ARRIS GROUP, INC.
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
For the quarter ended March 31, 2006
of
ARRIS GROUP, INC.
A Delaware Corporation
IRS Employer Identification No. 58-2588724
SEC File Number 000-31254
3871 Lakefield Drive
Suwanee, GA 30024
(770) 622-8400
ARRIS Group, Inc. (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, and (2) has been subject to such
filing requirements for the past 90 days.
ARRIS Group, Inc. is a large accelerated filer and is not a shell company.
As of April 30, 2006, 106,920,664 shares of the registrants Common Stock, $0.01 par value, were
outstanding.
ARRIS GROUP, INC.
FORM 10-Q
For the Three Months Ended March 31, 2006
INDEX
PART I. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
ARRIS GROUP, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
|
|
|
|
|
|
|
|
|
|
|
March 31, |
|
|
December 31, |
|
|
|
2006 |
|
|
2005 |
|
|
|
(unaudited) |
|
|
|
|
|
ASSETS |
|
|
|
|
|
|
|
|
Current assets: |
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
129,559 |
|
|
$ |
75,286 |
|
Short-term investments, at fair value |
|
|
36,250 |
|
|
|
54,250 |
|
|
|
|
|
|
|
|
Total cash, cash equivalents and short-term investments |
|
|
165,809 |
|
|
|
129,536 |
|
Restricted cash |
|
|
6,092 |
|
|
|
6,073 |
|
Accounts receivable (net of allowances for doubtful
accounts of $3,692 in 2006 and $3,729 in 2005) |
|
|
91,360 |
|
|
|
83,540 |
|
Other receivables |
|
|
4,138 |
|
|
|
286 |
|
Inventories, net |
|
|
99,673 |
|
|
|
113,909 |
|
Prepaid assets |
|
|
4,094 |
|
|
|
10,945 |
|
Other current assets |
|
|
3,251 |
|
|
|
4,331 |
|
|
|
|
|
|
|
|
Total current assets |
|
|
374,417 |
|
|
|
348,620 |
|
Property, plant and equipment (net of accumulated
depreciation of $71,761 in 2006 and $69,309 in 2005) |
|
|
24,327 |
|
|
|
25,557 |
|
Goodwill |
|
|
150,569 |
|
|
|
150,569 |
|
Intangibles (net of accumulated amortization of $106,418
in 2006 and $106,200 in 2005) |
|
|
702 |
|
|
|
920 |
|
Investments |
|
|
3,358 |
|
|
|
3,321 |
|
Other assets |
|
|
388 |
|
|
|
416 |
|
|
|
|
|
|
|
|
|
|
$ |
553,761 |
|
|
$ |
529,403 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND STOCKHOLDERS EQUITY |
|
|
|
|
|
|
|
|
Current liabilities: |
|
|
|
|
|
|
|
|
Accounts payable |
|
$ |
41,478 |
|
|
$ |
35,920 |
|
Accrued compensation, benefits and related taxes |
|
|
9,503 |
|
|
|
20,424 |
|
Accrued warranty |
|
|
8,020 |
|
|
|
8,479 |
|
Other accrued liabilities |
|
|
22,151 |
|
|
|
20,633 |
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
81,152 |
|
|
|
85,456 |
|
Accrued pension |
|
|
12,943 |
|
|
|
12,636 |
|
Other long-term liabilities |
|
|
5,618 |
|
|
|
5,594 |
|
|
|
|
|
|
|
|
Total liabilities |
|
|
99,713 |
|
|
|
103,686 |
|
Stockholders equity: |
|
|
|
|
|
|
|
|
Preferred stock, par value $1.00 per share, 5.0 million
shares authorized; none issued and outstanding |
|
|
|
|
|
|
|
|
Common stock, par value $0.01 per share, 320.0 million
shares authorized; 106.7 million and 105.6 million
shares issued and outstanding in 2006 and 2005,
respectively |
|
|
1,081 |
|
|
|
1,069 |
|
Capital in excess of par value |
|
|
740,954 |
|
|
|
732,405 |
|
Accumulated deficit |
|
|
(284,831 |
) |
|
|
(305,555 |
) |
Unrealized gain on marketable securities |
|
|
1,114 |
|
|
|
1,077 |
|
Unfunded pension losses |
|
|
(4,618 |
) |
|
|
(4,618 |
) |
Unrealized gain on derivatives |
|
|
532 |
|
|
|
1,523 |
|
Cumulative translation adjustments |
|
|
(184 |
) |
|
|
(184 |
) |
|
|
|
|
|
|
|
Total stockholders equity |
|
|
454,048 |
|
|
|
425,717 |
|
|
|
|
|
|
|
|
|
|
$ |
553,761 |
|
|
$ |
529,403 |
|
|
|
|
|
|
|
|
See accompanying notes to the consolidated financial statements.
2
ARRIS GROUP, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
(in thousands, except per share data and percentages)
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
March 31, |
|
|
|
2006 |
|
|
2005 |
|
Net sales |
|
$ |
208,344 |
|
|
$ |
135,924 |
|
Cost of sales |
|
|
151,837 |
|
|
|
99,133 |
|
|
|
|
|
|
|
|
Gross margin |
|
|
56,507 |
|
|
|
36,791 |
|
Gross margin %. |
|
|
27.1 |
% |
|
|
27.1 |
% |
Operating expenses: |
|
|
|
|
|
|
|
|
Selling, general, and administrative expenses |
|
|
21,278 |
|
|
|
16,519 |
|
Research and development expenses |
|
|
15,074 |
|
|
|
14,801 |
|
Restructuring and impairment charges |
|
|
328 |
|
|
|
198 |
|
Amortization of intangibles |
|
|
218 |
|
|
|
557 |
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
36,898 |
|
|
|
32,075 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income |
|
|
19,609 |
|
|
|
4,716 |
|
Other expense (income): |
|
|
|
|
|
|
|
|
Interest expense |
|
|
10 |
|
|
|
1,018 |
|
Loss on investments |
|
|
|
|
|
|
75 |
|
Loss (gain) on foreign currency |
|
|
(317 |
) |
|
|
935 |
|
Interest income |
|
|
(1,520 |
) |
|
|
(609 |
) |
Other expense (income), net |
|
|
106 |
|
|
|
51 |
|
|
|
|
|
|
|
|
Income from continuing operations before income taxes |
|
|
21,330 |
|
|
|
3,246 |
|
Income tax expense (benefit) |
|
|
628 |
|
|
|
(152 |
) |
|
|
|
|
|
|
|
Net income from continuing operations |
|
|
20,702 |
|
|
|
3,398 |
|
Income from discontinued operations |
|
|
21 |
|
|
|
10 |
|
|
|
|
|
|
|
|
Net income |
|
$ |
20,723 |
|
|
$ |
3,408 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per common share: |
|
|
|
|
|
|
|
|
Basic: |
|
|
|
|
|
|
|
|
Income from continuing operations |
|
$ |
0.20 |
|
|
$ |
0.04 |
|
Income from discontinued operations |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
0.20 |
|
|
$ |
0.04 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted: |
|
|
|
|
|
|
|
|
Income from continuing operations |
|
$ |
0.19 |
|
|
$ |
0.04 |
|
Income from discontinued operations |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
0.19 |
|
|
$ |
0.04 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average common shares: |
|
|
|
|
|
|
|
|
Basic |
|
|
106,227 |
|
|
|
87,851 |
|
|
|
|
|
|
|
|
Diluted |
|
|
109,345 |
|
|
|
90,497 |
|
|
|
|
|
|
|
|
See accompanying notes to the consolidated financial statements.
3
ARRIS GROUP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
March 31, |
|
|
|
2006 |
|
|
2005 |
|
Operating activities: |
|
|
|
|
|
|
|
|
Net income |
|
$ |
20,723 |
|
|
$ |
3,408 |
|
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating
activities: |
|
|
|
|
|
|
|
|
Depreciation |
|
|
2,618 |
|
|
|
2,727 |
|
Amortization of intangibles |
|
|
218 |
|
|
|
557 |
|
Stock compensation expense |
|
|
2,248 |
|
|
|
553 |
|
Excess tax benefits from stock-based compensation plans |
|
|
(169 |
) |
|
|
|
|
Amortization of deferred finance fees |
|
|
|
|
|
|
153 |
|
Provision for doubtful accounts |
|
|
(265 |
) |
|
|
(153 |
) |
Gain related to Adelphia receivables |
|
|
(475 |
) |
|
|
|
|
Loss on disposal of fixed assets |
|
|
2 |
|
|
|
(12 |
) |
Loss on investments |
|
|
|
|
|
|
75 |
|
Impairment of long-lived assets |
|
|
|
|
|
|
291 |
|
Gain on discontinued product lines |
|
|
(21 |
) |
|
|
(10 |
) |
Changes in operating assets and liabilities, net of effect of
acquisitions and dispositions: |
|
|
|
|
|
|
|
|
Accounts receivable |
|
|
(7,555 |
) |
|
|
(8,124 |
) |
Other receivables |
|
|
(3,852 |
) |
|
|
20 |
|
Inventory |
|
|
14,236 |
|
|
|
16,387 |
|
Accounts payable and accrued liabilities |
|
|
(3,666 |
) |
|
|
(8,833 |
) |
Other, net |
|
|
7,280 |
|
|
|
(133 |
) |
|
|
|
|
|
|
|
Net cash provided by (used in) operating activities |
|
|
31,322 |
|
|
|
6,906 |
|
|
|
|
|
|
|
|
|
|
Investing activities: |
|
|
|
|
|
|
|
|
Purchases of property, plant and equipment |
|
|
(1,389 |
) |
|
|
(1,924 |
) |
Cash proceeds from sale of property, plant and equipment |
|
|
|
|
|
|
40 |
|
Purchases of short-term investments |
|
|
|
|
|
|
(5,000 |
) |
Disposals of short-term investments |
|
|
18,000 |
|
|
|
1,600 |
|
Purchases of equity investments |
|
|
|
|
|
|
(259 |
) |
|
|
|
|
|
|
|
Net cash provided by (used in) investing activities |
|
|
16,611 |
|
|
|
(5,543 |
) |
|
|
|
|
|
|
|
|
|
Financing activities: |
|
|
|
|
|
|
|
|
Excess tax benefits from stock-based compensation plans |
|
|
169 |
|
|
|
|
|
Proceeds from issuance of stock |
|
|
6,171 |
|
|
|
111 |
|
|
|
|
|
|
|
|
Net cash provided by (used in) financing activities |
|
|
6,340 |
|
|
|
111 |
|
Net increase (decrease) in cash and cash equivalents |
|
|
54,273 |
|
|
|
1,474 |
|
Cash and cash equivalents at beginning of period |
|
|
75,286 |
|
|
|
25,072 |
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period |
|
$ |
129,559 |
|
|
$ |
26,546 |
|
|
|
|
|
|
|
|
See accompanying notes to the consolidated financial statements.
