UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549

 

 

 

 

Form 10-K

 

 

Commission File Number 000-27115

 

PCTEL, Inc.

(Exact Name of Business Issuer as Specified in Its Charter)

 

 

(630) 372-6800

(Registrant’s Telephone Number, Including Area Code)

 

 

 

 

Securities registered pursuant to Section 12(b) of the Act:

 

 

Securities registered pursuant to Section 12(g) of the Act:

None.

 

Indicate by check mark whether the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes o No  þ

 

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 o No  þ

 

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

 

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.  þ

 

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

 

 

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

 

As of June 30, 2008, the last business day of Registrant’s most recently completed second fiscal quarter, there were 18,999,032 shares of Registrant’s common stock outstanding, and the aggregate market value of such shares held by non-affiliates of Registrant (based upon the closing sale price of such shares on the NASDAQ Global Market on June 30, 2008) was approximately $91,807,362. Shares of Registrant’s common stock held by each executive officer and director and by each entity that owns 5% or more of Registrant’s outstanding common stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes.

 

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.

 

 

DOCUMENTS INCORPORATED BY REFERENCE

 

Certain sections of Registrant’s definitive Proxy Statement relating to its 2009 Annual Stockholders’ Meeting to be held on June 9, 2009 are incorporated by reference into Part III of this Annual Report on Form 10-K.

 

 

PCTEL, Inc.
Form 10-K
For the Year Ended December 31, 2008

TABLE OF CONTENTS

 

 

 

This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements include, among other things, statements concerning the future operations, financial condition and prospects, and business strategies. The words “believe”, “expect”, “anticipate” and other similar expressions generally identify forward-looking statements. Investors in the common stock are cautioned not to place undue reliance on these forward-looking statements. These forward-looking statements are subject to substantial risks and uncertainties that could cause the future business, financial condition, or results of operations to differ materially from the historical results or currently anticipated results.

 

Overview

 

PCTEL focuses on wireless broadband technology related to propagation and optimization. We design and develop innovative antennas that extend the reach of broadband and other wireless networks and that simplify the implementation of those networks. We provide highly specialized software-defined radios — scanning receivers — that facilitate the design and optimization of broadband wireless networks. We supply our products to public and private carriers, wireless infrastructure providers, wireless equipment distributors, value added resellers (“VARs”) and other original equipment manufacturers (“OEMs”). Additionally, we have licensed our intellectual property, principally related to a discontinued modem business, to semiconductor, PC manufacturers, modem suppliers, and others.

 

In 2008, we operated in two separate product segments: a Broadband Technology Group (“BTG”), and Licensing. BTG includes our Antenna Products Group and RF Solutions Group. PCTEL maintains expertise in several technology areas. These include digital signal processing (“DSP”) chipset programming, radio frequency, software engineering, mobile antenna design and manufacturing, mechanical engineering, product quality and testing, advanced algorithm development, and cellular engineering.

 

On January 4, 2008 we sold our Mobility Solutions Group (“MSG”) to Smith Micro Software, Inc. (NASDAQ: SMSI) (“Smith Micro”). MSG produced mobility software products for Wi-Fi, cellular, IP Multimedia Subsystem (“IMS”), and wired applications. The financial results for MSG are presented in the financial statements as discontinued operations.

 

PCTEL was incorporated in California in 1994 and reincorporated in Delaware in 1998. The principal executive offices are located at 471 Brighton Drive, Bloomingdale, Illinois 60108. The telephone number at that address is (630) 372-6800 and the web site is www.pctel.com. The contents of the web site are not incorporated by reference into this Annual Report on Form 10-K.

 

Broadband Technology Group

 

BTG designs, distributes, and supports innovative antenna solutions for public safety applications, unlicensed and licensed wireless broadband, fleet management, network timing, and other global positioning systems (“GPS”) applications. BTG’s portfolio of scanning receivers and interference management solutions are used to measure, monitor and optimize cellular networks.

 

PCTEL established its antenna product portfolio with a series of acquisitions starting with MAXRAD, Inc. which was acquired in January 2004. MAXRAD, Inc.’s antenna solutions consist of antennas designed to enhance the performance of broadband wireless, in-building wireless, wireless Internet service providers and land mobile radio (“LMR”) applications. With our October 2004 acquisition of certain antenna product lines from Andrew Corporation (“Andrew”), the product portfolio expanded to include GPS, satellite communications (Mobile SATCOM) and on-glass mobile antennas. On March 14, 2008, we acquired the assets of Bluewave Antenna Systems, Ltd (“Bluewave”), a company based in Canada. The Bluewave product line augments our LMR and private mobile radio (“PMR”) antenna product lines. On January 5, 2009 we acquired Wi-Sys Communications, Inc. (“Wi-Sys”, a company based in Canada. Wi-Sys manufactures an array of products for GPS, terrestrial and

satellite communication systems and high performance antennas for the telematics, mobile radio and precision GPS markets.

 

In July 2005, we purchased Sigma Wireless Technologies Limited (“Sigma”), located in Dublin, Ireland. Sigma provided universal mobile telecommunications systems (“UMTS”) integrated variable electrical tilt base stations antennas (“iVET”), PMR, and digital private mobile radio (“DPMR”) antenna products. In 2007, we exited operations related to our UMTS iVET antenna product line and on October 9, 2008, we sold the remaining antenna product lines and related assets from the Sigma acquisition to Sigma Wireless Technology Ltd, a Scotland-based company (“SWTS”). Sigma and SWTS are unrelated companies.

 

Our antenna product lines were expanded through the organic development of new antenna product families, such as our WiMAX portfolio, as well as the expansion of existing product lines. Our four dominant antenna product lines at this time are: LMR for public safety and enterprise applications, GPS antennas for network timing and fleet management, WiMAX antennas used in backhaul, last mile, and point to multipoint applications, and finally, our data product family, which includes Wi-Fi, radio frequency identification, and mesh network antennas.

 

Antenna products are sold through dealers, distributors and via direct sales channels to wireless carriers and equipment manufacturers. The products are sold under the MAXRAD^®, Antenna Specialist^®, MicroPulse^tm, and Bluewave^® trade names.

 

Revenue growth for antenna products is tied to emerging wireless applications in broadband wireless, in-building wireless, wireless Internet service providers, GPS and Mobile SATCOM. The LMR, PMR, DPMR, and on-glass mobile antenna applications represent mature markets. Our newest products address WiMAX standards and applications.

 

There are many competitors for antenna products, as the market is highly fragmented. Competitors include such names as Laird (Cushcraft, Centurion, and Antennex brands), Mobile Mark, Radiall/Larsen, Comtelco, Wilson, Commscope (Andrew Corporation products), Kathrein, and others. BTG seeks out product applications that command a premium for product performance and customer service, and seeks to avoid commodity markets.

 

BTG’s OEM receiver and interference management solutions consist of software-defined radio products — scanning receivers — designed to measure and monitor cellular networks. PCTEL established its position in this market with the acquisition of certain assets of Dynamic Telecommunications, Inc. (“DTI”) in March 2003. The technology is sold in two forms: as OEM radio frequency receivers or as integrated systems solutions. The SeeGull^® family of OEM receivers collects and measures radio frequency data, such as signal strength and base station identification in order to analyze wireless signals. The CLARIFY^® interference management product is a receiver system solution that uses patent pending technology to identify and measure wireless network interference. Customers of BTG’s OEM receiver and interference management solutions are wireless network operators, wireless infrastructure suppliers, and wireless test and measurement solution providers.

 

Revenue growth for OEM receivers and interference management solutions is tied to the deployment of new wireless technology, such as 2.5G and 3G, and the need for existing wireless networks to be tuned and reconfigured on a regular basis. Explosive cellular subscriber growth drives demand for these products as well. Competitors for these products are OEM’s such as Agilent Technologies, Rohde and Schwarz, Anritsu, Panasonic, and Berkley Varitronics. The products compete on the basis of product performance at a price point that is generally lower than the competition.

 

Licensing

 

We have an intellectual property portfolio in the area of analog modem technology, which we have actively licensed for revenue starting in 2002. The number of U.S. patents and applications in this technology reached to over 100 in 2005. We have since sold or divested most of these patents. Companies under license at the end of 2008 include Agere, Lucent, US Robotics, 3COM, Intel, Conexant, Broadcom, Silicon Laboratories, Texas Instruments, Smartlink, Ricoh, and ESS Technologies. At this time, these licenses are substantially paid up. We believe that there are no significant modem market participants remaining to be licensed and we expect minimal modem licensing revenue going forward.

PCTEL also has an intellectual property portfolio related to antennas, the mounting of antennas, and scanning receivers. These patents are being held for defensive purposes and are not part of an active licensing program.

 

Please see Item 7: Management’s Discussion and Analysis of Financial Conditions and Results of Operations beginning on page 17 for information regarding revenue and gross profit for these two segments.

 

Developments

 

We continue to look for opportunities in wireless markets both through internal development and through acquisitions.

 

The following significant acquisition and divestiture events related to wireless markets took place in our history.

 

BTG- Antenna Products

 

 

BTG — RF Solutions

 

 

MSG (Discontinued)

 

 

Sales, Marketing and Support

 

We supply our products to public and private carriers, wireless infrastructure providers, wireless equipment distributors, VARs and other OEMs. PCTEL’s direct sales force is technologically sophisticated and sales executives have strong industry domain knowledge. Our direct sales force supports the sales efforts of our distributors and OEM resellers.

 

Our marketing strategy is focused on building market awareness and acceptance of our new products. The marketing organization also provides a wide range of programs, materials and events to support the sales organization. We spent approximately $10.5, $10.7, and $11.0 million in our continuing operations for the fiscal years 2008, 2007 and 2006, respectively for sales and marketing support.

 

As of December 31, 2008, we employed 40 individuals as employees or consultants in sales and marketing in North America, Europe, Asia, and in Latin America. We employed 46 and 40 individuals as employees or consultants in sales and marketing at December 31, 2007 and 2006, respectively.

Major Customers

 

Two customers in our continuing operations have accounted for revenue greater than 10% during one of the last three fiscal years as follows:

 

 

Ericsson AB, an OEM for communication systems, and TESSCO Technologies Incorporated, a distributor of wireless products, are customers of BTG.

 

International Activities

 

The following table shows the percentage of revenues from domestic and foreign sales of our continuing operations during the last three fiscal years:

 

 

Backlog

 

Sales of our products are generally made pursuant to standard purchase orders, which are officially acknowledged according to standard terms and conditions. The backlog, while useful for scheduling production, is not a meaningful indicator of future revenues as the order to ship cycle is extremely short.

 

Research and Development

 

We recognize that a strong technology base is essential to our long-term success and we have made a substantial investment in research and development. We will continue to devote substantial resources to product development and patent submissions. The patent submissions are primarily for defensive purposes, rather than for potential license revenue generation. We monitor changing customer needs and work closely with the customers, partners and market research organizations to track changes in the marketplace, including emerging industry standards.

 

Research and development expenses include costs for hardware and related software development, prototyping, certification and pre-production costs. We spent approximately $10.0, $9.6, and $9.2 million in our continuing operations for the fiscal years 2008, 2007 and 2006, respectively, in research and development.

 

Manufacturing

 

We do final assembly of most of our antenna products and all of our OEM receiver and interference management product lines. We also have arrangements with several contract manufacturers but are not dependent on any one. If any of our contract manufacturers are unsatisfactory, other manufacturers are available. We have no guaranteed supply or long-term contract agreements with any other suppliers.

