S. Arms Export Control Act (AECA) and International Traffic in Arms Regulations (ITAR 22 CFR 120-130). In September 2010, in response to a request for information, we disclosed to the Directorate of Defense Trade Controls (DDTC) information concerning export activities for the time frame 2005 through 2010. The DOS administers the DDTC authority under ITAR 22 CFR 120-130 to impose civil penalties and other administrative sanctions for violations, including debarment from engaging in the exporting of defense articles. In June of 2013, DDTC notified us of potential violations of the ITAR and that it is considering pursuing administrative proceedings under Part 128 of the ITAR. We are currently in the process of negotiating the terms of a Consent Agreement with the DDTC for purposes of settling this matter. The Consent Agreement would include, among other things, a penalty estimated to be between $6.0 million and $12.0 million, a portion of which would be suspended and eligible for credit based on qualified expenditures and investments made by Intersil. The qualified expenditures are subject to the approval of the DDTC. During the third quarter of fiscal year 2013, we recorded a charge of $6.0 million relating to this matter. The resolution of this matter will not result in debarment from engaging in the exporting of defense articles and will not impact our ability to transact business internationally.

Texas Advanced Optoelectronic Solutions, Inc. (“TAOS”) named Intersil as a defendant in a lawsuit filed on November 25, 2008, in the United States District Court for the Eastern District of Texas. In this action, TAOS alleges patent infringement, breach of contract, trade secret misappropriation, and tortuous interference with a business relationship, seeking damages and injunctive relief. We dispute TAOS’ claims and are defending ourselves vigorously. The judge issued a claim construction order in June 2013. Subsequently, there will be further discovery and pre-trial motion practice. A trial date has yet to be scheduled.

We estimate the possible, but not necessarily probable, range of loss in the TAOS matter to be from $0.0 to $17.0 million. However, because we believe the defense of these matters to be probable, we record accruals for estimated costs to defend these positions, exclusive of settlement or judgment costs. As of January 3, 2014, we have recorded approximately $0.5 million related to defense costs.

We are currently party to various claims and legal proceedings, including those discussed above. When we believe that a loss is probable and the amount of the loss can be reasonably estimated, we recognize the estimated amount of the loss. We include legal costs in the estimate of losses. As additional information becomes available, we reassess any potential liability related to these matters and, if necessary, revise the estimates.

We believe that the ultimate outcome of these matters, individually and in the aggregate will not have a material adverse effect on our financial position or overall trends in results of our operations. However, litigation is subject to inherent uncertainties and unfavorable rulings could occur, including an award of monetary damages or issuance of an injunction prohibiting us from selling one or more products. It is possible that an unfavorable ruling could have a material adverse impact on the results of our operations for the period in which the ruling occurs, or in future periods. 

 

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NOTE 19—QUARTERLY FINANCIAL DATA (UNAUDITED)

The following is a summary of unaudited quarterly financial information for the periods indicated (in thousands, except per share data):

 

 

—End of Consolidated Financial Statements—

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Item 9.Changes in and Disagreements With Accountants on Accounting and Financial Disclosure.

None.

Item 9A.Controls and Procedures.

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Chief Executive Officer, or CEO, and Chief Financial Officer, or CFO, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(c) of the Exchange Act) as of the end of the period covered by this Annual Report on Form 10-K.

Based on this evaluation, our CEO and CFO concluded that, as of the end of the period covered by this Annual Report on Form 10-K, our disclosure controls and procedures were (1) designed to ensure that material information relating to us, including our consolidated subsidiaries, is made known to our CEO and CFO by others within those entities, particularly during the period in which this report was being prepared and (2) effective in providing reasonable assurance that all material information required to be disclosed by Intersil in the reports that it files or furnishes under the Securities Exchange Act of 1934, as amended (the ”Exchange Act”) is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission (“SEC”), and that all such material information is accumulated and communicated to our management, including our CEO and CFO, to allow timely decisions regarding required disclosures.

No change in our internal control over financial reporting (as defined in Rules 13-a-15(f) and 15d-15(f) under the Exchange Act) occurred during the last fiscal quarter, that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting

Management Report on Internal Control over Financial Reporting

Our management is responsible for establishing and maintaining adequate internal control over financial reporting to provide reasonable assurance regarding the reliability of our financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of company assets; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures are being made only in accordance with authorizations of our management and directors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of company assets that could have a material effect on the financial statements.

Management assessed our internal control over financial reporting as of January 3, 2014, the end of our fiscal year. Management based its assessment on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (1992 framework). Management’s assessment included evaluation of such elements as the design and operating effectiveness of key financial reporting controls, process documentation, accounting policies, and our overall control environment. This assessment is supported by testing and monitoring by our management and Internal Audit organizations.

Based on this assessment, management has concluded that our internal control over financial reporting was effective as of the end of the fiscal year to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external reporting purposes in accordance with generally accepted accounting principles. Furthermore, management has concluded that no change in internal control over financial reporting occurred during Intersil’s fourth quarter ended January 3, 2014 that has materially affected, or is reasonably likely to materially affect, such internal control over financial reporting. Management reviewed the results of its assessment with the Audit Committee of our Board of Directors. The effectiveness of our internal control over financial reporting as of January 3, 2014 has been audited by KPMG LLP, an independent registered public accounting firm, as stated in its report which is included in Item 8 of this Annual Report on Form 10-K.

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Inherent Limitations on Effectiveness of Controls

Our management, including our CEO and CFO, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all error and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance of achieving the desired control objectives. The design of a control system must reflect the fact that the benefits of controls must be considered relative to their costs. Further, because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud, if any, within Intersil have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Projections of any evaluation of controls effectiveness to future periods are subject to risks. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures. 