4
ARRIS GROUP, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Note 1. Organization and Basis of Presentation
ARRIS Group, Inc. (together with its consolidated subsidiaries, except as the context otherwise
indicates, ARRIS or the Company), is an international communications technology company,
headquartered in Suwanee, Georgia. ARRIS operates in one business segment, Communications,
providing a range of customers with network and system products and services, primarily hybrid
fiber-coax networks and systems, for the communications industry. ARRIS is a leading developer,
manufacturer and supplier of telephony, data, video, construction, rebuild and maintenance
equipment for the broadband communications industry. The Company provides its customers with
products and services that enable reliable, high-speed, two-way broadband transmission of video,
telephony, and data.
The consolidated financial statements reflect all adjustments (consisting of normal recurring
accruals) that are, in the opinion of management, necessary for a fair presentation of the
consolidated financial statements for the periods shown. Additionally, certain prior period
amounts have been reclassified to conform to the 2006 financial statement presentation. Interim
results of operations are not necessarily indicative of results to be expected from a twelve-month
period. These financial statements should be read in conjunction with the Companys most recently
audited consolidated financial statements and notes thereto included in the Companys Annual Report
on Form 10-K for the year ended December 31, 2005, as filed with the United States Securities and
Exchange Commission (SEC).
Note 2. Impact of Recently Issued Accounting Standards
In June 2005, the Financial Accounting Standards Board (FASB) issued Statement of Financial
Accounting Standards (SFAS) No. 154, Accounting Changes and Error Corrections a replacement of
APB Opinion No. 20 and FASB Statement No. 3. Opinion 20 previously required that most voluntary
changes in accounting principle be recognized by including, in net income of the period of the
change the cumulative effect of changing to the new accounting principle. SFAS No. 154 requires
retrospective application to prior periods financial statements of changes in accounting
principle, unless it is impracticable to determine either the period-specific effects or the
cumulative effect of the change. SFAS No. 154 was effective for accounting changes and corrections
of errors made in fiscal years beginning after December 15, 2005. The adoption of SFAS No. 154 did
not have an effect on the unaudited consolidated financial statements. The Company will continue to
apply the requirements of SFAS No. 154 to any future accounting changes and error corrections.
In December 2004, the FASB issued SFAS No. 153, Exchanges of Nonmonetary Assets An Amendment of
APB Opinion No. 29, Accounting for Nonmonetary Transactions. The standard requires that
nonmonetary asset exchanges should be recorded and measured at the fair value of the assets
exchanged, with certain exceptions. Productive assets must be accounted for at fair value, rather
than at carryover basis, unless neither the asset received nor the asset surrendered has a fair
value that is determinable within reasonable limits or the transactions lack commercial substance.
SFAS No. 153 states that a nonmonetary exchange has commercial substance if the future cash flows
of the entity are expected to change significantly as a result of the exchange. SFAS No. 153 was
effective on January 1, 2006. The adoption of SFAS No. 153 did not have an effect on the Companys
unaudited consolidated financial statements.
In November 2004, the FASB issued SFAS No. 151, Inventory Costs An Amendment of ARB No. 43,
Chapter 4. SFAS No. 151 requires that abnormal amounts of idle facility expense, freight, handling
costs, and waste material be recognized as current period expense. Further, the standard requires
that the allocation of fixed production overhead to the costs of conversion be based on the normal
capacity of the production facilities. SFAS No. 151 was effective on January 1, 2006. The
adoption of SFAS No. 151 did not have an effect on the Companys unaudited consolidated financial
statements.
5
Note 3. Stock-Based Compensation
The Company elected to early adopt the fair value recognition provisions of SFAS No. 123R on July
1, 2005, using the modified prospective approach. Prior to the adoption date, ARRIS used the
intrinsic value method for valuing its awards of stock options and restricted stock and recorded
the related compensation expense, if any, in accordance with APB Opinion No. 25, Accounting for
Stock Issued to Employees and related interpretations. With the exception of some stock options
subject to variable accounting, no other stock-based employee or director compensation cost for
stock options was reflected in net income (loss) prior to July 1, 2005, as all options granted had
exercise prices equal to the market value of the underlying common stock on the date of grant. The
Company records equity compensation expense related to its restricted stock awards and director
stock units.
The following table compares the three months ended March 31, 2006 and 2005 had the Company applied
the provisions of SFAS No. 123R in the first quarter of 2005:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31, |
|
|
|
2006 |
|
|
2005 |
|
|
|
(in thousands, except per share data) |
|
|
|
(unaudited) |
|
Net income, as reported |
|
$ |
20,723 |
|
|
$ |
3,408 |
|
Add: Stock-based
compensation included in
reported net income, net of
taxes |
|
|
2,248 |
|
|
|
553 |
|
Deduct: Total stock-based
compensation expense
determined under fair value
based methods for all awards,
net of taxes |
|
|
(2,248 |
) |
|
|
(2,693 |
) |
|
|
|
|
|
|
|
Net income, pro forma |
|
$ |
20,723 |
|
|
$ |
1,268 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per common share: |
|
|
|
|
|
|
|
|
Basic as reported |
|
$ |
0.20 |
|
|
$ |
0.04 |
|
|
|
|
|
|
|
|
Basic pro forma |
|
$ |
0.20 |
|
|
$ |
0.01 |
|
|
|
|
|
|
|
|
Diluted as reported |
|
$ |
0.19 |
|
|
$ |
0.04 |
|
|
|
|
|
|
|
|
Diluted pro forma |
|
$ |
0.19 |
|
|
$ |
0.01 |
|
|
|
|
|
|
|
|
Note 4. Pension Benefits
Components of Net Periodic Pension Benefit Cost
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31, |
|
|
|
2006 |
|
|
2005 |
|
|
|
(in thousands) |
|
|
|
(unaudited) |
|
Service cost |
|
$ |
130 |
|
|
$ |
151 |
|
Interest cost |
|
|
369 |
|
|
|
379 |
|
Expected return on plan assets |
|
|
(281 |
) |
|
|
(255 |
) |
Amortization of prior service cost |
|
|
119 |
|
|
|
119 |
|
Amortization of net (gain) loss |
|
|
2 |
|
|
|
17 |
|
|
|
|
|
|
|
|
Net periodic pension cost |
|
$ |
339 |
|
|
$ |
411 |
|
|
|
|
|
|
|
|
Employer Contributions
No minimum funding contributions are required in 2006 under the Companys defined benefit plan.
However, the Company made voluntary contributions to the plan of approximately $16 thousand during
each three month period ended March 31, 2006 and 2005.
6
Note 5. Guarantees
Warranty
ARRIS provides warranties of various lengths to customers based on the specific product and the
terms of individual agreements. The Company provides for the estimated cost of product warranties
based on historical trends, the embedded base of product in the field, failure rates, and repair
costs at the time revenue is recognized. Expenses related to product defects and unusual product
warranty problems are recorded in the period that the problem is identified. While the Company
engages in extensive product quality programs and processes, including actively monitoring and
evaluating the quality of its suppliers, the estimated warranty obligation could be affected by
changes in ongoing product failure rates, material usage and service delivery costs incurred in
correcting a product failure, as well as specific product failures outside of ARRIS baseline
experience. If actual product failure rates, material usage or service delivery costs differ from
estimates, revisions (which could be material) would be recorded against the warranty liability.
ARRIS evaluates its warranty obligations on an individual product basis.
The Company offers extended warranties and support service agreements on certain products. Revenue
from these agreements is deferred at the time of the sale and recognized on a straight-line basis
over the contract period. Costs of services performed under these types of contracts are charged
to expense as incurred, which approximates the timing of the revenue stream.