 

Employees

 

As of December 31, 2008, we had 348 full-time equivalent employees from continuing operations, including 205 in operations, 40 in sales and marketing, 67 in research and development, and 36 in general and administrative functions.

Total full-time equivalent employees were 336 and 305 at December 31, 2007 and 2006, respectively. The increases in headcount in 2007 and 2008, respectively were primarily because of increases in employees for operations.

 

None of our employees are represented by a labor union. We consider employee relations to be good.

 

Web Site Postings

 

The annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to such reports, are available free of charge through our web site as soon as reasonably practicable after we electronically file such material with, or furnish it to, the United States Securities and Exchange Commission, at the following address: www.pctel.com. The information within, or that can be accessed through the web site, is not part of this report.

 

 

Factors That May Affect Our Business, Financial Condition and Future Operations

 

This annual report on Form 10-K, including Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains forward-looking statements. These forward-looking statements are subject to substantial risks and uncertainties that could cause our future business, financial condition or results of operations to differ materially from our historical results or currently anticipated results, including those set forth below. Investors should carefully review the information contained in this Item IA.

 

Risks Related to Our Business

 

Recent domestic and worldwide economic conditions have adversely affected and may further adversely affect our business, results of operations, and financial condition.

 

Recently, general domestic and global economic conditions have been negatively impacted by several factors, including, among others, the subprime-mortgage crisis in the housing market, going concern threats to investment banks and other financial institutions, reduced corporate spending, and decreased consumer confidence. These economic conditions have resulted in our facing one of the most challenging periods in our history. In particular, we believe the current economic conditions have reduced spending by consumers and businesses in markets into which we sell our products in response to tighter credit, negative financial news and the continued uncertainty of the global economy. Consequently, the overall demand for our products has also decreased. This decrease in demand is having a negative impact on our revenues, results of operations and overall business. These conditions could also have a number of additional effects on our business, including insolvency of key suppliers or manufacturers resulting in product delays, inability of customers to obtain credit to finance purchases of our products, customer insolvencies, increased product returns, increased pricing pressures, restructuring expenses and associated diversion of management’s attention, excess inventory and increased difficulty in our accurately forecasting product demand and planning future business activities. It is uncertain how long the current economic conditions will last or how quickly any subsequent economic recovery will occur. If the economy or markets into which we sell our products continue to slow or any subsequent economic recovery is slow to occur, our business, financial condition and results of operations could be further materially and adversely affected.

 

Competition within the wireless product industry is intense and is expected to increase significantly. Our failure to compete successfully could materially harm our prospects and financial results.

 

The antenna market is highly fragmented and is served by many local product providers. We may not be able to displace established competitors from their customer base with our products.

 

Many of our present and potential competitors have substantially greater financial, marketing, technical and other resources with which to pursue engineering, manufacturing, marketing, and distribution of their products. These competitors may succeed in establishing technology standards or strategic alliances in the connectivity products markets, obtain more rapid market acceptance for their products, or otherwise gain a competitive advantage. We can offer no assurance that we will succeed in developing products or technologies that are more

effective than those developed by our competitors. We can offer no assurance that we will be able to compete successfully against existing and new competitors as the connectivity wireless markets evolve and the level of competition increases.

 

Our wireless business is dependent upon the continued growth and evolution of the wireless industry.

 

Our future success is dependent upon the continued growth and evolution of the wireless industry. The growth in demand for wireless products and services may not continue at its current rate or at all.

 

Our future success depends on our ability to develop and successfully introduce new and enhanced products for the wireless market that meet the needs of our customers.

 

Our revenue depends on our ability to anticipate our existing and prospective customers’ needs and develop products that address those needs. Our future success will depend on our ability to introduce new products for the wireless market, anticipate improvements and enhancements in wireless technology and wireless standards, and to develop products that are competitive in the rapidly changing wireless industry. Introduction of new products and product enhancements will require coordination of our efforts with those of our customers, suppliers, and manufacturers to rapidly achieve volume production. If we fail to coordinate these efforts, develop product enhancements or introduce new products that meet the needs of our customers as scheduled, our operating results will be materially and adversely affected and our business and prospects will be harmed. We cannot assure you that product introductions will meet the anticipated release schedules or that our wireless products will be competitive in the market. Furthermore, given the emerging nature of the wireless market, there can be no assurance our products and technology will not be rendered obsolete by alternative or competing technologies.

 

We may experience integration or other problems with potential acquisitions, which could have an adverse effect on our business or results of operations. New acquisitions could dilute the interests of existing stockholders, and the announcement of new acquisitions could result in a decline in the price of our common stock.

 

We may in the future make acquisitions of, or large investments in, businesses that offer products, services, and technologies that we believe would complement our products or services, including wireless products and technology. We may also make acquisitions of or investments in, businesses that we believe could expand our distribution channels. Even if we were to announce an acquisition, we may not be able to complete it. Additionally, any future acquisition or substantial investment would present numerous risks, including:

 

 

We expect that future acquisitions could provide for consideration to be paid in cash, shares of our common stock, or a combination of cash and our common stock. If consideration for a transaction is paid in common stock, this would further dilute our existing stockholders.

Our gross profit may vary based on the mix of sales of our products, and these variations may cause our net income to decline.

 

Due in part to the competitive pricing pressures that affect our products and in part to increasing component and manufacturing costs, we expect gross profit from both existing and future products to decrease over time. In addition, licensing revenues from our intellectual property historically have provided higher margins than our product sales. Licensing revenues are expected to be minimal in 2009 and beyond.

 

Any delays in our sales cycles could result in customers canceling purchases of our products.

 

Sales cycles for our products with major customers can be lengthy, often lasting nine months or longer. In addition, it can take an additional nine months or more before a customer commences volume production of equipment that incorporates our products. Sales cycles with our major customers are lengthy for a number of reasons, including:

 

 

A significant portion of our operating expenses is relatively fixed and is based in large part on our forecasts of volume and timing of orders. The lengthy sales cycles make forecasting the volume and timing of product orders difficult. In addition, the delays inherent in lengthy sales cycles raise additional risks of customer decisions to cancel or change product phases. If customer cancellations or product changes were to occur, this could result in the loss of anticipated sales without sufficient time for us to reduce our operating expenses.

 

We rely on independent companies to manufacture, assemble and test our products. If these companies do not meet their commitments to us, our ability to sell products to our customers would be impaired.

 

We have limited manufacturing capability. For some product lines we outsource the manufacturing, assembly, and testing of printed circuit board subsystems. For other product lines, we purchase completed hardware platforms and add our proprietary software. While there is no unique capability with these suppliers, any failure by these suppliers to meet delivery commitments would cause us to delay shipments and potentially be unable to accept new orders for product.

 

In addition, in the event that these suppliers discontinued the manufacture of materials used in our products, we would be forced to incur the time and expense of finding a new supplier or to modify our products in such a way that such materials were not necessary. Either of these alternatives could result in increased manufacturing costs and increased prices of our products.

 

We assemble our antenna products in our facilities located in Illinois and China. We may experience delays, disruptions, capacity constraints or quality control problems at our assembly facilities, which could result in lower yields or delays of product shipments to our customers. In addition, we are having a number of our antenna products manufactured in China via contract manufacturers. Any disruption of our own or contract manufacturers’ operations could cause us to delay product shipments, which would negatively impact our sales, competitive reputation and position. In addition, if we do not accurately forecast demand for our products, we will have excess or insufficient parts to build our product, either of which could seriously affect our operating results.

 

In order for us to operate at a profitable level and continue to introduce and develop new products for emerging markets, we must attract and retain our executive officers and qualified technical, sales, support and other administrative personnel.

 

Our performance is substantially dependent on the performance of our current executive officers and certain key engineering, sales, marketing, financial, technical and customer support personnel. If we lose the services of our

executives or key employees, replacements could be difficult to recruit and, as a result, we may not be able to grow our business.

 

Competition for personnel, especially qualified engineering personnel, is intense. We are particularly dependent on our ability to identify, attract, motivate and retain qualified engineers with the requisite education, background and industry experience. As of December 31, 2008, we employed a total of 67 people in our engineering department. If we lose the services of one or more of our key engineering personnel, our ability to continue to develop products and technologies responsive to our markets may be impaired.

 

Failure to manage our technological and product growth could strain our management, financial and administrative resources.

 

Our ability to successfully sell our products and implement our business plan in rapidly evolving markets requires an effective management planning process. Future product expansion efforts could be expensive and put a strain on our management by significantly increasing the scope of their responsibilities and by increasing the demands on their management abilities. To effectively manage our growth in these new technologies, we must enhance our marketing, sales, and research and development areas.

 

We may be subject to litigation regarding intellectual property associated with our wireless business and this could be costly to defend and could prevent us from using or selling the challenged technology.

 

In recent years, there has been significant litigation in the United States involving intellectual property rights. We have from time to time in the past received correspondence from third parties alleging that we infringe the third party’s intellectual property rights. We expect potential claims to increase in the future, including with respect to our wireless business. Intellectual property claims against us, and any resulting lawsuit, may result in our incurring significant expenses and could subject us to significant liability for damages and invalidate what we currently believe are our proprietary rights. These lawsuits, regardless of their merits or success, would likely be time-consuming and expensive to resolve and could divert management’s time and attention. This could have a material and adverse effect on our business, results of operation, financial condition and prospects. Any potential intellectual property litigation against us related to our wireless business could also force us to do one or more of the following:

 

 

If we are subject to a successful claim of infringement related to our wireless intellectual property and we fail to develop non-infringing intellectual property or license the infringed intellectual property on acceptable terms and on a timely basis, operating results could decline and our ability to grow and sustain our wireless business could be materially and adversely affected. As a result, our business, financial condition, results of operation and prospects could be impaired.

 

We may in the future initiate claims or litigation against third parties for infringement of our intellectual property rights or to determine the scope and validity of our proprietary rights or the proprietary rights of our competitors. These claims could also result in significant expense and the diversion of technical and management personnel’s attention.

 

Undetected failures found in new products may result in a loss of customers or a delay in market acceptance of our products.

 

To date, we have not been made aware of any significant failures in our products. However, despite testing by us and by current and potential customers, errors may be found in new products after commencement of commercial shipments, resulting in loss of customers or delay in market acceptance.

Our financial position and results of operations may be adversely affected if tax authorities challenge us and the tax challenges result in unfavorable outcomes.

 

We currently have international subsidiaries located in China, United Kingdom, Malaysia, India, and Israel as well as international branch offices located in Hong Kong, Norway, and Ireland. The complexities resulting from operating in several different tax jurisdictions increase our exposure to worldwide tax challenges.

 

Conducting business in international markets involves foreign exchange rate exposure that may lead to reduced profitability.

 

We have current operations in United Kingdom, Israel, Mexico, Norway, Sweden, and China. We believe that foreign exchange exposures may adversely impact financial results.

 

Risks Related to Our Industry

 

Our industry is characterized by rapidly changing technologies. If we are not successful in responding to rapidly changing technologies, our products may become obsolete and we may not be able to compete effectively.

 

The Wi-Fi (802.11, WiMAX) space is rapidly changing and prone to standardization. We must continue to evaluate, develop and introduce technologically advanced products that will position us for possible growth in the wireless data access market. If we are not successful in doing so, our products may became obsolete and we may not be able to compete effectively.

 

Changes in laws or regulations, in particular, future FCC Regulations affecting the broadband market, internet service providers, or the communications industry, could negatively affect our ability to develop new technologies or sell new products and therefore, reduce our profitability.