Item 9B.Other Information.

None.

PART III

Item 10.Directors, Executive Officers and Corporate Governance.

Members of the Board of Directors

The following individuals served on our Board of Directors as of January 3, 2014:

Robert W. Conn;  James V. Diller; Gary E. Gist;  Mercedes Johnson;  Gregory Lang;  Donald Macleod; Jan Peeters;  Robert N. Pokelwaldt;  Necip Sayiner; and James A. Urry. The information required to be reported with respect to the directors listed in this paragraph pursuant to Item 401 of Regulation S-K will appear under the caption, “Election of Directors (Item 1 on Proxy Ballot)” in the definitive Proxy Statement relating to our 2014 Annual Meeting of Shareholders, to be filed by us with the SEC pursuant to Section 14(a) of the Exchange Act and is hereby specifically incorporated herein by reference thereto.

Executive Officers and Key Employees

The executive officers and key employees of Intersil as of January 3, 2014 were as follows:

Necip Sayiner; Richard Crowley; Susan J. Hardman; Andrew M. Cowell; Gerald J. Edwards; Mark Downing; Vern Kelley; Roger Wendelken; Thomas C. Tokos; and Philip Chesley. The information required to be reported with respect to the executive officers and key employees listed in this paragraph pursuant to Item 401 of Regulation S-K will appear under the caption “Executive Officers and Key Employees” in the definitive Proxy Statement relating to our 2014 Annual Meeting of Shareholders, to be filed by us with the SEC pursuant to Section 14(a) of the Exchange Act, and is hereby specifically incorporated herein by reference thereto.

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The information required under this item with respect to the compliance with Section 16(a) of the Exchange Act will appear under the caption “Section 16(a) Beneficial Ownership Reporting Compliance” in the definitive Proxy Statement relating to our 2014 Annual Meeting of Shareholders, to be filed by us with the SEC pursuant to Section 14(a) of the Exchange Act, and is hereby specifically incorporated herein by reference thereto.

The information required under this item with respect to our Audit, Compensation and Nominating and Governance Committees will appear under the captions “Corporate Governance—Committees of the Board—Audit Committee,” “Corporate Governance—Committees of the Board—Compensation Committee,” and “Corporate Governance—Committees of the Board—Nominating and Governance Committee” in the definitive Proxy Statement relating to our 2014 Annual Meeting of Shareholders, to be filed by us with the SEC pursuant to Section 14(a) of the Exchange Act, and is hereby specifically incorporated herein by reference thereto.

We have adopted a Code of Ethics applicable to our Senior Financial Officers, including our CEO, CFO and other persons performing similar functions. A copy of the Code of Ethics is available on the Investor Relations section of our website at, www.intersil.com/investor.  Any amendment to, or waiver of, any provision of the Code of Ethics will be disclosed on our website within five business days following such amendment or waiver.

Item 11.Executive Compensation.

The information required under this item will appear under the captions “Executive Compensation” and “Director Compensation” in the definitive Proxy Statement relating to our 2014 Annual Meeting of Shareholders, to be filed by us with the SEC pursuant to Section 14(a) of the Exchange Act, and is hereby specifically incorporated herein by reference thereto.

Item 12.Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.

The information required under this item will appear under the captions “Equity Compensation Plan Information,” “Security Ownership of Certain Beneficial Owners and Directors and Officers” and “Potential Payments Upon Termination or Change-in-Control Benefits” in the definitive Proxy Statement relating to our 2014 Annual Meeting of Shareholders, to be filed by us with the SEC pursuant to Section 14(a) of the Exchange Act, and is hereby specifically incorporated herein by reference thereto.

Item 13.Certain Relationships and Related Transactions, and Director Independence.

The information required under this item will appear under the caption “Corporate Governance” in the definitive Proxy Statement relating to our 2014 Annual Meeting of Shareholders, to be filed by us with the SEC pursuant to Section 14(a) of the Exchange Act, and is hereby specifically incorporated herein by reference thereto.

Item 14.Principal Accounting Fees and Services.

The information required under this item will appear under the captions “Corporate Governance—Committees of the Board—Audit Committee,” “Ratification of Appointment of Independent Registered Public Accounting Firm” (Item 2 on Proxy Ballot), “Audit and Other Fees Paid to KPMG LLP” ” in the definitive Proxy Statement relating to our 2014 Annual Meeting of Shareholders, to be filed by us with the SEC pursuant to Section 14(a) of the Exchange Act, and is hereby specifically incorporated herein by reference thereto.

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PART IV

Item 15.Exhibits, Financial Statement Schedules.

SCHEDULE II

VALUATION AND QUALIFYING ACCOUNTS

(in thousands) 

 

 

The additions charged to costs and expenses are classified as reduction of revenue for the allowance for uncollectible accounts and sales returns and allowances. Inventory allowance additions are classified as cost of revenues.

All other schedules for which provision is made in the applicable accounting regulation of the SEC are not required under the related instructions or are inapplicable and therefore have been omitted.

 

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INDEX TO EXHIBITS

 

 

 

*Filed herewith.

Attached as Exhibit 101 to this report are the following, formatted in XBRL (Extensible Business Reporting Language): (i) Consolidated Statements of Operations, (ii) Consolidated Statements of Comprehensive Income (loss), (iii) Consolidated Statements of Cash Flows, (iv) Consolidated Balance Sheets, (v) Consolidated Statements of Shareholders’ Equity and (vi) Notes to Consolidated Financial Statements.

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

 

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

 

 

 

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