Information regarding the changes in ARRIS aggregate product warranty liabilities for the three
months ending March 31, 2006 was as follows (in thousands):
|
|
|
|
|
Balance at December 31, 2005 |
|
$ |
8,479 |
|
Accruals related to warranties (including changes in estimates) |
|
|
584 |
|
Settlements made (in cash or in kind) |
|
|
(1,043 |
) |
|
|
|
|
Balance at March 31, 2006 (unaudited) |
|
$ |
8,020 |
|
|
|
|
|
Note 6. Restructuring and Impairment Charges
During the first quarter of 2004, ARRIS consolidated two facilities in Georgia, giving the Company
the ability to house many of its core technology, marketing, and corporate headquarters functions
in a single building. This consolidation resulted in a restructuring charge of $6.2 million in the
first quarter of 2004 related to lease commitments and the write-off of leasehold improvements and
other fixed assets. As of March 31, 2006, approximately $3.0 million related to the lease
commitments remained in the restructuring accrual to be paid. ARRIS expects the remaining payments
to be made by the second quarter of 2009 (end of lease).
|
|
|
|
|
|
|
(in millions) |
|
|
|
|
|
Balance as of December 31, 2005 |
|
$ |
3.1 |
|
First quarter payments |
|
|
(0.3 |
) |
Adjustments to accrual |
|
|
0.2 |
|
|
|
|
|
Balance as of March 31, 2006 (unaudited) |
|
$ |
3.0 |
|
|
|
|
|
7
In the third quarter of 2001, the Company announced a restructuring plan to outsource the
functions of most of its manufacturing facilities. This decision to reorganize was due in part to
the ongoing weakness in industry spending patterns. Also during the third quarter of 2001, the
Company reserved for lease commitments related to an excess facility in Atlanta. As a result of
market conditions at that time, ARRIS had downsized and the facility was vacant. As of March 31,
2006, the remaining $0.4 million balance in the restructuring reserve related to lease terminations
and other shutdown costs. The remaining costs are expected to be expended by the end of 2006 (end
of lease).
|
|
|
|
|
|
|
(in millions) |
|
|
|
|
|
Balance as of December 31, 2005 |
|
$ |
0.4 |
|
First quarter 2006 payments |
|
|
(0.1 |
) |
First quarter 2006 adjustments to accrual |
|
|
0.1 |
|
|
|
|
|
Balance as of March 31, 2006 (unaudited) |
|
$ |
0.4 |
|
|
|
|
|
Note 7. Inventories
The components of inventory are as follows, net of reserves (in thousands):
|
|
|
|
|
|
|
|
|
|
|
March 31, |
|
|
December 31, |
|
|
|
2006 |
|
|
2005 |
|
|
|
(unaudited) |
|
|
|
|
|
Raw material |
|
$ |
1,329 |
|
|
$ |
788 |
|
Finished goods |
|
|
98,344 |
|
|
|
113,121 |
|
|
|
|
|
|
|
|
Total net inventories |
|
$ |
99,673 |
|
|
$ |
113,909 |
|
|
|
|
|
|
|
|
Note 8. Property, Plant and Equipment
Property, plant and equipment, at cost, consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
March 31, |
|
|
December 31, |
|
|
|
2006 |
|
|
2005 |
|
|
|
(unaudited) |
|
|
|
|
|
Land |
|
$ |
1,822 |
|
|
$ |
1,822 |
|
Building and leasehold improvements |
|
|
11,113 |
|
|
|
11,126 |
|
Machinery and equipment |
|
|
83,153 |
|
|
|
81,918 |
|
|
|
|
|
|
|
|
|
|
|
96,088 |
|
|
|
94,866 |
|
Less: Accumulated depreciation |
|
|
(71,761 |
) |
|
|
(69,309 |
) |
|
|
|
|
|
|
|
Total property, plant and equipment, net |
|
$ |
24,327 |
|
|
$ |
25,557 |
|
|
|
|
|
|
|
|
Note 9. Goodwill and Intangible Assets
The Companys goodwill and indefinite lived intangible assets are reviewed annually for impairment
or more frequently if impairment indicators arise. The annual valuation is performed during the
fourth quarter of each year and is based upon managements analysis including an independent
valuation. Separable intangible assets that are not deemed to have an indefinite life are
amortized over their useful lives. Each of the Companys intangible assets has an amortization
period of three years.
The carrying amount of goodwill at both March 31, 2006 and December 31, 2005 was $150.6 million.
During the first quarter 2005, a decrease in expected future cash flows related to the Atoga
product line indicated that the long-lived assets associated with those products may be impaired.
As a result, the Company analyzed the fair value of those assets, using the expected cash flow
approach, in accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived
Assets. The resulting analysis indicated that the remaining intangibles of $0.2 million were fully
impaired and were written off in the first quarter 2005. There were no additional assets deemed to
be impaired in 2005 or in the first quarter of 2006.
8
The gross carrying amount and accumulated amortization of the Companys intangible assets, other
than goodwill, as of March 31, 2006 and December 31, 2005 are as follows (in thousands ) :
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2006 (unaudited) |
|
December 31, 2005 |
|
|
Gross |
|
Accumulated |
|
Net Book |
|
Gross |
|
Accumulated |
|
Net Book |
|
|
Amount |
|
Amortization |
|
Value |
|
Amount |
|
Amortization |
|
Value |
Existing
technology
acquired: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Arris
Interactive L.L.C. |
|
$ |
51,500 |
|
|
$ |
(51,500 |
) |
|
$ |
|
|
|
$ |
51,500 |
|
|
$ |
(51,500 |
) |
|
$ |
|
|
Cadant, Inc. |
|
|
53,000 |
|
|
|
(53,000 |
) |
|
|
|
|
|
|
53,000 |
|
|
|
(53,000 |
) |
|
|
|
|
Com21 |
|
|
1,929 |
|
|
|
(1,688 |
) |
|
|
241 |
|
|
|
1,929 |
|
|
|
(1,527 |
) |
|
|
402 |
|
cXm Broadband |
|
|
691 |
|
|
|
(230 |
) |
|
|
461 |
|
|
|
691 |
|
|
|
(173 |
) |
|
|
518 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
107,120 |
|
|
$ |
(106,418 |
) |
|
$ |
702 |
|
|
$ |
107,120 |
|
|
$ |
(106,200 |
) |
|
$ |
920 |
|
|
|
|
|
|
Amortization expense recorded on the intangible assets listed in the above table for the three
months ended March 31, 2006 and 2005 was $0.2 million and $0.6 million, respectively. The
estimated remaining amortization expense for the next five fiscal years is as follows (in
thousands):
|
|
|
|
|
2006 |
|
$ |
414 |
|
2007 |
|
$ |
230 |
|
2008 |
|
$ |
58 |
|
2009 |
|
$ |
|
|
2010 |
|
$ |
|
|
Note 10. Long-Term Obligations
As of both March 31, 2006 and December 31, 2005, the Company had approximately $6.1 million
outstanding under letters of credit, which are cash collateralized and classified as restricted
cash on the Consolidated Balance Sheets.
As of March 31, 2006, the Company had approximately $18.6 million of other long-term liabilities,
which included $12.9 million related to its accrued pension, $3.3 million related to its deferred
compensation obligations, and deferred rental expense of $2.2 million related to landlord funded
leasehold improvements. As of December 31, 2005, the Company had approximately $18.2 million of
other long-term liabilities, which included $12.6 million related to its accrued pension, $3.2
million related to its deferred compensation obligations, $2.3 million related to deferred rental
expense for landlord funded leasehold improvements, and $0.1 million related to security deposits
received.
The Company has not paid cash dividends on its common stock since its inception. In 2002, to
implement its shareholder rights plan, the Companys Board of Directors declared a dividend
consisting of one right for each share of its common stock outstanding. Each right represents the
right to purchase one one-thousandth of a share of its Series A Participating Preferred Stock and
becomes exercisable only if a person or group acquires beneficial ownership of 15% or more of its
common stock or announces a tender or exchange offer for 15% or more of its common stock or under
other similar circumstances.
Note 11. Comprehensive Income
Total comprehensive income represents the net change in stockholders equity during a period from
sources other than transactions with stockholders. For ARRIS, the components of total
comprehensive income include the unrealized gain (loss) on marketable securities, unrealized gain
(loss) on derivative instruments qualifying for hedge accounting, and foreign currency translation
adjustments. The components of comprehensive income for the three months ended March 31, 2006 and
2005 are as follows (in thousands):
9
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31, |
|
|
(unaudited) |
|
|
2006 |
|
2005 |
Net income |
|
$ |
20,723 |
|
|
$ |
3,408 |
|
Changes in the following equity accounts.
Unrealized gain (loss) on marketable
securities |
|
|
37 |
|
|
|
36 |
|
Unrealized gain (loss) on derivative
instruments |
|
|
(991 |
) |
|
|
|
|
Translation adjustment |
|
|
|
|
|
|
(1 |
) |
|
|
|
|
|
|
|
Comprehensive income |
|
$ |
19,769 |
|
|
$ |
3,443 |
|
|
|
|
|
|
|
|
Note 12. Sales Information
The Companys four largest customers (including their affiliates, as applicable) are Comcast, Cox
Communications, Liberty Media International and Time-Warner Cable. Over the past year, certain
customers beneficial ownership may have changed as a result of mergers and acquisitions.
Therefore, the revenue for ARRIS customers for prior periods has been adjusted to include the
affiliates under common control. A summary of sales to these customers for the three month periods
ended March 31, 2006 and 2005 are set forth below (in thousands):
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
March 31, |
|
|
(unaudited) |
|
|
2006 |
|
2005 |
Comcast |
|
$ |
72,507 |
|
|
$ |
25,390 |
|
% of sales |
|
|
34.8 |
% |
|
|
18.7 |
% |
|
|
|
|
|
|
|
|
|
Cox Communications |
|
$ |
25,790 |
|
|
$ |
28,786 |
|
% of sales |
|
|
12.4 |
% |
|
|
21.2 |
% |
|
|
|
|
|
|
|
|
|
Liberty Media International |
|
$ |
22,542 |
|
|
$ |
25,165 |
|
% of sales |
|
|
10.8 |
% |
|
|
18.5 |
% |
|
|
|
|
|
|
|
|
|
TimeWarner Cable |
|
$ |
22,935 |
|
|
$ |
18,338 |
|
% of sales |
|
|
11.0 |
% |
|
|
13.5 |
% |
No other customer provided more than 10% of total sales for the three months ended March 31, 2006
or 2005.