 

The jurisdiction of the Federal Communications Commission (“FCC”) extends to the entire communications industry, including our customers and their products and services that incorporate our products. Future FCC regulations affecting the broadband access services industry, our customers or our products may harm our business. For example, future FCC regulatory policies that affect the availability of data and Internet services may impede our customers’ penetration into their markets or affect the prices that they are able to charge. In addition, FCC regulatory policies that affect the specifications of wireless data devices may impede certain of our customers’ ability to manufacture their products profitably, which could, in turn, reduce demand for our products. Furthermore, international regulatory bodies are beginning to adopt standards for the communications industry. Although our business has not been hurt by any regulations to date, in the future, delays caused by our compliance with regulatory requirements may result in order cancellations or postponements of product purchases by our customers, which would reduce our profitability.

 

We may experience further write downs of our financial instruments and other losses related to volatile and illiquid market conditions.

 

At December 31, 2008, we own shares with a recorded value of approximately $8.6 million in a Bank of America affiliated fund, the Columbia Strategic Cash Portfolio (“CSCP”). We classified approximately $4.3 million of the CSCP investment as “Short-term investments” and approximately $4.3 million as “Long-term investment securities”. The CSCP is an enhanced cash money market fund that has been negatively impacted by the recent turmoil in the credit markets. This investment is classified as available for sale and is carried at fair value. In December 2007, the CSCP was closed to new subscriptions and redemptions, and changed its method of valuing shares from the amortized cost method to the market value of the underlying securities of the fund. The CSCP’s manager is in the process of liquidating the fund and returning cash to the shareholders. During the year ended December 31, 2008, we received approximately $28.0 million in share liquidation payments. In the year ended December 31, 2008, we incurred losses of $2.4 million in net asset value from the CSCP marking the underlying assets of the fund to market. The loss was recorded in our consolidated statement of operations as a reduction of “Other Income, Net”. Starting in December 2007 through December 31, 2008, we recorded cumulative losses on

our CSCP investment of $2.9 million. We expect the liquidation of the long-term investment portion could take years to complete. Future impairment charges may result until the fund is fully liquidated, depending on market conditions.

 

Risks Related to our Common Stock

 

The trading price of our stock price may be volatile based on a number of factors, some of which are not in our control.

 

The trading price of our common stock has been highly volatile. The common stock price has fluctuated from a low of $3.73 to a high of $11.53 during 2008. Our stock price could be subject to wide fluctuations in response to a variety of factors, many of which are out of our control, including:

 

 

In addition, the NASDAQ Global Market, where many publicly held telecommunications companies, including PCTEL, are traded, often experiences extreme price and volume fluctuations. These fluctuations often have been unrelated or disproportionate to the operating performance of these companies. In the past, following periods of volatility in the market price of an individual company’s securities, securities class action litigation often has been instituted against that company. This type of litigation, if instituted, could result in substantial costs and a diversion of management’s attention and resources.

 

Provisions in our charter documents may inhibit a change of control or a change of management, which may cause the market price for our common stock to fall and may inhibit a takeover or change in our control that a stockholder may consider favorable.

 

Provisions in our charter documents could discourage potential acquisition proposals and could delay or prevent a change in control transaction that our stockholders may favor. These provisions could have the effect of discouraging others from making tender offers for our shares, and as a result, these provisions may prevent the market price of our common stock from reflecting the effects of actual or rumored takeover attempts and may prevent stockholders from reselling their shares at or above the price at which they purchased their shares. These provisions may also prevent changes in our management that our stockholders may favor. Our charter documents do not permit stockholders to act by written consent, do not permit stockholders to call a stockholders meeting, and provide for a classified board of directors, which means stockholders can only elect, or remove, a limited number of our directors in any given year.

 

Our board of directors has the authority to issue up to 5,000,000 shares of preferred stock in one or more series. The board of directors can fix the price, rights, preferences, privileges and restrictions of this preferred stock without any further vote or action by our stockholders. The rights of the holders of our common stock will be affected by, and may be adversely affected by, the rights of the holders of any preferred stock that may be issued in

the future. Further, the issuance of shares of preferred stock may delay or prevent a change in control transaction without further action by our stockholders. As a result, the market price of our common stock may drop.

 

Under regulations required by the Sarbanes-Oxley Act of 2002, if we are unable to successfully maintain processes and procedures to achieve and maintain effective internal control over our financial reporting, our ability to provide reliable and timely financial reports could be harmed.

 

We must comply with the rules promulgated under section 404 of the Sarbanes-Oxley Act of 2002. Section 404 requires an annual management report assessing the effectiveness of our internal control over financial reporting, a report by our independent registered public accounting firm addressing this assessment, and a report by our independent registered public accounting firm addressing the effectiveness of our internal control.

 

While we are expending significant resources in maintaining the necessary documentation and testing procedures required by Section 404, we cannot be certain that the actions we are taking to achieve and maintain our internal control over financial reporting will be adequate. If the processes and procedures that we implement for our internal control over financial reporting are inadequate, our ability to provide reliable and timely financial reports, and consequently our business and operating results, could be harmed. This in turn could result in an adverse reaction in the financial markets due to a loss of confidence in the reliability of our financial reports, which could cause the market price of our common stock to decline.

 

 

None

 

 

The following table lists our main facilities:

 

 

In addition to the above facilities, we have small sales offices in Stockholm, Sweden and Shanghai, China.

 

We are currently negotiating an extension of the Tianjin facility lease that expires in April 2009. In connection with the sale of the MSG division in January 2008, our corporate headquarters moved to our facility in Bloomingdale, Illinois. We assigned the leases for our Chicago, Illinois and Belgrade, Serbia offices to Smith Micro.

 

In February 2006, we relocated our office and assembly operations related to scanners and receivers to the Germantown, Maryland Observation Drive facility and vacated our Germantown, Maryland Wisteria Drive facility. The Wisteria Drive lease term ended in July 2007. We recorded lease exit costs in 2006 for the Wisteria Drive facility.

 

All properties are in good condition and are suitable for the purposes for which they are used. We believe that we have adequate space for our current needs.

 

 

Litigation with Wider Networks LLC

 

In March 2009, in the United States District Court for the District of Maryland Greenbelt Division we filed a lawsuit alleging patent infringement, unfair competition and false advertising against Wider Networks, LLC. It is our policy to protect our intellectual property and, pursuant to this policy, we intend to vigorously prosecute the action. However, as the litigation is in its early stages, we are unable to predict the outcome at this time.

This litigation follows our filing with the US Patent and Trademark Office (USPTO), in June 2007 and October 2008, for reexamination of two of Wider Networks LLC patents. As of the March 2009 filing of the complaint, the USPTO rejected one of the Wider Networks’ patents and agreed to reexamine the second patent, consistent with our June 2007 and October 2008 request.

 

 

None.

 

 

The following table sets forth information with respect to our executive officers as of March 1, 2009:

 

 

Mr. Martin H. Singer has been our Chief Executive Officer and Chairman of the Board since October 2001. Prior to that, Mr. Singer served as our non-executive Chairman of the Board from February 2001 until October 2001, and he has been a director since August 1999. From October 2000 to May 2001, Mr. Singer was an independent consultant. From December 1997 to August 2000, Mr. Singer served as President and Chief Executive Officer of SAFCO Technologies, a wireless communications company. He left SAFCO in August 2000 after its sale to Agilent Technologies. From September 1994 to December 1997, Mr. Singer served as Vice President and General Manager of Wireless Access and Business Development within the Motorola Cellular Infrastructure Group. Prior to this period, Mr. Singer held senior management and technical positions in Motorola, Tellabs, AT&T and Bell Labs. Mr. Singer holds a Bachelor of Arts degree in psychology from the University of Michigan, and a Master of Arts degree and a Ph.D. in experimental psychology from Vanderbilt University. Mr. Singer is a member of the Executive Board Midwest council of the AeA (American Electronics Association). He is also on the advisory board for the Master of Management & Manufacturing program at Northwestern University (Kellogg) and served on the standing advisory group for the Public Company Accounting Oversight Board for two years. He received the Martin N. Sandler distinguished Achievement Award (2007) from the AICC for his contributions to the development of economic ties between Israel and the U.S. He received the Executive Leadership Award from the AeA for his contributions to the technology community over several years. Mr. Singer has 7 patents in telecommunications and has written numerous articles on network evolution, immigration and labor policy, and other issues related to technology development.

 

Mr. John Schoen has been the Chief Financial Officer and Secretary since November 2001. Prior to that, Mr. Schoen was a Business Development Manager at Agilent Technologies, Inc. from July 2000 to November 2001. From May 1999 to July 2000, Mr. Schoen served as Chief Operating Officer and Chief Financial Officer of SAFCO Technologies, Inc. before its acquisition by Agilent Technologies Inc. Prior to this period, Mr. Schoen held various financial positions for over 19 years in Motorola Inc., including Controller of its Wireless Access and Business Development within Motorola’s Cellular Infrastructure Group. Mr. Schoen received a Bachelor of Science in Accounting from DePaul University and is a Certified Public Accountant.

 

Mr. Jeffrey A. Miller has been the Vice President and General Manager of our Antenna Products Group since October 2006. Prior to that, Mr. Miller was Vice President of Global Sales since July 2004. Mr. Miller was Vice President of Business Development and Licensing from January 2003 before taking on his Global Sales role. Prior to that position, in September 2002 Mr. Miller was appointed Vice President of Product Management & New Technology. From November 2001 when he joined PCTEL, until September of 2002, Mr. Miller was Vice President of Engineering. Prior to joining PCTEL, Mr. Miller was Functional Manager of Wireless Optimization Products,

Wireless Network Test Division of Agilent Technologies Inc. from July 2000 to November 2001. From January 1998 to July 2000, Mr. Miller served as Vice President of Engineering of SAFCO Technologies, Inc. and led its Test and Measurement Group before its acquisition by Agilent Technologies Inc. From September 1992 to January 1998, Mr. Miller was a Principal Consultant with Malcolm, Miller & Associates providing consulting services to wireless network operators and infrastructure suppliers. From 1978 through September of 1992, Mr. Miller held various technical and management positions at Motorola, Inc.’s Cellular Infrastructure Group. Mr. Miller received a Bachelor of Science in Computer Science from University of Illinois.

 

Mr. Luis Rugeles has been the Vice President and General Manager of the RF Solutions Group since April, 2006. After joining the company in 2003, Mr. Rugeles held several other positions at PCTEL including Vice President of International Sales and Director of Product Marketing for the RF Solutions Group. With two decades of continued work in the wireless industry, Mr. Rugeles also brings to PCTEL substantial Sales and Business Development expertise. Previously held positions in this area include responsibilities at Schema, Inc., TTC, SAFCO Technologies, Inc., and Motorola where he was the Director of Sales for the Wireless Infrastructure Group. Mr. Rugeles began his career in the Wireless Industry as an RF engineer at BellSouth International where he was responsible for the design and optimization of several emerging cellular networks. Mr. Rugeles received a BS in Electronics Engineering from Simon Bolivar University in Caracas, Venezuela, a Latin American Business Certificate from the University of Florida and an MBA in International Business from Vanderbilt University.