The Company operates globally and offers products and services that are sold to cable system
operators and telecommunications providers. The Companys products and services are focused in two
product categories: Broadband and Supplies & Customer Premises Equipment (CPE). Consolidated
revenue by principal product and service for the three months ended March 31, 2006 and 2005 were as
follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
March 31, |
|
|
|
(unaudited) |
|
|
|
2006 |
|
|
2005 |
|
Broadband |
|
$ |
85,390 |
|
|
$ |
69,652 |
|
Supplies and CPE |
|
|
122,954 |
|
|
|
66,272 |
|
|
|
|
|
|
|
|
Total sales |
|
$ |
208,344 |
|
|
$ |
135,924 |
|
|
|
|
|
|
|
|
ARRIS sells its products primarily in North America. The Companys international revenue is
generated from Asia Pacific, Europe, Latin America and Canada. The Asia Pacific market primarily
includes China, Hong Kong, Japan, Korea, Singapore, and Taiwan. The European market primarily
includes Austria, Belgium, France, Germany, the Netherlands, Poland, Portugal, Spain, and
Switzerland. The Latin American market primarily
10
includes Argentina, Brazil, Chile, and Puerto Rico. Sales to international customers were
approximately $50.9 million, or 24.4% of total sales, for the three months ended March 31, 2006.
International sales during the same period in 2005 were $36.0 million, or 26.0% of total sales.
As of March 31, 2006, ARRIS held approximately $2.6 million of assets in Ireland (related to its
Com21 facility), comprised of $1.7 million of cash and $0.9 million of fixed assets. As of
December 31, 2005, ARRIS held approximately $2.2 million of assets in Ireland, comprised of $1.3
million of cash and $0.9 million of fixed assets.
Note 13. Earnings Per Share
The following is a reconciliation of the numerators and denominators of the basic and diluted
earnings per share (EPS) computations for the periods indicated (in thousands except per share
data):
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
March 31, |
|
|
|
(unaudited) |
|
|
|
2006 |
|
|
2005 |
|
Basic: |
|
|
|
|
|
|
|
|
Income from continuing operations |
|
$ |
20,702 |
|
|
$ |
3,398 |
|
Income from discontinued operations |
|
|
21 |
|
|
|
10 |
|
|
|
|
|
|
|
|
Net income |
|
$ |
20,723 |
|
|
$ |
3,408 |
|
|
|
|
|
|
|
|
Weighted average shares outstanding. |
|
|
106,227 |
|
|
|
87,851 |
|
|
|
|
|
|
|
|
Basic earnings per share |
|
$ |
0.20 |
|
|
$ |
0.04 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted: |
|
|
|
|
|
|
|
|
Income from continuing operations |
|
$ |
20,702 |
|
|
$ |
3,398 |
|
Income from discontinued operations |
|
|
21 |
|
|
|
10 |
|
|
|
|
|
|
|
|
Net income |
|
$ |
20,723 |
|
|
$ |
3,408 |
|
|
|
|
|
|
|
|
Weighted average shares outstanding. |
|
|
106,227 |
|
|
|
87,851 |
|
Net effect of dilutive equity awards |
|
|
3,118 |
|
|
|
2,646 |
|
|
|
|
|
|
|
|
Total |
|
|
109,345 |
|
|
|
90,497 |
|
|
|
|
|
|
|
|
Diluted earnings per share |
|
$ |
0.19 |
|
|
$ |
0.04 |
|
|
|
|
|
|
|
|
11
Item 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
Our long-term goal is to continue to increase our leading position as a worldwide provider of
broadband access products and services. Our primary market and focus is cable providers, or MSOs.
To achieve this goal, we have implemented a long-term business strategy that includes the following
key elements:
|
|
|
Transition to VoIP with an Everything IP, Everywhere philosophy and build on current
market successes; |
|
|
|
|
Leverage our current voice and data business; |
|
|
|
|
Strengthen and grow our supplies infrastructure distribution channel; |
|
|
|
|
Expand our existing product/services portfolio through internal developments,
partnerships and acquisitions; and |
|
|
|
|
Maintain and improve an already strong capital structure and expense structure. |
Below is a summary of some key year to date highlights:
|
|
|
The VoIP market continued to grow in first quarter 2006 as MSOs continued their rollout
of telephony to their customers. We leveraged our existing market position and product
offerings to increase sales of both E-MTAs and CMTS product. |
|
|
|
|
In the first quarter 2006, we shipped 1.1 million E-MTAs which compares to 0.3 million
and 0.6 million in the first quarter and fourth quarter of 2005, respectively. We
anticipate robust unit shipments in the second quarter of 2006. |
|
|
|
|
In the first quarter 2006, we shipped 4,359 CMTS downstreams, which compares to 1,719
and 3,496 in the first quarter and fourth quarter of 2005, respectively. |
|
|
|
|
As anticipated, sales of our CBR product declined sequentially and year over year, as
customers migrate to VoIP. We expect this trend to continue through 2006. |
|
|
|
|
As expected, we experienced a decline in consolidated gross margins in the first quarter
2006 as compared to the fourth quarter of 2005. We sold proportionately more E-MTAs that
have margins lower than the company average. We also entered into several long term (with
terms of 12 to 18 month) agreements with large customers in which we anticipate shipping
our 500-series products, which carry a lower average unit cost than our 400-series
products. However, our 500-series products had not yet been certified by these customers.
To secure these long term agreements, we elected to ship the more costly 400-series
products until such time as the 500-series products became certified. As of this date, all
but a few of these customers has certified the 500-series products. We anticipate a vast
majority of customers will certify the product by the end of the second quarter of 2006. A
customer has requested that we provide a variant of the 500-series product with the
400-series battery so that they can maintain a single battery type in their inventory. We
are in the process of designing this variant which we anticipate will become available in
the third quarter of 2006. The net effect of these decisions was to reduce our margins in
the first quarter of 2006. As we transition to shipping more 500-series products in the
second and third quarters we expect our margins to improve. |
|
|
|
|
We invested $15.1 million in research and development in the first quarter 2006. Key
products we expect to launch later this year include: our Keystone D5 Digital Multimedia
Termination System, a wireless E-MTA gateway, a multiline E-MTA, a T1/E1 MTA, and our
FlexPath wideband products including a wideband modem. |
|
|
|
|
In April 2006, we announced that we entered into a joint development, licensing and
supply agreement with UTStarcom that will enable the fourth leg of the quadruple play for
cable MSOs worldwide. The joint solution will allow customers with Wi-Fi enabled handsets
to seamlessly roam between their cellular and Wi-Fi connections, or a service commonly
referred to as fixed mobile convergence, or FMC. As part of this agreement, we expect to
invest up to $5.0 million in license fees over three years to acquire certain technologies.
In the second quarter of 2006, we anticipate recognizing expense of approximately $2.5
million related to this agreement; the remaining license fees are expected to be expensed
in 2007 and 2008. |
12
|
|
|
During first quarter 2006, we generated $31.3 million of cash from operating activities.
Improvements were realized in both inventory and accounts receivable management. Total
cash, cash equivalents, and short-term investments increased approximately $36.3 million
during the first quarter 2006. |
Significant Customers
The Companys four largest customers (including their affiliates, as applicable) are Comcast, Cox
Communications, Liberty Media International and Time-Warner Cable. Over the past year, certain
customers beneficial ownership may have changed as a result of mergers and acquisitions. Therefore
the revenue for ARRIS customers for prior periods has been adjusted to include the affiliates
under common control. A summary of sales to these customers for the three month periods ended
March 31, 2006 and 2005 are set forth below (in thousands):
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
March 31, |
|
|
(unaudited) |
|
|
2006 |
|
2005 |
Comcast |
|
$ |
72,507 |
|
|
$ |
25,390 |
|
% of sales |
|
|
34.8 |
% |
|
|
18.7 |
% |
|
|
|
|
|
|
|
|
|
Cox Communications |
|
$ |
25,790 |
|
|
$ |
28,786 |
|
% of sales |
|
|
12.4 |
% |
|
|
21.2 |
% |
|
|
|
|
|
|
|
|
|
Liberty Media International |
|
$ |
22,542 |
|
|
$ |
25,165 |
|
% of sales |
|
|
10.8 |
% |
|
|
18.5 |
% |
|
|
|
|
|
|
|
|
|
TimeWarner Cable |
|
$ |
22,935 |
|
|
$ |
18,338 |
|
% of sales |
|
|
11.0 |
% |
|
|
13.5 |
% |
No other customer provided more than 10% of total sales for the three months ended March 31, 2006
or 2005.