 

Mr. Robert Suastegui has been the Vice President and General Manager of Global Sales since joining PCTEL in June 2007. Prior to joining PCTEL, Mr. Suastegui enjoyed a successful 22 year career at Motorola. Mr. Suastegui held positions of increasing responsibilities in the accounting and finance organizations until the mid 1990’s. In 1997, Mr. Suastegui transitioned from the finance organization into Motorola’s iDEN business unit. From 1997 to 2005 he led Motorola’s iDEN International Infrastructure Group. In 2005 he assumed the leadership role of Vice President and General Manager N.A. Sales, Motorola Mobile Devices. He received his Bachelor of Science in Accounting from the University of Illinois at Chicago.

 

Price Range of Common Stock

 

PCTEL’s common stock has been traded on the NASDAQ Global Market under the symbol PCTI since our initial public offering on October 19, 1999. The following table shows the high and low sale prices of our common stock as reported by the NASDAQ Global Market for the periods indicated.

 

 

The closing sale price of our common stock as reported on the NASDAQ Global Market on March 2, 2009 was $4.60 per share. As of that date there were 47 holders of record of the common stock. A substantially greater number of holders of the common stock are in “street name” or beneficial holders, whose shares are held of record by banks, brokers, and other financial institutions.

Five-Year Cumulative Total Return Comparison

 

Notwithstanding any statement to the contrary in any of our previous or future filings with the SEC, the below company performance graph shall not be deemed “filed” with the SEC or “soliciting material” under the Exchange Act and shall not be incorporated by reference in any such filings.

 

The graph below compares the annual percentage change in the cumulative return to our stockholders with the cumulative return of the NASDAQ Composite Index and the S&P Information Technology Index for the period beginning December 31, 2003 and ending December 31, 2008. Returns for the indices are weighted based on market capitalization at the beginning of each measurement point. Note that historic stock price performance is not necessarily indicative of future stock price performance.

 

COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN *
Assumes Initial Investment of $100

 

* $100 invested on 12/31/03 in stock or indexed — including reinvestment of dividends. Fiscal years ending December 31

 

Dividends

 

We have only paid one cash dividend in our history which was paid in May 2008. This special dividend of $10.3 million was a partial distribution of the proceeds received from the sale of MSG. We do not anticipate the payment of regular dividends in the future.

 

Unregistered Sales of Equity Securities

 

None.

Issuer Purchases of Equity Securities

 

The following table provides the activity of our repurchase program during the three months ended December 31, 2008 (in thousand, except per share amounts):

 

 

We repurchase shares of our common stock under share repurchase programs authorized by our Board of Directors. All share repurchase programs are announced publicly. During the three months ended December 31, 2008, we repurchased 496,554 shares for approximately $4.5 million. In 2008, we repurchased a total of 4,022,616 shares for approximately $34.2 million and during 2007, we repurchased 663,384 shares for approximately $5.5 million. On November 21, 2008, the Board of Directors authorized the repurchase of shares up to a value of $5.0 million. There were no share repurchases in 2008 under this share repurchase program.

 

The following selected consolidated financial data should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” the Consolidated Financial Statements and related notes and other financial information appearing elsewhere in this Form 10-K. The statement of operations data for the years ended December 31, 2008, 2007, and 2006 and the balance sheet data as of December 31, 2008 and 2007 are derived from audited financial statements included elsewhere in this Form 10-K. The statement of operations data for the years ended December 31, 2005 and 2004 and the balance sheet data as of December 31, 2006, 2005, and 2004 are derived from audited financial statements not included in this Form 10-K.

 

 

This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements include, among other things, statements concerning the future operations, financial condition and prospects, and business strategies. The words “believe”, “expect”, “anticipate” and other similar expressions generally identify forward-looking statements. Investors in the common stock are cautioned not to place undue reliance on these forward-looking statements. These forward-looking statements are subject to substantial risks and uncertainties that could cause the future business, financial condition, or results of operations to differ materially from the historical results or currently anticipated results. Investors should carefully review the information contained in “Item 1A: Risk Factors” and elsewhere in, or incorporated by reference into, this report.

 

Introduction

 

PCTEL focuses on wireless broadband technology related to propagation and optimization. We design and develop innovative antennas that extend the reach of broadband and other wireless networks and that simplify the implementation of those networks. We provide highly specialized software-defined radios that facilitate the design and optimization of broadband wireless networks. We supply our products to public and private carriers, wireless infrastructure providers, wireless equipment distributors, VARs and other OEMs. Additionally, we have licensed our intellectual property, principally related to a discontinued modem business, to semiconductor, PC manufacturers, modem suppliers, and others.

 

In 2008, we operated in two separate product segments: BTG and Licensing. BTG includes our Antenna Products Group and RF Solutions Group. We maintain expertise in several technology areas. These include DSP chipset programming, radio frequency, software engineering, mobile, antenna design and manufacture, mechanical engineering, product quality and testing, advanced algorithm development, and cellular engineering.

 

On January 4, 2008 we sold MSG to Smith Micro Software, Inc. (NASDAQ: SMSI). MSG produced mobility software products for WiFi, cellular, IMS, and wired applications. The financial results for MSG are presented in the financial statements as discontinued operations.

 

Growth in product revenue is dependent both on gaining further revenue traction in the existing product profile as well as further acquisitions to support the wireless initiatives. Revenue growth for antenna products is correlated to emerging wireless applications in broadband wireless, in-building wireless, wireless Internet service providers, GPS and Mobile SATCOM. LMR, PMR, DPMR, and on-glass mobile antenna applications represent mature markets. Revenue for scanning receivers is tied to the deployment of new wireless technology, such as 2.5G and 3G, and the need for existing wireless networks to be tuned and reconfigured on a regular basis.

 

We have an intellectual property portfolio in the area of analog modem technology, which we have actively licensed for revenue starting in 2002. The number of U.S. patents and applications in this technology reached to over 100 in 2005. We have since sold or divested most of these patents. We had an active licensing program since 2002 designed to monetize the value of this intellectual property. Companies under license at the end of 2008 include Agere, US Robotics, 3COM, Intel, Conexant, Broadcom, Silicon Laboratories, Texas Instruments, Smartlink, and ESS Technologies. As of December 31, 2008, these licenses are substantially fully paid up. We believe that there are no significant modem market participants remaining to be licensed and we expect minimal modem licensing revenue going forward.

 

We have an intellectual property portfolio related to antennas, the mounting of antennas, and scanning receivers. These patents are being held for defensive purposes and are not part of an active licensing program.

 

Current Economic Environment

 

Recently, general domestic and global economic conditions have been negatively impacted by several factors, including, among others, the subprime-mortgage crisis in the housing market, going concern threats to investment banks and other financial institutions, reduced corporate spending, and decreased consumer confidence. These economic conditions have negatively impacted several elements of our business and have resulted in our facing one of the most challenging periods in our history. It is uncertain how long the current economic conditions will last or

how quickly any subsequent economic recovery will occur. If the economy or markets into which we sell our products continue to slow or any subsequent economic recovery is slow to occur, our business, financial condition and results of operations could be further materially and adversely affected.

 

Results of Operations for Continuing Operations

 

Years ended December 31, 2008, 2007 and 2006 (All amounts in tables, other than percentages, are in thousands)

 

Revenues

 

 

BTG revenues were approximately $76.7 million for the year ended December 31, 2008, an increase of 11% from the prior year. In the year ended December 31, 2008 versus the prior year, scanning receivers contributed 8% of the revenue growth and antennas provided 3% of the revenue growth. The revenue growth for scanning receivers is primarily due to an increase in the number of UMTS deployments. The revenue growth for antennas is primarily due to the acquisition of Bluewave in March 2008.

 

BTG revenues were approximately $69.1 million for the year ended December 31, 2007, an increase of 1% from the prior year. The 1% increase in revenues consisted of positive 4% from scanning receivers which offset negative 3% for antennas. The revenue growth for scanning receivers was primarily due to the roll out of UMTS networks and the related need for 3G scanners. Antenna revenues declined in 2007 due to the exit from the UMTS antenna market.

 

Licensing revenues were $0.2 million for the year ended December 31, 2008 compared to $0.8 million for the year ended December 31, 2007. The decline in licensing revenues was expected in 2008 and 2007, and we expect minimal modem licensing revenue going forward because we have sold or divested most of our modem patents. In 2006, licensing revenues included $7.0 million from Agere.

 

Gross Profit

 

 

Our two product segments vary from each other in gross profit percent. Gross profit as a percentage of total revenue was 47.5% in 2008 compared to 45.9% in 2007 and 48.0% in 2006. The margin increase in 2008 from 45.9% to 47.5% is due to an increase in BTG margins. The margin decline in 2007 from 48.0% to 45.9% was due to lower licensing revenues, which have a higher margin than revenue from product sales. Excluding the $7 million of licensing revenue from Agere in 2006, our gross margin increased 3.3% in 2007 compared to 2006.

BTG margin was 47.4% in the year ended December 31, 2008, approximately 2.1%, better than 2007. Scanning receivers contributed this 2.1% of the margin percentage increase for the year December 31, 2008. In 2008, the BTG margin reflects favorable product mix of higher margin scanning receiver products and volume increases. BTG margin was 45.3% for the year ended December 31, 2007, 3.9% better than 2006. Scanning receivers contributed 3.6% of the margin percentage increase and antennas contributed 0.3% of the margin percentage increase in the year ended December 31, 2007. In 2007, the BTG margin reflects favorable product mix of higher margin scanning receiver products and the exit from the lower margin UMTS antenna products.

 

Licensing margin was 97.3% in 2008, 97.9% in 2007, and 99.7% in 2006. The margin percentage declined in 2007 and 2008 due to the volume decrease in each year.

 

Research and Development

 

 

Research and development expenses increased $0.4 million from 2007 to 2008. Expenses were higher than the prior year because we invested in development of new scanning receivers and for an antenna design center in China.

 

Research and development expenses increased $0.4 million from 2006 to 2007. In 2007, we invested in new product development for both scanning receiver products and antennas. We shut down our research and development facility for UMTS iVET antennas in Dublin, Ireland but we invested domestically in research and development for antenna products, including our WiMAX portfolio of antennas.

 

We had 67 full-time equivalent employees in research and development at December 31, 2008 and 66 full-time equivalents in each of 2007 and 2006.

 

Sales and Marketing

 

 

Sales and marketing expenses include costs associated with the sales and marketing employees, sales representatives, product line management, and trade show expenses.

 

Sales and marketing expense decreased $0.2 million from 2007 to 2008 due to cost controls and lower sales commissions. Our sales commissions were lower because we reduced the number of third-party rep firms in 2008. Sales and marketing expense decreased $0.3 million from 2006 to 2007 due to lower European sales expenses as a result of the exit from the UMTS antenna market, as well as lower expense for trade shows and other marketing expenses.

 

We had 40, 46, and 40 full-time equivalent employees in sales and marketing at December 31, 2008, 2007, and 2006 respectively.

 

General and Administrative

 

General and administrative expenses include costs associated with the general management, finance, human resources, information technology, legal, public company costs, and other operating expenses to the extent not otherwise allocated to other functions.

 

General and administrative expenses decreased $1.9 million from 2007 to 2008. Approximately $1.4 million of the decrease is due to a reduction in corporate overhead expenses. Corporate overhead expenses declined because we streamlined our corporate overhead structure after the MSG sale and reduced spending on information technology, finance, human resources, and other professional services. The remaining decrease is primarily due to the full year impact from our exit from the UMTS iVET antenna product line in Ireland in 2007. General and administrative expenses decreased $0.4 million from 2006 to 2007 due to the restructuring in Ireland in 2006 that eliminated the manufacturing facility and the related general and administrative functions.