Comparison of Operations for the Three Months Ended March 31, 2006 and 2005
Net Sales
The table below sets forth our net sales for the three months ended March 31, 2006 and 2005, for
each of our product categories (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales |
|
|
|
For the Three Months |
|
|
|
|
|
|
Ended March 31, |
|
|
Increase - 2006 vs. 2005 |
|
|
|
2006 |
|
|
2005 |
|
|
$ |
|
|
% |
|
Product Category: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Broadband |
|
$ |
85.4 |
|
|
$ |
69.6 |
|
|
$ |
15.7 |
|
|
|
22.5 |
% |
Supplies & CPE |
|
|
122.9 |
|
|
|
66.3 |
|
|
|
56.7 |
|
|
|
85.6 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total sales |
|
$ |
208.3 |
|
|
$ |
135.9 |
|
|
$ |
72.4 |
|
|
|
53.3 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The table below sets forth our domestic and international sales for the three months ended March
31, 2006 and 2005 (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales |
|
|
|
For the Three Months |
|
|
|
|
|
|
Ended March 31, |
|
|
Increase - 2006 vs. 2005 |
|
|
|
2006 |
|
|
2005 |
|
|
$ |
|
|
% |
|
Domestic sales |
|
$ |
157.4 |
|
|
$ |
99.9 |
|
|
$ |
57.5 |
|
|
|
57.6 |
% |
International sales |
|
|
50.9 |
|
|
|
36.0 |
|
|
|
14.9 |
|
|
|
41.4 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total sales |
|
$ |
208.3 |
|
|
$ |
135.9 |
|
|
$ |
72.4 |
|
|
|
53.3 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
13
Broadband Net Sales 2006 vs. 2005
During the first quarter of 2006, sales of our Broadband products increased by approximately 22.5%
as compared to the first quarter of 2005. This increase in Broadband revenue resulted from several
components:
|
|
|
Sales of our CMTS product increased in the first quarter 2006 as compared to the same
quarter in 2005, as we recorded higher level of sales to many customers, most notably
Comcast. |
|
|
|
|
The increase in CMTS revenue was partially offset by an anticipated decrease in sales of
our CBR voice products in the first three months of 2006 as compared with the same period
in 2005. We believe that ultimately the sales of these products will continue to decline
through 2006 as customers change to VoIP. |
Supplies & CPE Net Sales 2006 vs. 2005
Supplies & CPE product revenue increased by approximately 85.6% in the first quarter of 2006, as
compared to the first quarter of 2005:
|
|
|
Increased sales of our E-MTA product provided the majority of the increase as operators
ramped up deployment of VoIP. In the first quarter of 2006, we sold 1.1 million E-MTAs in
comparison to approximately 334 thousand in the first quarter of 2005. |
Gross Margin
The table below sets forth our gross margin for the three months ended March 31, 2006 and 2005, for
each of our product categories (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross Margin $ |
|
|
|
For the Three Months Ended |
|
|
|
|
|
|
March 31, |
|
|
Increase 2006 vs. 2005 |
|
|
|
2006 |
|
|
2005 |
|
|
$ |
|
|
% |
|
Product Category: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Broadband |
|
$ |
38.9 |
|
|
$ |
26.1 |
|
|
$ |
12.8 |
|
|
|
49.0 |
% |
Supplies & CPE |
|
|
17.6 |
|
|
|
10.7 |
|
|
|
6.9 |
|
|
|
64.5 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
56.5 |
|
|
$ |
36.8 |
|
|
$ |
19.7 |
|
|
|
53.5 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The table below sets forth our gross margin percentages for the three months ended March 31, 2006
and 2005, for each of our product categories:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
Percentage Point |
|
|
March 31, |
|
Increase (Decrease) |
|
|
2006 |
|
2005 |
|
2006 vs. 2005 |
Product Category: |
|
|
|
|
|
|
|
|
|
|
|
|
Broadband |
|
|
45.6 |
% |
|
|
37.4 |
% |
|
|
8.2 |
|
Supplies & CPE |
|
|
14.3 |
% |
|
|
16.2 |
% |
|
|
(1.9 |
) |
Total |
|
|
27.1 |
% |
|
|
27.1 |
% |
|
|
|
|
Broadband Gross Margin 2006 vs. 2005
The increase in Broadband gross margin dollars and percentages relates primarily to the following
factors:
|
|
|
Gross margin dollars were impacted by the quarter-over-quarter increase in Broadband
revenue and the improvement in gross margin percent. |
|
|
|
In the first half of 2005, our next generation DOCSIS 2.0 CMTS was in the process of
being cost reduced. The initial margin percentages for this product were lower than
historical margins due to higher initial product costs. The cost reduction programs
successfully improved our margin on our CMTS products year over year. |
14
|
|
|
Sales of our CBR product declined year over year. CBR products, on average, have lower
margins than CMTS products, resulting in a favorable product mix. |
Supplies & CPE Gross Margin 2006 vs. 2005
The Supplies & CPE category gross margin dollars increased while percentages decreased:
|
|
|
The increase in revenues year-over-year significantly impacted gross margin dollars.
This was predominantly related to our increase in sales of E-MTAs. |
|
|
|
We implemented price reductions related to our E-MTA products at the beginning of 2006.
The reductions were primarily implemented in conjunction with agreements entered into with
customers that should provide us with better market share and visibility. The reductions
were implemented as we were in the process of introducing a cost reduced version of the
product. Until the product is fully introduced, we will record lower gross margins than in
prior quarters. We believe that the introduction of the new version coupled with ongoing
cost reduction efforts will lead to improved margins in the future. As a result, we
believe that our Supplies & CPE margins will continue to improve in 2006, but the
improvement is dependent upon the impact of, among other factors, achievement of planned
cost reductions, product mix, and price pressures. |
Operating Expenses
The table below provides detail regarding our operating expenses (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Expenses |
|
|
|
For the Three Months Ended |
|
|
|
|
|
|
March 31, |
|
|
Increase (Decrease) 2006 vs. 2005 |
|
|
|
2006 |
|
|
2005 |
|
|
$ |
|
|
% |
|
SG&A |
|
$ |
21.3 |
|
|
$ |
16.5 |
|
|
$ |
4.8 |
|
|
|
29.1 |
% |
R&D |
|
|
15.1 |
|
|
|
14.8 |
|
|
|
0.3 |
|
|
|
2.0 |
% |
Restructuring &
impairment |
|
|
0.3 |
|
|
|
0.2 |
|
|
|
0.1 |
|
|
|
50.0 |
% |
Amortization of
intangibles |
|
|
0.2 |
|
|
|
0.6 |
|
|
|
(0.4 |
) |
|
|
66.7 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
36.9 |
|
|
$ |
32.1 |
|
|
$ |
4.8 |
|
|
|
15.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling, General, and Administrative, or SG&A, Expenses
The year over year increase in SG&A expense includes:
|
|
|
Equity compensation expense associated with introduction of SFAS No. 123R. |
|
|
|
|
Higher variable compensation related to an increase in commissions, bonuses, slightly
higher staffing level, taxes and other fringe benefits. |
|
|
|
|
Partially offsetting these increases was a reduction in bad debt expense, in particular,
a $0.5 million gain related to our reserves associated with Adelphia. |
Research & Development Expenses
We continue to aggressively invest in research and development. Our primary focus is on products
that allow MSOs to capture new revenues, in particular, high-speed data, VoIP, and Video over IP;
however, we also continue to place emphasis on reducing product costs and test equipment costs.
R&D expense for the three months ended March 31, 2006, was essentially flat as compared to the same
period in 2005.
Restructuring and Impairment Charges
On a quarterly basis, we review our existing restructuring accruals and make adjustments if
necessary. As a result of these evaluations, we recorded an increase to a restructuring accrual of
$0.3 million during the first quarter of
15
2006 related to changes in estimates associated with real estate leases. This adjustment was
required due to a change to the initial estimates used. See Note 6 of Notes to the Consolidated
Financial Statements.
During the first quarter 2005, indications of impairment related to the long-lived assets
associated with our Atoga products arose. As a result, we analyzed the fair value of those assets
in accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets.
The resulting analysis indicated that the remaining intangibles of $0.2 million were fully impaired
and were written off during the first quarter of 2005. See Note 9 of Notes to the Consolidated
Financial Statements.
Amortization of Intangibles
Intangibles amortization expense for the three months ended March 31, 2006 and 2005 was $0.2
million and $0.6 million, respectively. Our intangible expense represents the amortization of
existing technology acquired as a result of the Com21 acquisition in the third quarter 2003 and the
cXm Broadband acquisition in the second quarter 2005. See Note 9 of Notes to Consolidated
Financial Statements.
Operating Expense Outlook for Second Quarter 2006
We anticipate that operating expenses in the second quarter of 2006 will be in the range of $39.0
million to $42.0 million, up from the first quarter. Several factors are expected to contribute to
this increase:
|
|
|
As described elsewhere, we anticipate recording an expense of $2.5 million related to
license fees we will pay to UTStarcom, associated with our joint development work on Fixed
Mobile Convergence. |
|
|
|
|
We anticipate higher prototype expenses in the second quarter 2006. |
|
|
|
|
We anticipate higher variable compensation expense related to commissions and bonuses. |
|
|
|
|
We anticipate higher compensation costs related to merit increases implemented April 1,
2006, coupled with some increase in staffing. |
Other Expense (Income):
Interest Expense
Interest expense for the first quarter 2006 and 2005 was $0.0 million and $1.0 million,
respectively. Interest expense reflects the amortization of deferred finance fees and the interest
paid on the convertible subordinated notes (Notes). Prior to the final redemption of the Notes
during the second quarter 2005, the balance of our outstanding Notes was $75.0 million. This
resulted in higher interest expense during the first quarter 2005 as compared to the first quarter
2006.
Loss (Gain) in Foreign Currency
During the first quarter 2006, we recorded a foreign currency gain of approximately $0.3 million.
During the first quarter 2005, we recorded a foreign currency loss of approximately $0.9 million.
The gains and losses are primarily driven by the fluctuation of the value of the euro, as compared
to the U.S. dollar, as we had several European customers whose receivables and collections are
denominated in euros. We have implemented a hedging strategy to mitigate the monetary exchange
fluctuations from the time of invoice to the time of payment, and have occasionally entered into
forward contracts based on a percentage of expected foreign currency receipts.
Interest Income
Interest income during the first quarter of 2006 and 2005 was $1.5 million and $0.6 million,
respectively. The income reflects interest earned on cash, cash equivalents and short term
investments, which increased year over year by approximately $58.0 million, thus resulting in
higher interest income.