 

We had 36, 41, and 48 full-time equivalent employees in general and administrative functions at December 31, 2008, 2007, and 2006, respectively.

 

Impairment of goodwill and other intangible assets

 

 

In 2008, we recorded a goodwill impairment of $16.7 million based on the results from our annual test of goodwill impairment in accordance with Statement of Financial Accounting Standards No. 142 “Goodwill and Intangible Assets” (“FAS 142”). This amount represented the total BTG goodwill balance. See discussion of this goodwill impairment within the accounting policies section of Item 7.

 

In 2006, in conjunction with the completion of the restructuring of Dublin operations, we reevaluated the carrying value of the goodwill and intangible assets for technology and customer relationships, as required by Statement of Financial Accounting Standards No. 144 “Accounting for the Impairment or Disposal of Long Lived Assets” (“FAS 144”) and FAS 142. Based on projections for future revenues, profits, and cash flows, we concluded that the carrying value of intangible assets was impaired by $6.0 million and the carrying value of the goodwill was impaired by $14.3 million. The total impairment cost was recorded in the third quarter of 2006.

 

Amortization of Other Intangible Assets

 

 

The amortization of intangible assets relates to the acquisitions of DTI in 2003, MAXRAD in 2004, the antenna product lines of Andrew Corporation in 2004, the Sigma antenna product lines in 2005 and the Bluewave antenna product assets in 2008. Amortization increased in 2008 due to the acquisition of Bluewave assets. With the acquisition of Bluewave, we recorded intangible assets of $3.3 million for customer relationships, core technology, and trade names. These assets have an amortization period of six years. See note 4 to the consolidated financial statements related to the acquisition of the Bluewave antenna assets.

 

Amortization declined in 2007 due to lower amortization related to the intangible assets from DTI and the product lines from Sigma. The intangible assets related to the DTI acquisition were fully amortized as of March 2007. The lower amortization related to the intangible assets from the product lines from the Sigma acquisition is due to the impairment of intangible assets in 2006, the exit from the UMTS antenna market in 2007, and the sale of product lines to SWTS in October 2008.

 

Restructuring Charges

 

International sales restructuring

 

In November 2008 we announced the closure of our sales office in New Delhi, India, effective December 2008. We incurred restructuring charges of $0.1 million for severance payouts and lease obligations.

 

Corporate overhead

 

In the first quarter of 2008, we incurred restructuring expense of $0.3 million for employee severance costs related to our plan to reduce corporate overhead.

 

UMTS restructuring

 

In 2007, we exited the UMTS antenna market and shut down our iVET antenna product line. We closed our research and development facility in Dublin, Ireland as well as a related engineering satellite office in the United Kingdom, and discontinued the UMTS portion of our contract manufacturing, which was located in St. Petersburg, Russia. These actions terminated twelve redundant employee positions in Ireland and three redundant employee positions in the United Kingdom. The facilities and employees affected by the closure decision were originally part of our acquisition of Sigma in July 2005.

 

We recorded net $2.0 million of restructuring costs in 2007 related to the exit of our UMTS iVET antenna product line. The major components of the expense were $2.4 million of gross cash-based restructuring charges plus $0.7 million of asset impairments, offset by $1.1 million for the sale of assets. The cost categories of the $2.4 million of cash-based restructuring costs were: $0.4 million of employee severance; $0.1 million of future lease payments; $0.1 million of office clean up costs; and $1.8 million in contract manufacturing obligations, primarily related to inventory in the supply chain. We recovered $1.1 million through the sale of assets. The major components were the last time purchase of inventory for $0.5 million and the sale of intangible assets for $0.6 million. In 2008, we completed the UMTS restructuring when we paid the final manufacturing purchase obligations.

 

Dublin restructuring

 

In 2006, we discontinued the manufacture of the iVET, PMR and DPMR lines of our antenna products at our Dublin, Ireland location. We reached an agreement in principle with the labor union responsible for our manufacturing and certain other personnel in our Dublin, Ireland factory that enabled us to wind down our manufacturing operations at the Dublin facility, terminate 65 redundant employee positions, downsize the space under the current lease at this location, and reduce our pension obligations to terminated and remaining employees. Manufacturing of the lines of antenna products was relocated either to a contract manufacturer in St. Petersburg, Russia, or to our BTG facility in Bloomingdale, Illinois. The process of winding down manufacturing operations in Dublin and relocating the products to other manufacturing locations was completed in September 2006. The general and administrative support functions were eliminated in December 2006.

 

For the year ended December 31, 2006, we recorded restructuring expense of $0.4 million, which included the net benefit related to the termination of the pension plan of $2.6 million, offsetting employee severance of $1.5 million, inventory write-offs of $0.8 million, fixed asset write-offs of $0.6 million, and facility lease costs of $0.1 million. We negotiated the terms of the pension termination with the Sigma labor union in June 2006. Under the terms of the settlement, we funded the cash shortfall in our PCTEL Europe Pension Plan as calculated by a third party actuary less any severance amounts given to employees that exceeded three weeks severance for every year of service. The funding shortfall was based on pension requirements in accordance with Irish regulations. We funded pension obligations of $0.6 million and recorded a net gain of $2.6 million on the termination.

 

Loss on sale of product lines

 

 

On August 14, 2008, we entered into an asset purchase agreement for the sale of certain antenna products and related assets to SWTS. SWTS purchased the intellectual property, dedicated inventory, and certain fixed assets

related to four of our antenna product families for $0.7 million, payable in installments at close and over a period of 18 months. The four product families represent the last remaining products acquired by us through our acquisition of Sigma in July 2005. The sale transaction closed on October 9, 2008. Sigma and SWTS are unrelated companies.

 

For the year ended December 31, 2008, we recorded a $0.9 million loss on sale of product lines, separately within operating expenses in the financial statements. The net loss included the book value of the assets sold to SWTS, impairment charges in accordance with FAS 142 and FAS 144, and incentive payments due the new employees of SWTS, net of the proceeds due to us. We sold inventory with a net book value of $0.8 million and wrote off intangible assets including goodwill of $0.5 million. The intangible asset write-off was the net book value and the goodwill write-off was a pro-rata portion of BTG goodwill in accordance with FAS 142. We paid incentive payments of $0.1 million and we calculated $0.5 million in proceeds based on the principal value of the installment payments excluding imputed interest. At December 31, 2008, we included the principal amounts due in “Prepaid expenses and other current assets” and “Other assets” on the balance sheet.

 

Gain on sale of assets and related royalties

 

 

We received $0.8 million of royalty payments during 2008 and $1.0 million of royalty payments during 2007 and 2006 from Conexant Systems, Inc (“Conexant”). In August 2005, we amended our cross license agreement with Conexant whereby the period for which the royalties are payable was extended to end on June 30, 2009. The quarterly royalty maximum was amended to be $250,000 per quarter for the period January 1, 2006 through December 31, 2007 and $200,000 per quarter for the period January 1, 2008 through June 30, 2009. At June 30, 2009, the Conexant license will be fully paid up.

 

Other Income, net

 

 

Other income, net, consists of interest income, investment gains and losses, and foreign exchange gains and losses. In 2008, investment losses offset most of the interest income. Investment losses were $2.4 million and $0.5 million in the years ended December 31, 2008 and 2007, respectively. The losses resulted from mark to market adjustments in our CSCP. The fund was closed to new subscriptions or redemptions in December 2007, resulting in our inability to immediately redeem our investments for cash. The fair value of our investment in this fund as of December 31, 2008 was estimated to be $8.6 million based on the net asset value of the fund and we classified approximately $4.3 million of the CSCP investment as “Short-term investments” and approximately $4.3 million as “Long-term investment securities”. We expect that the liquidation of the long-term portion could take years to complete. Future impairment charges may result until the fund is fully liquidated, depending on market conditions.

 

Interest income was $2.6 million, $3.5 million and $2.9 million for the years ended December 31, 2008, 2007 and 2006, respectively. Interest income decreased in 2008 compared to 2007 due to lower interest rates. Interest income was higher in 2007 compared to 2006 because we had higher average cash and investment balances in 2007.

 

We recorded foreign exchange losses of $0.1 million and $0.3 million in the years ended December 31, 2008 and 2007, respectively, and foreign exchange gains of $0.2 million in the year ended December 31, 2006.

 

Benefit for Income Taxes

 

The effective tax rate differed from the statutory Federal rate of 35% during 2008 primarily due to the release of our valuation allowance of $9.8 million. We reversed our valuation allowance because our projected income is more than adequate to offset our deferred tax assets remaining after disposition of the Sigma assets in the third quarter 2008.

 

The effective tax rate differed from the statutory Federal rate of 35% during 2007 principally due to the release of our valuation allowances in the amount of $7.9 million. In addition, different rates for foreign income and losses and other permanent items impacted the effective tax rate. We reversed $7.9 million of the valuation allowance in 2007 due to the taxable income from the gain on the sale of MSG in January 2008. We maintained a partial valuation allowance of $11.0 million at December 31, 2007.

 

The effective tax rate differed from the statutory federal rate of 35% during 2006 principally due to the release of our tax contingency reserve of $5.2 million and due to the increase in the valuation allowance for deferred tax assets.

 

Significant management judgment is required to assess the likelihood that our deferred tax assets will be recovered from future taxable income. With the reversal of the valuation allowance in 2008, we had gross deferred tax assets of $12.5 million and a valuation allowance of $1.2 million against the deferred tax assets at December 31, 2008. We maintain the valuation allowance due to uncertainties regarding realizability. The valuation allowance at December 31, 2008 relates to deferred tax assets in tax jurisdictions in which the company no longer has significant operations. On a regular basis, management evaluates the recoverability of deferred tax assets and the need for a valuation allowance. At such time as it is determined that it is more likely than not that the deferred tax assets are realizable, the valuation allowance will be reduced.

 

Discontinued Operations

 

 

In January 2008, we completed the sale of our MSG division to Smith Micro in accordance with an Asset Purchase Agreement (the “Smith Micro APA”) entered into between Smith Micro and PCTEL and publicly announced on December 10, 2007. Under the terms of the Smith Micro APA, Smith Micro purchased substantially all of the assets of the MSG division for total consideration of $59.7 million in cash. In the transaction, PCTEL retained the accounts receivable, non customer-related accrued expenses and accounts payable of the division. Substantially all of the employees of MSG continued as employees of Smith Micro in connection with the completion of the acquisition. The results of operations of MSG have been classified as discontinued operations. The assets and liabilities that were sold with MSG are classified as assets and liabilities of discontinued operations in the consolidated balance sheet at December 31, 2007.

 

The sale of MSG in January 2008 qualifies as a discontinued operation for the years ended December 31, 2008, 2007, and 2006. The results of MSG have been excluded from our continuing operations and reported separately as discontinued operations. See also footnote 3 related to the sale of MSG in the notes to the consolidated financial statements.

 

Discontinued operations for the year ended December 31, 2008 included the gain on the sale of MSG of $60.3 million in addition to net loss from operations of $0.3 million and income tax expense of $22.8 million. We reported a loss from discontinued operations in 2007 of $0.1 million compared to income from discontinued operations in 2006 of $1.0 million. Revenues increased $0.5 million in 2007 compared to 2006, but expenses for professional services related to the transaction with Smith Micro and investments in Europe for research and development and sales and marketing in 2007 negatively impacted the 2007 earnings. In the fourth quarter of 2007, we incurred $0.8 million in costs for professional services associated with the sale of MSG.

Liquidity and Capital Resources

 

 

Liquidity and Capital Resources Overview

 

At December 31, 2008, our cash and investments were approximately $77.9 million and we had working capital of approximately $82.0 million. Our primary source of liquidity is cash provided by operations, with short term swings in liquidity supported by a significant balance of cash and short-term investments. The original source of the cash and short-term investments is a public offering of our common stock made in 1999. During the subsequent years the balance has fluctuated with cash from operations, acquisition and divestitures, large modem licensing agreements, and the repurchase of our common shares.

 

Within operating activities, we are historically a net generator of operating funds from our income statement activities and a net user of operating funds for balance sheet expansion. We expect this historical trend to continue in the future.

 

Within investing activities, capital spending historically ranges between 4% and 6% of our BTG revenue. The primary use of capital is for BTG’s manufacturing and development engineering requirements. We historically have significant transfers between investments and cash as we rotate our large cash and short-term investment balances between money market funds, which are accounted for as cash equivalents, and other investment vehicles. We have a history of supplementing our organic revenue growth with acquisitions of product lines or companies, resulting in significant uses of our cash and short-term investment balance from time to time. We expect the historical trend for capital spending and the variability caused by moving money between cash and investments and periodic merger and acquisition activity to continue in the future.

 

Within financing activities, we have historically generated funds from the exercise of stock options and proceeds from the issuance of common stock through our employee stock purchase plan (“ESPP”) and used funds to repurchase shares of our common stock through our share repurchase programs. The result of this activity, being a net user of funds versus a net generator of funds, is largely dependent on our stock price during any given year.

 

We believe that the existing sources of liquidity, consisting of cash, short-term investments and cash from operations, will be sufficient to meet the working capital needs for the foreseeable future. We continue to evaluate opportunities for development of new products and potential acquisitions of technologies or businesses that could complement the business. We may use available cash or other sources of funding for such purposes.

 

Operating Activities:

 

We generated $23.0 million of funds from operating activities for the year ended December 31, 2008. The income statement was a net generator of $20.4 million of funds through net income, depreciation, amortization, stock based compensation and restructuring. Net income includes a tax benefit of $9.8 million for the reversal of deferred tax asset allowances.

The balance sheet provided $1.4 million of funds. The net collection of accounts receivables provided cash of $2.1 million and increase in accounts payable provided $1.5 million during 2008. The receivable collections included $1.9 million of MSG accounts receivables from December 31, 2007 that were retained by us. Our accounts payable increased due to inventory purchased during the fourth quarter 2008 to meet our customer commitments. We used cash of $1.3 million on increases in inventories and $1.6 million on decreases in other accrued liabilities. The decrease in accrued liabilities is primarily due to payments for professional services incurred in December 2007 for the MSG sale.

 

We generated $0.8 million of funds from operating activities for the year ended December 31, 2007. The income statement was a net generator of $13.7 million of funds through net income, depreciation, amortization, stock based compensation and restructuring. The balance sheet was a net user of $13.0 million of funds due to increases in inventories of $3.4 million and accounts receivable of $2.0 million. The increase in inventories was due to purchases of antenna raw material inventory and scanner receiver sub-assemblies to meet the customer demand in the first quarter 2008. The increase in accounts receivables was due to the calendarization of the fourth quarter 2008 revenues versus the comparable period in the prior year.

 

We generated $10.4 million of funds from operating activities for the year ended December 31, 2006. The income statement was a net generator of $9.2 million of cash and the balance sheet provided $1.2 million. The balance sheet was a net provider of cash primarily because of increases in accrued liabilities of $1.9 million and decreases in inventory of $1.6 million. Accrued liabilities increased due to liabilities for contract manufacturing and inventories declined due to the transition of manufacturing for the UMTS iVET antennas from Dublin, Ireland to the contract manufacturers.

 

Investing Activities:

 

We used $2.3 million for investing activities during the year ended December 31, 2008. Redemptions from the Columbia Strategic Cash Portfolio (“CSCP”) provided $28.0 million in funds and we rotated $24.5 million to other short-term and long-term investments. We used $3.9 million for the purchase of certain Bluewave assets in March 2008 and $2.7 million for capital expenditures. Our 2008 capital expenditures included $0.6 million for a new China design center. The China design center represents expansion of our engineering capacity. The remainder of our capital expenditures during 2008 was maintenance in nature. Capital expenditures during the year ended December 31, 2008 were 3.5% of BTG revenues, below the historical range of 4% to 6% of BTG revenues. Lower capital expenditures than our historical trend are reflective of our exit from UMTS antenna operations in 2007 and reduced capital expenditures for information systems. In 2008, we received $0.8 million from the sale and related royalties of our modem business to Conexant in 2003. There are maximum royalty payments under that sale of $0.4 million in 2009.

 

In December 2007, we received notification that the CSCP, in which we had invested $38.9 million as of December 31, 2007, was being closed to new subscriptions or redemptions, resulting in our inability to immediately redeem our investments for cash. The fair value of our investment in this fund was based on the net asset value of the fund, and was classified as “Short-Term Investments” on our Consolidated Balance Sheet. At December 31, 2008, the fair value of our investment in this fund was $8.6 million and we classified approximately $4.3 million as “Long-Term Investments”, and approximately $4.3 million in “Short-Term Investments”. During 2008, we recognized a loss of $2.4 million, included in “Other Income, net” related to the estimated realizable value of this fund. We expect the liquidation of the long-term investment portion could take years to complete.

 

We used $29.1 million for investing activities in the year ended December 31, 2007. With redemptions of short-term investments, we rotated $11.6 million into cash and cash equivalents. We classified the $38.9 million fair value of our investment in the CSCP as “Short-Term Investments” on our consolidated balance sheet at December 31, 2007. Capital expenditures were $2.8 million in 2007, or 4.1% of BTG revenue, which fell within the historical range of 4% to 6% of BTG revenue. All of the 2007 capital expenditures were maintenance in nature. We received $0.8 million from the sale and related royalties of our modem business to Conexant in 2003. There were no acquisitions in the year ended December 31, 2007.

We used $13.3 million for investing activities in the year ended December 31, 2006. We rotated $11.6 million into short-term investments from cash and cash equivalents. Capital expenditures were $3.5 million in 2006, or 5.1% of BTG revenue, which fell within the historical range of 4% to 6% of BTG revenue. All of the 2006 capital expenditures were maintenance in nature. We received $1.0 million from the sale and related royalties of our modem business to Conexant in 2003.

 

Financing Activities:

 

Our financing activities consumed $40.9 million of funds during the year ended December 31, 2008. We used $34.2 million to repurchase our common stock under share repurchase programs and we used $10.3 million for a $0.50 per share special cash dividend. We generated $2.2 million from the proceeds from the sale of common stock related to stock option exercises and shares purchased through the ESPP. Tax benefits from stock compensation and proceeds from the sale of common stock related to stock option exercises and shares purchased through the ESPP generated $1.4 million. In April 2008, we used $0.1 million to repay a short-term loan for our Tianjin, China subsidiary. At December 31, 2008, we had no borrowings.

 

Our financing activities consumed $5.0 million during the year ended December 31, 2007. We used $5.5 million to repurchase our common stock under share repurchase programs, but we generated $1.3 million from the proceeds from the sale of common stock related to stock option exercises and shares purchased through the ESPP. Repayment of our net borrowing balance in Ireland used $0.8 million of cash in the year ended December 31, 2007.

 

Our financing activities provided $2.6 million during the year ended December 31, 2006. We used $2.1 million to repurchase our common stock under share repurchase programs, but we generated $3.4 million from the proceeds from the sale of common stock related to stock option exercises and shares purchased through the ESPP. Net borrowing for working capital needs in Ireland and China provided $0.8 million of cash during the year ended December 31, 2006.

 

Contractual Obligations and Commercial Commitments

 

The following summarizes the contractual obligations for office and product assembly facility leases office equipment leases and purchase obligations and the effect such obligations are expected to have on the liquidity and cash flows in future periods (in thousands):

 

 

 

 

See Footnote 10, Commitments and Contingencies, in the Notes to Consolidated Financial Statements for a further discussion of leases.

 

We have a liability related to Interpretation No. 48, “Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109” (“FIN 48”) of $0.6 million at December 31, 2008. We do not know when this obligation will be paid.

Off-Balance Sheet Arrangements

 

None.

 

Critical Accounting Policies

 

The preparation of our consolidated financial statements in accordance with generally accepted accounting principles requires us to make estimates and judgments that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the period reported. By their nature, these estimates and judgments are subject to an inherent degree of uncertainty. Management bases its estimates and judgments on historical experience, market trends, and other factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions.

 

Revenue recognition

 

In accordance with Staff Accounting Bulletin No. 104: “Revenue Recognition”, we recognize revenue when the following criteria are met: persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, price is fixed and determinable, and collectability is reasonably assured. We obtain contracts or purchase orders as evidence of the arrangement with our customers.

 

Continuing operations

 

We recognize revenue for sales of the antenna products and software defined radio products when title transfers which is predominantly upon shipment from the factory. For products shipped on consignment, we recognize revenue upon delivery from the consignment location. We sell our products into both commercial and secure application government markets. Revenue is recognized for antenna products sold to major distributors upon shipment from our factory. We allow our major antenna product distributors to return product under specified terms and conditions. We accrue for product returns in accordance with FAS 48, “Revenue Recognition When Right of Return Exists”.

 

We license our modem technology through the licensing program. The licensing of the intellectual property is recorded as revenue. We record intellectual property licensing revenue when we have a licensing agreement, the amount of related royalties is known for the accounting period reported, and collectability is reasonably assured. Knowledge of the royalty amount specific to an accounting period is either in the form of a royalty report specific to a quarter, a contractual fixed payment in the license agreement specific to a quarter, or the pro-rata amortization of a fixed payment related to multiple quarters over those quarters using the operating lease method. If a license agreement provides for a fixed payment related to periods prior to the license effective date (the past) and volume-based royalties going forward, the fixed payment is recognized at the license effective date and the volume based royalties are recognized as royalty reports are received. If the license provides for a fixed payment for the past and for a finite future period, to be followed by volume based royalties thereafter, the fixed payment is recorded under the operating lease method and recognized pro-rata from the effective date through the end of the period covered by the fixed payment. If a one-time license payment is made for a perpetual license, with no future obligations, revenue is recognized under the capitalized lease method upon the effective date.

 

For license agreements where litigation is involved, we consider such arrangements to have both an intellectual property licensing element and a litigation element. For these multiple element arrangements, we allocate a portion of the total settlement amount to the intellectual property licensing element based upon the estimated fair value of the intellectual property licensing element using its historical sold-separately experience. Using the residual method, we then allocate the remaining settlement amount to the litigation element which is recorded as other income. For the years ended December 31, 2008, 2007, and 2006, respectively, no significant amounts have been allocable to the litigation element.

 

There is one exception to the recognition of intellectual property licensing as revenue. We signed a licensing agreement with Conexant simultaneously with the sale of our HSP modem product line to Conexant in 2003. Because the HSP modem product line also requires a license to our patent portfolio, the gain on sale of the product

line and the licensing stream are not separable for accounting purposes. Ongoing royalties from Conexant are presented in the income statement as Gain on Sale of Assets and Related Royalties.