Other Expense (Income)
Other expense (income) for the three months ended March 31, 2006 and 2005 was $0.1 million in each
period.
16
Financial Liquidity and Capital Resources
Overview
One of our key strategies is to maintain and improve our capital structure. The key metrics we
focus on are summarized in the table below:
Liquidity & Capital Resources Data
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31, |
|
|
2006 |
|
2005 |
|
|
(in millions, except DSO and turns) |
Key Working Capital Items |
|
|
|
|
|
|
|
|
Cash provided by operating activities |
|
$ |
31.3 |
|
|
$ |
6.9 |
|
Cash, cash equivalents, and short-term
investments |
|
$ |
165.8 |
|
|
$ |
107.9 |
|
Accounts receivable, net |
|
$ |
91.4 |
|
|
$ |
63.9 |
|
Days Sales Outstanding (DSOs) |
|
|
38 |
|
|
|
40 |
|
Inventory |
|
$ |
99.7 |
|
|
$ |
76.2 |
|
Inventory turns |
|
|
5.7 |
|
|
|
4.7 |
|
Inventory & Accounts Receivable
We place a strong emphasis on working capital management, particularly with respect to accounts
receivable and inventory. We use turns to evaluate inventory management and days sales
outstanding, or DSOs, to evaluate accounts receivable management. As the table above indicates, we
have improved our performance, particularly as evidenced by the first quarter 2006 inventory turns
of 5.7 and DSOs of 38 days.
Looking forward, we do not anticipate a significant reduction in DSOs. It is possible that DSOs
may increase, particularly if the international content of our business increases as international
customers typically have longer payment terms.
Summary of Current Liquidity Position and Potential for Future Capital Raising
We believe our current liquidity position, including approximately $165.8 million of cash, cash
equivalents, and short-term investments on hand as of March 31, 2006, together with the prospects
for continued generation of cash from operations, are adequate for our short- and medium-term
business needs. However, a key part of our overall long-term strategy may be implemented through
additional acquisitions. Either in order to be prepared to make acquisitions generally or in
connection with particular acquisitions, it is possible that we will raise capital through private,
or public, share or debt offerings. We believe we have the ability to access the capital markets
upon commercially reasonable terms.
Commitments
Our contractual obligations are disclosed in our Annual Report on Form 10-K for the year ended
December 31, 2005. There has been no material change to our contractual obligations during the
first quarter of 2006.
17
Cash Flow
Below is a table setting forth the key line items of our Consolidated Statements of Cash Flows (in
millions):
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
March 31, |
|
|
2006 |
|
2005 |
Cash provided by operating activities |
|
$ |
31.3 |
|
|
$ |
6.9 |
|
Cash provided by investing activities |
|
$ |
16.6 |
|
|
$ |
(5.6 |
) |
Cash provided by financing activities |
|
$ |
6.4 |
|
|
$ |
0.1 |
|
|
|
|
|
|
|
|
Net increase in cash |
|
$ |
54.3 |
|
|
$ |
1.5 |
|
|
|
|
|
|
|
|
Operating Activities:
Below are the key line items affecting cash from operating activities (in millions):
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
March 31, |
|
|
2006 |
|
2005 |
Net income after non-cash adjustments |
|
$ |
24.9 |
|
|
$ |
7.6 |
|
(Increase)/Decrease in accounts receivable |
|
|
(7.6 |
) |
|
|
(8.1 |
) |
(Increase)/Decrease in inventory |
|
|
14.2 |
|
|
|
16.4 |
|
All other net |
|
|
(0.2 |
) |
|
|
(8.9 |
) |
|
|
|
|
|
|
|
Cash provided by operating activities |
|
$ |
31.3 |
|
|
$ |
6.9 |
|
|
|
|
|
|
|
|
|
|
|
Our inventory levels decreased in the first quarter of 2006 as we had fewer E-MTAs on
hand as compared to the end of 2005. Our customers modestly reduced their purchases in the
fourth quarter of 2005 leaving us with a higher than expected level of inventory at year
end. This corrected itself in the first quarter of 2006. Our first quarter 2006 inventory
turns were 5.7, as compared to our first quarter 2005 turns of 4.7. |
|
|
|
|
Our accounts receivable level increased in both periods reflecting higher sales. We
continue to enjoy strong DSO performance. Our first quarter 2006 DSO was 38 days as
compared to our first quarter 2005 DSO of 40 days. |
Investing Activities:
Below are the key line items affecting investing activities (in millions):
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
March 31, |
|
|
2006 |
|
2005 |
Capital expenditures |
|
$ |
(1.4 |
) |
|
$ |
(1.9 |
) |
Purchases of short-term investments |
|
|
|
|
|
|
(5.0 |
) |
Disposals of short-term investments |
|
|
18.0 |
|
|
|
1.6 |
|
Other |
|
|
|
|
|
|
(0.3 |
) |
|
|
|
|
|
|
|
Cash provided by (used in) investing activities |
|
$ |
16.6 |
|
|
$ |
(5.6 |
) |
|
|
|
|
|
|
|
Capital Expenditures
Capital expenditures are mainly for test equipment and computing equipment. We anticipate
investing approximately $12.0 million in fiscal year 2006.
Purchases/Disposals of Short-Term Investments
This represents purchases and disposals of auction rate securities held as short-term investments.
Other
This represents cash investments we made in 2005 in cXm Broadband, a private company.
18
Financing Activities:
Below are the key line items affecting our financing activities (in millions):
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
|
March 31, |
|
|
|
2006 |
|
|
2005 |
|
Excess tax benefits from stock-based
compensation plans |
|
$ |
0.1 |
|
|
$ |
|
|
Proceeds from issuance of stock |
|
|
6.2 |
|
|
|
0.1 |
|
|
|
|
|
|
|
|
Cash provided by financing activities |
|
$ |
6.3 |
|
|
$ |
0.1 |
|
|
|
|
|
|
|
|
Cash provided from financing activities for both quarters presented is primarily related to the
exercise of stock options by employees.
Interest Rates
As of March 31, 2006, we did not have any floating rate indebtedness or outstanding interest rate
swap agreements.
Foreign Currency
A significant portion of our products are manufactured or assembled in Mexico, Taiwan, China, the
Philippines, and other foreign countries. Our sales into international markets have been and are
expected in the future to be an important part of our business. These foreign operations are
subject to the usual risks inherent in conducting business abroad, including risks with respect to
currency exchange rates, economic and political destabilization, restrictive actions and taxation
by foreign governments, nationalization, the laws and policies of the United States affecting
trade, foreign investment and loans, and foreign tax laws.
We have certain international customers who are billed in their local currency. We use a hedging
strategy and enter into forward or currency option contracts based on a percentage of expected
foreign currency receipts. The percentage can vary, based on the predictability of cash receipts.
We routinely review our accounts receivable in foreign currency and periodically initiate forward
or option contracts when appropriate.
As of March 31, 2006, we had 20.5 million euros of option contracts outstanding that expire in
2006. During the first quarter of 2006, we recognized a net gain of
$0.4 million related to option
contracts.
Financial Instruments
In the ordinary course of business, we, from time to time, will enter into financing arrangements,
such as letters of credit, with customers. These agreements could include the granting of extended
payment terms that result in longer collection periods for accounts receivable and slower cash
inflows from operations and/or could result in the deferral of revenue. As of March 31, 2006 and
December 31, 2005, we had approximately $6.1 million outstanding at the end of each period under
letters of credit that were cash collateralized. The cash collateral is reported as restricted
cash.
Short-Term Investments
We hold short-term investments consisting of debt securities classified as available-for-sale,
which are stated at estimated fair value. These debt securities include U.S. treasury notes, state
and municipal bonds, asset-backed securities, auction rate securities, corporate bonds, commercial
paper, and certificates of deposit. These investments are on deposit with a major financial
institution.
Investments
We held certain investments in the common stock of publicly-traded companies that are classified as
available for sale. Changes in the market value of these securities are typically recorded in
other comprehensive income. These securities are also subject to a periodic impairment review,
which requires significant judgment. These
19
investments had been below their cost basis for a period greater than six months, and consequently,
impairment charges had been recorded. As of both March 31, 2006 and December 31, 2005, the
carrying value of these investments was $0.
In addition, we held a number of non-marketable equity securities totaling approximately $32
thousand at March 31, 2006 and December 31, 2005, which were classified as available for sale. The
non-marketable equity securities are subject to a periodic impairment review, which requires
significant judgment as there are no open-market valuations.
We offered a deferred compensation arrangement, which allowed certain employees to defer a portion
of their earnings and defer the related income taxes. As of December 31, 2004, the plan was frozen
and no further contributions are allowed. The deferred earnings are invested in a rabbi trust,
and are accounted for in accordance with Emerging Issues Task Force Issue No. 97-14, Accounting for
Deferred Compensation Arrangements Where Amounts Earned Are Held in a Rabbi Trust and Invested. A
rabbi trust is a funding vehicle used to protect deferred compensation benefits from various events
(but not from bankruptcy or insolvency). At both March 31, 2006 and December 31, 2005, ARRIS had
an accumulated unrealized gain related to the rabbi trust of approximately $1.1 million included in
other comprehensive income.
Capital Expenditures
Capital expenditures are made at a level designed to support the strategic and operating needs of
the business. ARRIS capital expenditures were $1.4 million in the first quarter 2006 as compared
to $1.9 million in the first quarter 2005. ARRIS had no significant commitments for capital
expenditures at March 31, 2006. Management expects to invest approximately $12.0 million in
capital expenditures for the fiscal year 2006.