 

Discontinued operations

 

For MSG, we recognized revenue from the Wi-Fi and cellular mobility software, including related maintenance rights, under SOP 97-2 “Software Revenue Recognition” as amended by SOP 98-9 “Modification of SOP 97-2, Software Revenue Recognition, with Respect to Certain Transactions”. If the software license is perpetual and vendor specific objective evidence can be established for the software license and any related maintenance term, the software license revenue is recognized upon delivery of the software and the maintenance is recognized pro-rata over the life of the maintenance term. If part of the licensing agreement requires engineering services to customize software for the customer needs, the revenue for these services is recognized upon completion of engineering customization. If vendor specific objective evidence cannot be established, and the only undelivered item is maintenance, the software license revenue, the revenue associated with engineering services, if applicable, and the related maintenance rights are combined and recognized pro-rata over the expected term of the maintenance rights. If vendor specific evidence cannot be established on any of the non-maintenance elements, the revenue is recorded pro-rata over the life of the contractual obligation.

 

Discontinued operations

 

We accounted for the activity related to MSG as discontinued operations in the Consolidated Statement of Operations. We accounted for the related assets currently held for sale, in accordance with the provisions of FAS No. 144. In accordance with FAS 144, the net assets held for sale are recorded on our Consolidated Balance Sheets at the lower of carrying value or the fair value less costs to sell. See Note 3 to the Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K for further discussion of our accounting for discontinued operations.

 

Accounts receivable and allowance for doubtful accounts

 

Accounts receivable are recorded at invoiced amount. We extend credit to our customers based on an evaluation of a company’s financial condition and collateral is generally not required. We maintain an allowance for doubtful accounts for estimated uncollectible accounts receivable. The allowance is based on our assessment of known delinquent accounts, historical experience, and other currently available evidence of the collectability and the aging of accounts receivable. Although management believes the current allowance is sufficient to cover existing exposures, there can be no assurance against the deterioration of a major customer’s creditworthiness, or against defaults that are higher than what has been experienced historically.

 

Inventories

 

Inventories are stated at the lower of cost or market and include material, labor and overhead costs. Inventories as of December 31, 2008 and 2007 were composed of raw materials, subassemblies, work-in-process, and finished goods. We maintain reserves to reduce the value of inventory to the lower of cost or market, including reserves for excess and obsolete inventory. Reserves for excess inventory are calculated based on our estimate of inventory in excess of normal and planned usage. Obsolete reserves are based on our identification of inventory where carrying value is above net realizable value. These reserves are based on our estimates and judgments regarding the utilization of the inventory. Due to competitive pressures and technological innovation, we may have excess inventory in the future. Write-downs of inventories would have a negative impact on gross profit.

 

Warranty costs

 

We offer repair and replacement warranties of primarily two years for antenna products and one year for scanners and receivers. Our warranty reserve is based on historical sales and costs of repair and replacement trends. If we were to experience an increase in warranty claims compared with our historical experience, gross profit would be adversely affected.

Stock-based compensation

 

Effective January 1, 2006, we adopted SFAS No. 123(R), “Share Based Payments,” (“FAS 123(R)”) which revises SFAS No. 123, “Accounting for Stock Based Compensation.” FAS 123(R) requires us to record compensation expense for share-based payments, including employee stock options, at fair value.

 

We elected to use the modified prospective transition method to adopt FAS 123(R). Under this transition method, compensation expense includes expense for all share-based payments granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS No. 123, and the expense for all share-based payments granted subsequent to January 1, 2006 based on the grant date fair value estimated in accordance with the provisions of FAS 123(R). As required under the modified prospective transition method we have not restated prior period results. As part of the adoption of FAS 123(R), we used the alternative transition method in FAS 123(R) to establish the beginning balance of the additional paid in capital (“APIC”) pool related to employee compensation. We determined that it was in a net shortfall position and thus, started at $0 for the APIC pool at January 1, 2006.

 

Goodwill and intangible assets

 

Under the provisions of FAS No. 142, we test goodwill of each operating segment for impairment on an annual basis. We perform our annual impairment test of goodwill at the end of the first month of our fiscal fourth quarter (October 31st), or at an interim date if circumstances dictate.

 

2008 Evaluation

 

In 2008, we managed our business as two operating segments, BTG and Licensing. In 2007, there was a third operating segment, MSG, which was sold on January 4, 2008 and was accounted for as discontinued operations in 2007. In accordance with FAS 142, we determined these operating segments were our reporting units. We test each reporting unit for possible goodwill impairment by comparing each reporting unit’s net book value to fair value. The process of evaluating the potential impairment of goodwill is subjective and requires significant judgment. In estimating the fair value of the reporting units for the purpose of our annual or periodic analyses, we make estimates and judgments about the future cash flows of these businesses as well as fair value on a comparable business basis.

 

BTG Reporting Unit

 

For BTG, we used both the Discounted Cash Flow (“DCF”) method and the Comparable Business (“CB”) method for determining fair value of the reporting unit as “step one” in the test for impairment. The CB method is a valuation technique by which the fair value of the equity of a business is estimated by comparing it to publicly-traded companies in similar lines of business. The multiples of key metrics of other similar companies (revenue and/or EBITDA) are applied to the historical and/or projected results of the business being valued to determine its fair value. The DCF method considers the future cash flow projections of the business and the value of those projections discounted to the present day. For the cash flow projections, we projected a pro-forma income statement for BTG for the two months ended 12/31/08 and for the five calendar years ending 12/31/13.

 

While the use of historical results and future projections can result in different valuations for a company, it is a generally accepted valuation practice to apply more than one valuation technique to establish a range of values for a business. Since each technique relies on different inputs and assumptions, it is unlikely that each technique would yield the same results. However, it is expected that the different techniques would establish a reasonable range. In determining the fair value of BTG, we weight the two methods equally in determining the far value because we believe both methods have an equal probability of providing an appropriate fair value.

 

In “step one”, the calculation of our fair value was lower than the carrying value of BTG at October 31, 2008. We concluded that goodwill impairment was likely as described in FAS 142.

Reconciliation of Reporting Units Fair Value to PCTEL’s Market Capitalization

 

The sum of the reporting units’ fair value using the DCF and CB methods plus the fair value of our cash and investments under SFAS No. 157, Fair Value Measurements (“Calculated Fair Value”) was reconciled to the sum of our total market capitalization plus a control premium (“Adjusted Market Capitalization”). The control premium is based on the discounted cash flows associated with obtaining control of us in an acquisition of the entire company. In the event that Adjusted Market Capitalization is less than the Calculated Fair Value, the negative variance is allocated back to the reporting units’ fair value in proportion to their calculated fair values under the methods previously described in order to arrive at an adjusted fair value. A negative Adjusted Market Capitalization variation condition existed in 2008. The adjusted fair value including the negative variation was used in performing the “step one” test under FAS 142.

 

The market capitalization at October 31, 2008 was $107.2 million to which a $6.5 million control premium (6%) was added based on the DCF of our after tax costs of being a public company to arrive at the market capitalization plus control premium of $113.7 million. We considered whether the market capitalization at October 31st was appropriate for use in the “step one” calculation as the market capitalization for the six months prior to the annual test date averaged $184.1 million. We concluded that the market had not reflected the economic recession outlook in its stock price prior to October. The average market capitalization for the months of October 2008 through January 2009 averaged $113.7 million, which indicates that the decline in market capitalization in October 2008 is other than temporary. Therefore the October 31st market capitalization was used. As a result of our lower market capitalization in 2008, we recorded an impairment charge for $16.7 million. The goodwill impairment of $16.7 million was 100% of the goodwill associated with BTG.

 

2007 Evaluation

 

Based on using the DCF and CB methods for determining the fair value of our business units at October 31, 2007, there was not an impairment of goodwill at October 31, 2007. Further, the Adjusted Market Capitalization exceeded the calculated fair value at October 31, 2007. At October 31, 2007, our market capitalization was $191.2 million to which a $6.2 million control premium (3%) was added based on the DCF of our after tax costs of being a public company to arrive at the Adjusted Market Capitalization plus control premium of $197.4 million.

 

2006 Impairment

 

In conjunction with the completion of the restructuring of Dublin operations in 2006, we reevaluated the carrying value of the goodwill and intangible assets for technology and customer relationships, as required by FAS 144 and FAS 142. We concluded that the carrying value of intangible assets was impaired by $6.0 million and the carrying value of the goodwill was impaired by $14.3 million. The total impairment cost was recorded in the third quarter of 2006.

 

Licensing Reporting Unit

 

For Licensing, we use an undiscounted cash flow model for determining fair value. The reporting unit has stable predictable cash flow and a finite life, as the last of the modem licensing agreements will contractually reach paid up status in June 2009. Given the finite life, the difference between undiscounted and discounted cash flow is immaterial. The annual test of goodwill for both 2007 and 2008 did not indicate impairment was likely. We anticipate that the licensing goodwill will be impaired ratably over the first two quarters of fiscal 2009 on a dollar for dollar basis with the last $0.4 million of cash flow received.

 

Long-lived assets

 

In accordance with FAS 144, we review our long-lived assets and certain identifiable intangible assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Our annual impairment test for goodwill in 2008 yielded an impairment of BTG’s goodwill in the amount of the entire $16.7 million. Under FAS 144, a long- lived asset shall be tested for impairment when there is “a significant decrease in the market price of a long-lived asset (asset group)”. While there is no direct market price comparison available for BTG’s intangible assets, we believed that the indicated fair value deficit in the FAS 142

calculation beyond the goodwill balance was an indication that there may be a significant market price decline in the intangible assets.

 

Therefore, we tested the intangible asset balances at October 31, 2008 to determine whether the carrying value of the intangible assets exceeds their “fair value” as discussed in FAS 144. Per FAS 144, “fair value” means the discounted cash flows expected to result from the use of the asset over its life. The BTG intangible assets with remaining book balances subject to amortization at October 31, 2008 are the trademarks, technology, and customer relationships associated with the acquisitions of the Maxrad, Andrew, and Bluewave antenna products. FAS 144 requires that the evaluation be done on the specific assets or asset group and related cash flows to which the carry value relates. Based on our analysis, the forecasted future undiscounted cash flows were greater than the carrying value at the asset group level for all three intangible asset groups. These results lead us to conclude that no impairment loss shall be recognized at December 31, 2008. Additionally, there is nothing in the analysis and underlying worksheets that would lead management to conclude that there should be a revision of the original amortization period contemplated for the assets. Our assumptions required significant judgment and actual cash flows may differ from those forecasted.

 

There were no other events or circumstances that would indicate impairment for our other long-lived assets at December 31, 2008 and 2007, respectively.

 

Income taxes

 

We account for income taxes under the provisions of SFAS No. 109, “Accounting for Income Taxes” (“FAS 109”). FAS 109 requires an asset and liability based approach in accounting for income taxes. Deferred income tax assets and liabilities are recorded based on the differences between the financial statement and tax bases of assets and liabilities using enacted tax rates. Valuation allowances are provided against tax assets which are not likely to be realized. On a regular basis, management assesses the needs for tax contingency reserves based on the analysis of asserted and non-asserted claims. Changes in expectations could result in changes to the valuation allowances.

 

Our continuing operations have international subsidiaries located in China, United Kingdom, Malaysia, India, and Israel as well as international branch offices located in Hong Kong, Ireland, and Norway. The complexities brought on by operating in several different tax jurisdictions inevitably lead to an increased exposure to worldwide taxes. Should review of the tax filings result in unfavorable adjustments to our tax returns, the operating results, cash flows, and financial position could be materially and adversely affected. We believe there will not be any significant adjustments related to foreign taxes.