Adoption of SFAS No. 123R, Share-Based Payment
In December 2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 123R,
Share-Based Payment, which replaces SFAS No. 123, Accounting for Stock-Based Compensation,
supercedes Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to
Employees, and amends SFAS No. 95, Statement of Cash Flows. SFAS 123R is effective for public
companies for interim or annual periods beginning after June 15, 2005. As revised, this statement
requires all companies to measure compensation cost for all share-based payments (including
employee stock options) at fair value. We chose to early adopt SFAS 123R on July 1, 2005 using the
modified prospective method. Prior to the adoption date, ARRIS used the intrinsic value method for
valuing its awards of stock options and restricted stock and recorded the related compensation
expense, if any, in accordance with APB Opinion No. 25, Accounting for Stock Issued to Employees
and related interpretations.
Prior to the adoption of SFAS No. 123R, ARRIS used the Black-Scholes option valuation model to
estimate the fair value of an option on the date of grant for pro forma purposes. Upon adoption of
SFAS No. 123R, ARRIS elected to continue to use the Black-Scholes model; however, it engaged an
independent third party to assist the Company in determining the Black-Scholes weighted average
inputs utilized in the valuation of options granted subsequent to July 1, 2005. Prior to the
adoption of SFAS No. 123R, the Company estimated the expected volatility exclusively on historical
stock prices of ARRIS common stock over a period of time. Under SFAS No. 123R, the volatility
factors are based upon a combination of historical volatility over a period of time and estimates
of implied volatility based on traded option contracts on ARRIS common stock. The change in
estimating volatility was made because the Company felt that the inclusion of the implied
volatility factor was a more accurate estimate of the stocks future performance. The expected
term of the awards granted are based upon a weighted average life of exercise activity of the
grantee population. The risk-free interest rate is based upon the U.S. treasury strip yield at the
grant date, using a remaining term equal to the expected life. The expected dividend yield is 0%,
as the Company has not paid cash dividends on its common stock since its inception. In calculating
the stock compensation expense, ARRIS applies an estimated post-vesting forfeiture rate based upon
historical rates.
In May 2005, the ARRIS Board of Directors approved the acceleration of outstanding options with
exercise prices equal to $9.06 and above. All of these options were out-of-the-money at the time
of acceleration, as the closing stock price on May 5, 2005 was $7.67. The acceleration covered
options to purchase approximately 1.4 million shares of common stock, but did not involve any
options held by directors or executive officers. The purpose of the acceleration was to reduce the
expense that would be associated with these options in accordance with the
20
provisions of SFAS No. 123R, Share-Based Payment, once adopted. The acceleration resulted in
incremental stock-based employee compensation of approximately $5.7 million in the pro forma
expense for the second quarter 2005.
As of March 31, 2006, there was approximately $10.2 million of total unrecognized compensation cost
related to unvested share-based awards granted under the Companys incentive plans. This
compensation cost is expected to be recognized over a weighted-average period of 2.1 years.
Critical Accounting Estimates
The accounting and financial reporting policies of the Company are in conformity with U.S.
generally accepted accounting principles. The preparation of financial statements in conformity
with U.S. generally accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities, the disclosure of
contingent assets and liabilities at the date of the financial statements, and the reported amounts
of revenues and expenses during the reporting period. Management has discussed the development and
selection of the Companys critical accounting estimates with the audit committee of the Companys
Board of Directors and the audit committee has reviewed the Companys related disclosures. Our
critical accounting policies and estimates are disclosed extensively in our Form 10-K for the year
ended December 31, 2005, as filed with the SEC. Our critical accounting estimates have not changed
in any material respect nor have we adopted any new critical policies during the three months ended
March 31, 2006.
Forward-Looking Statements
We make numerous forward-looking statements throughout this report, including statements with
respect to expected changes in sales levels of different products, product development plans,
expense levels, acquisitions and liquidity. Frequently these statements are introduced with words
such as may, expect, likely, will, believe, estimate, project, anticipate,
intend, plan, continue, could be, or predict. Actual results may differ materially from
those suggest by the forward-looking statements that we make for a number of reasons including
those described in Part II, Item 1A, Risk Factors of this Report.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to various market risks, including interest rates and foreign currency rates. The
following discussion of our risk-management activities includes forward-looking statements that
involve risks and uncertainties. Actual results could differ materially from those projected in the
forward-looking statements.
We have an investment portfolio of auction rate securities that are classified as
available-for-sale securities. Although these securities have maturity dates of 15 to 30 years,
they have characteristics of short-term investments as the interest rates reset every 28 or 35 days
and we have the potential to liquidate them in an auction process. Due to the short duration of
these investments, a movement in market interest rates would not have a material impact on our
operating results.
A significant portion of our products are manufactured or assembled in China, Mexico, the
Philippines, Taiwan, and other countries outside the United States. Our sales into international
markets have been and are expected in the future to be an important part of our business. These
foreign operations are subject to the usual risks inherent in conducting business abroad, including
risks with respect to currency exchange rates, economic and political destabilization, restrictive
actions and taxation by foreign governments, nationalization, the laws and policies of the United
States affecting trade, foreign investment and loans, and foreign tax laws.
We have certain international customers who are billed in their local currency. Changes in the
monetary exchange rates may adversely affect our results of operations and financial condition. To
manage the volatility relating to these typical business exposures, we may enter into various
derivative transactions, when appropriate. We do not hold or issue derivative instruments for
trading or other speculative purposes. The euro and the yen are the predominant currencies of
those customers who are billed in their local currency. Taking into account the effects of foreign
currency fluctuations of the euro and the yen versus the dollar, a hypothetical 10% weakening of
the U.S. dollar (as of March 31, 2006) would provide a gain on foreign currency of approximately
$0.7 million. Conversely, a hypothetical 10% strengthening of the U.S. dollar would provide a loss
on foreign currency of
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approximately $0.7 million. As of March 31, 2006, we had no material contracts, other than
accounts receivable, denominated in foreign currencies.
We regularly review our accounts receivable in foreign currency and enter into derivative contracts
when appropriate. As of March 31, 2006, we had 20.5 million euros in option collars outstanding.
Item 4. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures. Our principal executive officer and
principal financial officer evaluated the effectiveness of our disclosure controls and procedures
(as such term is defined in Rules 13a-15(e) under the Securities Exchange Act of 1934) as of the
end of the period covered by this report (the Evaluation Date). Based on that evaluation, such
officers concluded that, as of the Evaluation Date, our disclosure controls and procedures were
effective as contemplated by the Act.
(b) Changes in Internal Control over Financial Reporting. Our principal executive officer and
principal financial officer evaluated the changes in our internal control over financial reporting
that occurred during the most recent fiscal quarter. Based on that evaluation, our principal
executive officer and principal financial officer concluded that there had been no change in our
internal control over financial reporting during the most recent fiscal quarter that has materially
affected, or is reasonably likely to materially affect, our internal control over financial
reporting.
PART II. OTHER INFORMATION
Item 1A. Risk Factors
Our business is dependent on customers capital spending on broadband communication systems, and
reductions by customers in capital spending would adversely affect our business.
Our performance has been largely dependent on customers capital spending for constructing,
rebuilding, maintaining or upgrading broadband communications systems. Capital spending in the
telecommunications industry is cyclical. A variety of factors will affect the amount of capital
spending, and therefore, our sales and profits, including:
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general economic conditions; |
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availability and cost of capital; |
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other demands and opportunities for capital; |
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regulations; |
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demands for network services; |
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competition and technology; |
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real or perceived trends or uncertainties in these factors; and |
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acceptance of new services offered by our customers. |
Developments in the industry and in the capital markets over the past several years reduced access
to funding for our customers in the past and caused delays in the timing and scale of deployments
of our equipment, as well as the postponement or cancellation of certain projects by our customers.
In addition, we and other vendors received notification from several customers that they were
canceling projects or scaling back projects or delaying orders to allow them to reduce inventory
levels which were in excess of their then current deployment requirements.
Further, several of our customers have accumulated significant levels of debt. In particular,
Adelphia has been operating in bankruptcy since the first half of 2002 and Cabovisaos Canadian
parent, Csii, has been operating under bankruptcy protection since the middle of 2003. Even if the
financial health of those companies and other customers improves, we cannot assure you that these
customers will be in a position to purchase new equipment at levels we have seen in the past. In
addition, the bankruptcy filing of Adelphia in June 2002 has further heightened concerns in the
financial markets about the domestic cable industry. The concern, coupled with the current
uncertainty and volatile capital markets, has affected the market values of domestic cable
operators and may further restrict their access to capital.
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The markets in which we operate are intensely competitive, and competitive pressures may adversely
affect our results of operations.
The markets for broadband communication systems are extremely competitive and dynamic, requiring
the companies that compete in these markets to react quickly and capitalize on change. This will
require us to retain skilled and experienced personnel as well as deploy substantial resources
toward meeting the ever-changing demands of the industry. We compete with national and
international manufacturers, distributors and wholesalers including many companies larger than
ARRIS. Our major competitors include:
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Big Band Networks; |
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Cisco Systems, Inc.; |
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Motorola, Inc.; and |
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TVC Communications, Inc. |
Cisco Systems, Inc. acquired Scientific-Atlanta, Inc. in February 2006. We are uncertain what
impact this may have on our future results, if any.
The rapid technological changes occurring in the broadband markets may lead to the entry of new
competitors, including those with substantially greater resources than ours. Because the markets
in which we compete are characterized by rapid growth and, in some cases, low barriers to entry,
smaller niche market companies and start-up ventures also may become principal competitors in the
future. Actions by existing competitors and the entry of new competitors may have an adverse
effect on our sales and profitability. The broadband communications industry is further
characterized by rapid technological change. In the future, technological advances could lead to
the obsolescence of some of our current products, which could have a material adverse effect on our
business.