 

In addition, we are subject to the continuous examination of our income tax returns by the Internal Revenue Service and other tax authorities. A change in the assessment of the outcomes of such matters could materially impact our consolidated financial statements. The calculation of tax liabilities involves dealing with uncertainties in the application of complex tax regulations. In accordance with FIN 48, we recognize liabilities for anticipated tax audit issues based on our estimate of whether, and the extent to which, additional taxes may be required. If we ultimately determine that payment of these amounts is unnecessary, then we reverse the liability and recognize a tax benefit during the period in which we determine that the liability is no longer necessary. We also recognize tax benefits to the extent that it is more likely than not that our positions will be sustained if challenged by the taxing authorities. To the extent we prevail in matters for which liabilities have been established, or are required to pay amounts in excess of our liabilities, our effective tax rate in a given period may be materially affected. An unfavorable tax settlement would require cash payments and may result in an increase in our effective tax rate in the year of resolution. A favorable tax settlement would be recognized as a reduction in our effective tax rate in the year of resolution. We report interest and penalties related to uncertain income tax positions as income taxes.

 

As part of the process of preparing the consolidated financial statements, we are required to estimate the income taxes, which involve estimating the actual current tax together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities. Significant management judgment is required to assess the likelihood that the deferred tax assets will be recovered from future taxable income. We are maintaining a valuation allowance on certain deferred tax assets in certain jurisdictions. In the event it was determined that we could realize the deferred tax assets in the

future in excess of the net recorded amount, an adjustment to the deferred tax asset would increase income in the period such determination was made.

 

Defined benefit plans

 

Effective June 2006, we no longer have any defined benefit plans. See Note 15, Employee Benefit Plans, in the Notes to the Consolidated Financial Statements.

 

Fair value measurements

 

We account for the fair value of assets and liabilities in accordance with Statement of Financial Accounting Standard (“SFAS”) No. 157, “Fair Value Measurements” (“SFAS 157”). We adopted Financial Accounting Standards Board (“FASB”) on January 1, 2008. FAS 157 defines fair value, establishes a framework for measuring fair value as required by other accounting pronouncements.

 

Variable interest entities

 

We account for variable interest entities (“VIE”) in accordance with FASB Interpretation No. 46R. At December 31, 2008, SWTS is a variable interest entity but we are not their primary beneficiary. See Note 4 related to the sale of assets to SWTS.

 

Recent Accounting Pronouncements

 

In April 2008, the Financial Accounting Standards Board (“FASB”) issued FASB Staff Position No. FAS 142-3, “Determination of the Useful Life of Intangible Assets” (“FSP No. FAS 142-3”). FSP No. FAS 142-3 requires companies estimating the useful life of a recognized intangible asset to consider their historical experience in renewing or extending similar arrangements or, in the absence of historical experience, to consider assumptions that market participants would use about renewal or extension. FSP No. FAS 142-3 will be effective for fiscal years beginning after December 15, 2008. We do not expect FSP No. FAS 142-3 to have a material impact on the consolidated financial statements.

 

In May 2008, the FASB issued Statement of Financial Accounting Standards (“SFAS”) No. 162, “The Hierarchy of Generally Accepted Accounting Principles” (“FAS 162”). FAS 162 identifies the sources of accounting principles and the framework for selecting the principles used in the preparation of financial statements that are presented in conformity with generally accepted accounting principles. SFAS No. 162 becomes effective 60 days following the SEC’s approval of the Public Company Accounting Oversight Board amendments to AU Section 411, “The Meaning of Present Fairly in Conformity With Generally Accepted Accounting Principles”. We do not expect FAS 162 to have a material impact on the consolidated financial statements.

 

In May 2008, the FASB issued FASB Staff Position No. APB 14-1 (“FSP No. APB 14-1”), “Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)”. FSP No. APB 14-1 requires that issuers of convertible debt instruments that may be settled in cash upon conversion separately account for the liability and equity components in a manner that will reflect the entity’s nonconvertible debt borrowing rate when interest cost is recognized in subsequent periods. FSP No. APB 14-1 will be effective for fiscal years beginning after December 15, 2008. We do not expect FSP No. APB 14-1 to have a material impact on the consolidated financial statements.

 

In December 2007, the SEC issued Staff Accounting Bulletin (“SAB”) No. 110 Share-Based Payment (“SAB 110”). SAB 110 establishes the continued use of the simplified method for estimating the expected term of equity based compensation. The simplified method was intended to be eliminated for any equity based compensation arrangements granted after December 31, 2007. SAB 110 is being published to help companies that may not have adequate exercise history to estimate expected terms for future grants. The adoption of this pronouncement did not have a material impact on our consolidated financial statements.

 

In December 2007, FASB issued SFAS No. 141 (revised 2007), “Business Combinations” (“FAS 141R”). FAS 141R establishes principles and requirements for how the acquirer in a business combination recognizes and measures in its financial statements the fair value of identifiable assets acquired, the liabilities assumed and any

noncontrolling interest in the acquiree at the acquisition date. FAS 141R determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. FAS No. 141R is effective for fiscal years beginning after December 15, 2008. We do not believe the impact of adopting FAS 141R will have a material impact on our consolidated results of operations and financial condition. We plan to adopt it as required in the first quarter of fiscal 2009.

 

In December 2007, FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements” (“FAS 160”), an amendment of Accounting Research Bulletin No. 51, “Consolidated Financial Statements”. FAS 160 establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. Minority interests will be recharacterized as noncontrolling interests and will be reported as a component of equity separate from the parent’s equity, and purchases or sales of equity interests that do not result in a change in control will be accounted for as equity transactions. In addition, net income attributable to the noncontrolling interest will be included in consolidated net income on the face of the income statement and upon a loss of control, the interest sold, as well as any interest retained, will be recorded at fair value with any gain or loss recognized in earnings. This pronouncement is effective for fiscal years beginning after December 15, 2008. We do not expect FAS 160 to have a material impact on the consolidated financial statements.

 

In February 2007, FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“FAS 159”) which provides the option to report certain financial assets and liabilities at fair value, with the intent to mitigate volatility in financial reporting that can occur when related assets and liabilities are recorded on different bases. We adopted this statement effective January 1, 2008. The adoption of SFAS 159 did not have a material impact on the consolidated financial statements.

 

 

We are exposed to market risk from changes in interest rates, foreign exchange rates, credit risk, and investment risk as follows:

 

Interest Rate Risk

 

We manage the sensitivity of our results of operations to interest rate risk on cash equivalents by maintaining a conservative investment portfolio. The primary objective of our investment activities is to preserve principal without significantly increasing risk. To achieve this objective, we maintain our portfolio of cash equivalents, short-term investments, and long-term investments in money market funds or municipal bonds. Due to changes in interest rates, our future investment income may fall short of expectations. A hypothetical increase or decrease of 10% in market interest rates would not result in a material decrease in interest income earned through maturity on investments held at December 31, 2008. We do not hold or issue derivatives, derivative commodity instruments or other financial instruments for trading purposes.

 

We had no borrowings at December 31, 2008. We repaid our short-term debt in China in April 2008.

 

Foreign Currency Risk

 

We are exposed to currency fluctuations due to our foreign operations and because we sell our products internationally. We manage the sensitivity of our international sales by denominating the majority of transactions in U.S. dollars. If the United States dollar uniformly increased or decreased in strength by 10% relative to the currencies in which our sales were denominated, our net loss would not have changed by a material amount for the year ended December 31, 2008. For purposes of this calculation, we have assumed that the exchange rates would change in the same direction relative to the United States dollar. Our exposure to foreign exchange rate fluctuations, however, arises in part from translation of the financial statements of foreign subsidiaries into U.S. dollars in consolidation. As exchange rates vary, these results, when translated, may vary from expectations and adversely impact overall expected profitability.

Credit Risk

 

The financial instruments that potentially subject us to credit risk consist primarily of trade receivables. For trade receivables, credit risk is the potential for a loss due to a customer not meeting its payment obligations. Our customers are concentrated in the wireless industry. Estimates are used in determining an allowance for amounts which we may not be able to collect, based on current trends, the length of time receivables are past due and historical collection experience. Provisions for and recovery of bad debts are recorded as sales and marketing expense in the consolidated statements of operations. We perform ongoing evaluations of customers’ credit limits and financial condition. Generally, we do not require collateral from customers. As of December 31, 2008 and 2007, one customer accounts receivable balance represented 10% of gross receivables. Our allowances for potential credit losses have historically been adequate compared to actual losses.

 

Investment Risk

 

We recorded in “Short-term investments” and “Long-term investment securities” cash held in the CSCP, a private placement enhanced cash money market mutual fund. The fund was closed to new subscriptions or redemptions in December 2007, resulting in our inability to immediately redeem our investments for cash. The fair value of our investment in this fund as of December 31, 2008 was $8.6 million based on the net asset value of the fund. We classified $4.3 million of the CSCP investment as “Short-term investments” and $4.3 million as “Long-term investment securities”. In the year ended December 31, 2008, we incurred losses of $2.4 million in net asset value from the CSCP marking the underlying assets of the fund to market. The loss was recorded in our income statement as a reduction of “Other Income, Net”. Starting in December 2007 through December 31, 2008, we recorded cumulative losses on our CSCP investment of $2.9 million. We expect the liquidation of the long-term investment portion could take years to complete. Future impairment charges may result until the fund is fully liquidated, depending on market conditions.

 

PCTEL, INC.

 

INDEX TO THE CONSOLIDATED FINANCIAL STATEMENTS

 

 

The Board of Directors and Stockholders

PCTEL, Inc.:

 

We have audited PCTEL, Inc. (a Delaware Corporation) and Subsidiaries (the “Company”) internal control over financial reporting as of December 31, 2008 based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’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 the accompanying Management’s Report on Internal Control Over Financial Reporting appearing under Item 9A. 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, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and 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, PCTEL, Inc. and Subsidiaries’ maintained, in all material respects, effective internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control — Integrated Framework 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 PCTEL, Inc. and Subsidiaries as of December 31, 2008 and 2007 and the related consolidated statements of operations, stockholders’ equity, and cash flows for each of the three years ended and the period ended December 31, 2008 and our report dated March 16, 2009 expressed an unqualified opinion on those financial statements.

 

/s/ GRANT THORNTON, LLP

 

Chicago, Illinois

March 16, 2009

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

To the Board of Directors and Stockholders

PCTEL, Inc.:

 

We have audited the accompanying consolidated balance sheets of PCTEL, Inc. (a Delaware Corporation) and Subsidiaries (“the Company”) as of December 31, 2008 and 2007, and the related consolidated statements of operations, stockholders’ equity, and cash flows for each of the three years ended and the period ended December 31, 2008. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

 

We conducted our audits in accordance with 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 PCTEL, Inc. and Subsidiaries as of December 31, 2008 and 2007 and the results of its operations and its cash flows for each of the three years ended and the period ended December 31, 2008 in conformity with accounting principles generally accepted in the United States of America. As discussed in Footnote 9 to the consolidated financial statements, the Company adopted FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes”, and interpretation of FASB Statement No. 109, on January 1, 2007.

 

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), PCTEL, Inc. and Subsidiaries’ internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) and our report dated March 16, 2009 expressed an unqualified opinion.

 

/s/ GRANT THORNTON LLP

 

Chicago, Illinois

March 16, 2009

PCTEL, INC.

 

CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

 

 

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

PCTEL, INC.

 

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share data)

 

 

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

PCTEL, INC.

 

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(in thousands)

 

 

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

PCTEL, INC.

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)