Further, many of our larger competitors are in a better position to withstand any significant
reduction in capital spending by customers in these markets. They often have broader product lines
and market focus and therefore will not be as susceptible to downturns in a particular market. In
addition, several of our competitors have been in operation longer than we have been, and therefore
they have more long-standing and established relationships with domestic and foreign broadband
service users. We may not be able to compete successfully in the future, and competition may harm
our business.
Our business has primarily come from several key customers. The loss of one of these customers or
a significant reduction in services to one of these customers would have a material adverse effect
on our business.
Our four largest customers (including their affiliates, as applicable) are Comcast, Cox
Communications, Liberty Media International, and Time-Warner Cable. For the three months ended
March 31, 2006, sales to Comcast accounted for approximately 34.8%, sales to Cox Communications
accounted for approximately 12.4% of our total revenues, sales to Liberty Media International
accounted for approximately 10.8%, and sales to Time-Warner Cable accounted for approximately
11.0%. The loss of any of these customers, or one of our other large customers, or a significant
reduction in the products or services provided to any of them would have a material adverse impact
on our business.
The broadband products that we develop and sell are subject to technological change and a trend
towards open standards, which may impact our future sales and margins.
The broadband products we sell are subject to continuous technological evolution. Further, the
cable industry has and will continue to demand a move towards open standards. The move towards
open standards is expected to increase the number of MSOs who will offer new services, in
particular, telephony. This trend also is expected to increase the number of competitors and drive
capital costs per subscriber deployed down. These factors may adversely impact both our future
revenues and margins.
We have anti-takeover defenses that could delay or prevent an acquisition of our company.
On October 3, 2002, our Board of Directors approved the adoption of a shareholder rights plan
(commonly known as a poison pill). This plan is not intended to prevent a takeover, but is
intended to protect and maximize the
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value of shareholders interests. This plan could make it more difficult for a third party to
acquire us or may delay that process.
Products currently under development may fail to realize anticipated benefits.
Rapidly changing technologies, evolving industry standards, frequent new product introductions and
relatively short product life cycles characterize the markets for our products. The technology
applications that we are currently developing may not ultimately be successful. Even if the
products in development are successfully brought to market, they may not be widely used or we may
not be able to successfully exploit these technology applications. To compete successfully, we
must quickly design, develop, manufacture and sell new or enhanced products that provide
increasingly higher levels of performance and reliability. However, we may not be able to
successfully develop or introduce these products if our products:
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are not cost-effective; |
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are not brought to market in a timely manner; |
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fail to achieve market acceptance; or |
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fail to meet industry certification standards. |
Furthermore, our competitors may develop similar or alternative new technology applications that,
if successful, could have a material adverse effect on us. Our strategic alliances are based on
business relationships that have not been the subject of written agreements expressly providing for
the alliance to continue for a significant period of time. The loss of a strategic partner could
have a material adverse effect on the progress of new products under development with that partner.
Consolidations in the telecommunications industry could result in delays or reductions in purchases
of products, which would have a material adverse effect on our business.
The telecommunications industry has experienced the consolidation of many industry participants,
and this trend may continue. For instance, in November 2005, Cox Communications announced a
definitive agreement to sell some of its cable television systems to Cebridge Connections and, in
April 2005, Adelphia announced that its assets were going to be acquired by Comcast and Time
Warner. When consolidations occur, it is possible that the acquirer will not continue using the
same suppliers, thereby possibly resulting in an immediate or future elimination of sales
opportunities for us or our competitors, depending upon who had the business initially.
Consolidations also could result in delays in purchasing decisions by the merged businesses. The
purchasing decisions of the merged companies could have a material adverse effect on our business.
Mergers among the supplier base also have increased, and this trend may continue. For example, in
the fourth quarter of 2005, Cisco Systems, Inc. and Scientific-Atlanta, Inc. announced that Cisco
would acquire Scientific-Atlanta. The acquisition was completed in February of 2006. Larger
combined companies with pooled capital resources may be able to provide solution alternatives with
which we would be put at a disadvantage to compete. The larger breadth of product offerings by
these consolidated suppliers could result in customers electing to trim their supplier base for the
advantages of one-stop shopping solutions for all of their product needs. Consolidation of the
supplier base could have a material adverse effect on our business.
Acquisitions can involve significant risks.
We routinely consider acquisitions of, or investments in, other businesses. There are a number of
risks attendant to any acquisition, including the possibility that we will overvalue the assets to
be purchased, that we will not be able to successfully integrate the acquired business or assets,
and that we will not be able to produce the expected level of profitability from the acquired
business or assets. In addition, we might incur substantial indebtedness in order to finance an
acquisition, which could require substantial payments in the future, and we might issue common
stock or other securities to pay for an acquisition, in which event the acquisition may ultimately
prove to be dilutive to our current stockholders. As a result, the impact of any acquisition on
our future performance may not be as favorable as expected and actually may be adverse.
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Our success depends in large part on our ability to attract and retain qualified personnel in all
facets of our operations.
Competition for qualified personnel is intense, and we may not be successful in attracting and
retaining key executives, marketing, engineering, technical support and sales personnel, which
could impact our ability to maintain and grow our operations. Our future success will depend, to a
significant extent, on the ability of our management to operate effectively. In the past,
competitors and others have attempted to recruit our employees and in the future, their attempts
may continue. The loss of services of any key personnel, the inability to attract and retain
qualified personnel in the future or delays in hiring required personnel, particularly engineers
and other technical professionals, could negatively affect our business.
We are substantially dependent on contract manufacturers, and an inability to obtain adequate and
timely delivery of supplies could adversely affect our business.
Many components, subassemblies and modules necessary for the manufacture or integration of our
products are obtained from a sole supplier or a limited group of suppliers. Our reliance on sole
or limited suppliers, particularly foreign suppliers, and our reliance on subcontractors involves
several risks including a potential inability to obtain an adequate supply of required components,
subassemblies or modules and reduced control over pricing, quality and timely delivery of
components, subassemblies or modules. Historically, we have not generally maintained long-term
agreements with any of our suppliers or subcontractors. An inability to obtain adequate deliveries
or any other circumstance that would require us to seek alternative sources of supply could affect
our ability to ship products on a timely basis. Any inability to reliably ship our products on
time could damage relationships with current and prospective customers and harm our business.
Our international operations may be adversely affected by any decline in the demand for broadband
systems designs and equipment in international markets.
Sales of broadband communications equipment into international markets are an important part of our
business. The entire line of our products is marketed and made available to existing and potential
international customers. In addition, United States broadband system designs and equipment are
increasingly being employed in international markets, where market penetration is relatively lower
than in the United States. While international operations are expected to comprise an integral
part of our future business, international markets may no longer continue to develop at the current
rate, or at all. We may fail to receive additional contracts to supply equipment in these markets.
Our international operations may be adversely affected by changes in the foreign laws in the
countries in which our manufacturers and assemblers have plants.
A significant portion of our products are manufactured or assembled in China, Ireland, Mexico, the
Philippines, and other countries outside of the United States. The governments of the foreign
countries in which our products are manufactured may pass laws that impair our operations, such as
laws that impose exorbitant tax obligations or nationalize these manufacturing facilities.
We face risks relating to currency fluctuations and currency exchange.
We may encounter difficulties in converting our earnings from international operations to U.S.
dollars for use in the United States. These obstacles may include problems moving funds out of the
countries in which the funds were earned and difficulties in collecting accounts receivable in
foreign countries where the usual accounts receivable payment cycle is longer.
We are exposed to various market risk factors such as fluctuating interest rates and changes in
foreign currency rates. These risk factors can impact our results of operations, cash flows and
financial position. We manage these risks through regular operating and financing activities and
periodically use derivative financial instruments such as foreign exchange forward contracts. There
can be no assurance that our risk management strategies will be effective.
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Our profitability has been, and may continue to be, volatile, which could adversely affect the
price of our stock.
We have experienced several years with significant operating losses. Although we have been
profitable in the past, we may not be profitable or meet the level of expectations of the
investment community in the future, which could have a material adverse impact on our stock price.
In addition, our operating results may be adversely affected by the timing of sales or a shift in
our product mix.
We may face higher costs associated with protecting our intellectual property.
Our future success depends in part upon our proprietary technology, product development,
technological expertise and distribution channels. We cannot predict whether we can protect our
technology or whether competitors can develop similar technology independently. We have received
and may continue to receive from third parties, including some of our competitors, notices claiming
that we have infringed upon third-party patents or other proprietary rights. Any of these claims,
whether with or without merit, could result in costly litigation, divert the time, attention and
resources of our management, delay our product shipments, or require us to enter into royalty or
licensing agreements. If a claim of product infringement against us is successful and we fail to
obtain a license or develop non-infringing technology, our business and operating results could be
adversely affected.
Item 6. EXHIBITS
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Exhibit No. |
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Description of Exhibit |
31.1
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Section 302 Certification of Chief Executive Officer, filed herewith |
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31.2
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Section 302 Certification of Chief Financial Officer, filed herewith |
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32.1
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Section 906 Certification of Chief Executive Officer, filed herewith |
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32.2
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Section 906 Certification of Chief Financial Officer, filed herewith |
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SIGNATURES
Pursuant to the requirements 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.
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ARRIS GROUP, INC.
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/s/ David B. Potts
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David B. Potts |
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Executive Vice President, Chief
Financial Officer and Chief
Information Officer |
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Dated:
May 9, 2006
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